Professional Documents
Culture Documents
Premium CH 5 Elasticity and Its Application
Premium CH 5 Elasticity and Its Application
N. GREGORY MANKIW
PRINCIPLES OF
ECONOMICS
Eight Edition
A scenario:
• You design websites for local businesses.
– You charge $200 per website, and currently sell
12 websites per month.
• Your costs are rising (including the
opportunity cost of your time)
– You consider raising the price to $250.
• The law of demand: you won’t sell as many
websites if you raise your price.
– How many fewer websites?
– How much will your revenue fall, or might it
increase?
© 2018 Cengage Learning®. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part, except for use
as permitted in a license distributed with a certain product or service or otherwise on a password-protected website or school-approved learning 3
management system for classroom use.
1
10/19/2021
© 2018 Cengage Learning®. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part, except for use
as permitted in a license distributed with a certain product or service or otherwise on a password-protected website or school-approved learning 4
management system for classroom use.
2
10/19/2021
© 2018 Cengage Learning®. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part, except for use
as permitted in a license distributed with a certain product or service or otherwise on a password-protected website or school-approved learning 7
management system for classroom use.
© 2018 Cengage Learning®. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part, except for use
as permitted in a license distributed with a certain product or service or otherwise on a password-protected website or school-approved learning 9
management system for classroom use.
3
10/19/2021
10
11
12
4
10/19/2021
13
14
15
5
10/19/2021
© 2018 Cengage Learning®. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part, except for use
as permitted in a license distributed with a certain product or service or otherwise on a password-protected website or school-approved learning 16
management system for classroom use.
16
17
P
D D curve
Vertical
P1
P2 Consumers’ price
sensitivity:
P falls
None
Q
by 10% Q1
Q changes
Elasticity:
by 0% 0
© 2018 Cengage Learning®. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part, except for use
as permitted in a license distributed with a certain product or service or otherwise on a password-protected website or school-approved learning 18
management system for classroom use.
18
6
10/19/2021
Inelastic demand
P2 Consumers’ price
D sensitivity:
P falls Q relatively low
by 10% Q1 Q2
19
P D curve
intermediate slope
P1
Consumers’ price
P2 sensitivity:
D
intermediate
P falls Q
by 10% Q1 Q2 Elasticity:
Q rises =1
by 10%
© 2018 Cengage Learning®. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part, except for use
as permitted in a license distributed with a certain product or service or otherwise on a password-protected website or school-approved learning 20
management system for classroom use.
20
Elastic demand
P2 D Consumers’ price
sensitivity:
P falls Q relatively high
by 10% Q1 Q2
Q rises more Elasticity:
than 10% >1
© 2018 Cengage Learning®. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part, except for use
as permitted in a license distributed with a certain product or service or otherwise on a password-protected website or school-approved learning 21
management system for classroom use.
21
7
10/19/2021
22
© 2018 Cengage Learning®. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part, except for use
as permitted in a license distributed with a certain product or service or otherwise on a password-protected website or school-approved learning 23
management system for classroom use.
23
P The slope of a
200% linear demand
$30 E = = 5.0
40% curve is constant,
67% but its elasticity
20 E = = 1.0 is not.
67%
40%
10 E = = 0.2
200%
$0 Q
0 20 40 60
© 2018 Cengage Learning®. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part, except for use
as permitted in a license distributed with a certain product or service or otherwise on a password-protected website or school-approved learning 24
management system for classroom use.
24
8
10/19/2021
© 2018 Cengage Learning®. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part, except for use
as permitted in a license distributed with a certain product or service or otherwise on a password-protected website or school-approved learning 25
management system for classroom use.
25
26
When D is elastic,
Q a price increase
8 12
causes revenue to fall.
© 2018 Cengage Learning®. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part, except for use
as permitted in a license distributed with a certain product or service or otherwise on a password-protected website or school-approved learning 27
management system for classroom use.
27
9
10/19/2021
© 2018 Cengage Learning®. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part, except for use
as permitted in a license distributed with a certain product or service or otherwise on a password-protected website or school-approved learning 28
management system for classroom use.
28
© 2018 Cengage Learning®. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part, except for use
as permitted in a license distributed with a certain product or service or otherwise on a password-protected website or school-approved learning 29
management system for classroom use.
