NCEA L3 Economics 3.3 Micro-economic Concept 2 (Elasticity of Demand)

Is the degree of responsiveness of quantity demanded to a change in the price of a good/service