29
• Expenditure = P x Q
• Since demand is inelastic, Q will fall less
than 10%, so expenditure rises.
© 2018 Cengage Learning®. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part, except for use
as permitted in a license distributed with a certain product or service or otherwise on a password-protected website or school-approved learning 30
management system for classroom use.
30
10
10/19/2021
31
© 2018 Cengage Learning®. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part, except for use
as permitted in a license distributed with a certain product or service or otherwise on a password-protected website or school-approved learning 32
management system for classroom use.
32
Policy 1: Interdiction
Interdiction new value of drug-
reduces the Price of related crime
S2
supply of drugs. Drugs D1
S1
Demand for drugs is P2
inelastic: P rises
proportionally more P1 initial value
than Q falls. of drug-
related
crime
Result: an increase in
total spending on Q2 Q1 Quantity
drugs, and in drug- of Drugs
related crime
© 2018 Cengage Learning®. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part, except for use
as permitted in a license distributed with a certain product or service or otherwise on a password-protected website or school-approved learning 33
management system for classroom use.
33
11
10/19/2021
© 2018 Cengage Learning®. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part, except for use
as permitted in a license distributed with a certain product or service or otherwise on a password-protected website or school-approved learning 34
management system for classroom use.
34
Policy 2: Education
Education new value of drug-
reduces the Price of related crime
demand for drugs. Drugs
D2 D1
S
P and Q fall.
© 2018 Cengage Learning®. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part, except for use
as permitted in a license distributed with a certain product or service or otherwise on a password-protected website or school-approved learning 35
management system for classroom use.
35
© 2018 Cengage Learning®. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part, except for use
as permitted in a license distributed with a certain product or service or otherwise on a password-protected website or school-approved learning 36
management system for classroom use.
36
12
10/19/2021
P
S
P rises P2
by 8% P
1
37
© 2018 Cengage Learning®. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part, except for use
as permitted in a license distributed with a certain product or service or otherwise on a password-protected website or school-approved learning 38
management system for classroom use.
38
39
13
10/19/2021
Sellers’ price P
P rises 2
sensitivity: by 10% P
1
none
Q
Elasticity: Q1
0 Q changes
by 0%
© 2018 Cengage Learning®. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part, except for use
as permitted in a license distributed with a certain product or service or otherwise on a password-protected website or school-approved learning 40
management system for classroom use.
40
Inelastic supply
Sellers’ price P2
P rises
sensitivity: by 10% P
1
relatively low
Elasticity: Q
Q1 Q2
<1 Q rises less
than 10%
© 2018 Cengage Learning®. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part, except for use
as permitted in a license distributed with a certain product or service or otherwise on a password-protected website or school-approved learning 41
management system for classroom use.
41
Elasticity: P rises
by 10% Q
=1 Q1 Q2
Q rises
by 10%
© 2018 Cengage Learning®. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part, except for use
as permitted in a license distributed with a certain product or service or otherwise on a password-protected website or school-approved learning 42
management system for classroom use.
42
14
10/19/2021
Elastic supply
43
Sellers’ price P2 = P1 S
sensitivity: P changes
extreme by 0%
Elasticity: Q
Q1 Q2
infinity Q changes
by any %
© 2018 Cengage Learning®. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part, except for use
as permitted in a license distributed with a certain product or service or otherwise on a password-protected website or school-approved learning 44
management system for classroom use.
44
© 2018 Cengage Learning®. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part, except for use
as permitted in a license distributed with a certain product or service or otherwise on a password-protected website or school-approved learning 45
management system for classroom use.
45
15
10/19/2021
Active Learning 3
Elasticity and changes in equilibrium
The supply of beachfront property is inelastic.
The supply of new cars is elastic.
Suppose population growth causes demand
for both goods to double (at each price, Qd
doubles).
© 2018 Cengage Learning®. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part, except for use
as permitted in a license distributed with a certain product or service or otherwise on a password-protected website or school-approved learning 46
management system for classroom use.
46
Q
Q1 Q2
© 2018 Cengage Learning®. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part, except for use
as permitted in a license distributed with a certain product or service or otherwise on a password-protected website or school-approved learning 47
management system for classroom use.
47
Q
Q1 Q2
© 2018 Cengage Learning®. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part, except for use
as permitted in a license distributed with a certain product or service or otherwise on a password-protected website or school-approved learning 48
management system for classroom use.
48
16
10/19/2021
© 2018 Cengage Learning®. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part, except for use
as permitted in a license distributed with a certain product or service or otherwise on a password-protected website or school-approved learning 49
management system for classroom use.
49
© 2018 Cengage Learning®. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part, except for use
as permitted in a license distributed with a certain product or service or otherwise on a password-protected website or school-approved learning 50
management system for classroom use.
50
© 2018 Cengage Learning®. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part, except for use
as permitted in a license distributed with a certain product or service or otherwise on a password-protected website or school-approved learning 51
management system for classroom use.
51
17
10/19/2021
Applications
• Can Good News for Farming Be Bad
News for Farmers?
– New hybrid of wheat – increase
production per acre 20%
• Supply curve shifts to the right
• Higher quantity and lower price
• Demand is inelastic: total revenue falls
– Paradox of public policy: induce farmers
not to plant crops
© 2018 Cengage Learning®. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part, except for use
as permitted in a license distributed with a certain product or service or otherwise on a password-protected website or school-approved learning 52
management system for classroom use.
52
S2
2. … leads
to a large fall $3
3. … and a proportionately
in price. . . 2 smaller increase in quantity
sold. As a result, revenue falls
from $300 to $220.
Demand
0 100 110 Quantity of Wheat
© 2018 Cengage Learning®. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part, except for use
as permitted in a license distributed with a certain product or service or otherwise on a password-protected website or school-approved learning 53
management system for classroom use.
53
Applications
• Why Did OPEC Fail to Keep the Price of
Oil High?
– Increase in prices 1973-1974, 1971-1981
– Short-run: supply and demand are
inelastic
• Decrease in supply: large increase in price
– Long-run: supply and demand are elastic
• Decrease in supply: small increase in price
© 2018 Cengage Learning®. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part, except for use
as permitted in a license distributed with a certain product or service or otherwise on a password-protected website or school-approved learning 54
management system for classroom use.
54
18
10/19/2021
(a) The Oil Market in the Short Run (b) The Oil Market in the Long Run
1. In the short run, when supply and 1. In the long run, when supply
demand are inelastic, a shift in supply. . . Price and demand are elastic, a shift
Price in supply. . .
S2 2. … leads
S1 to a small
S2 S1
P2 increase in
price
2. … leads
to a large P2
P1 P1
increase in
price
Demand Demand
0 Quantity 0 Quantity
© 2018 Cengage Learning®. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part, except for use
as permitted in a license distributed with a certain product or service or otherwise on a password-protected website or school-approved learning 55
management system for classroom use.
55
Summary
• Elasticity measures the responsiveness of
Qd or Qs to one of its determinants.
• Price elasticity of demand equals percentage
change in Qd divided by percentage change in
P.
When it’s less than one, demand is “inelastic.”
When greater than one, demand is “elastic.”
• When demand is inelastic, total revenue rises
when price rises. When demand is elastic, total
revenue falls when price rises.
© 2018 Cengage Learning®. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part, except for use
as permitted in a license distributed with a certain product or service or otherwise on a password-protected website or school-approved learning 56
management system for classroom use.
56
Summary
• Demand is less elastic in the short run,
for necessities, for broadly defined goods,
and for goods with few close substitutes.
• Price elasticity of supply equals percentage
change in Qs divided by percentage change in
P.
When it’s less than one, supply is “inelastic.”
When greater than one, supply is “elastic.”
• Price elasticity of supply is greater in the long
run than in the short run.
© 2018 Cengage Learning®. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part, except for use
as permitted in a license distributed with a certain product or service or otherwise on a password-protected website or school-approved learning 57
management system for classroom use.
57
19
10/19/2021
Summary
• The income elasticity of demand measures how
much quantity demanded responds to changes
in buyers’ incomes.
• The cross-price elasticity of demand measures
how much demand for one good responds to
changes in the price of another good.
• The tools of supply and demand can be applied
in many different kinds of markets. This chapter
uses them to analyze the market for wheat, the
market for oil, and the market for illegal drugs.
© 2018 Cengage Learning®. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part, except for use
as permitted in a license distributed with a certain product or service or otherwise on a password-protected website or school-approved learning 58
management system for classroom use.
58
20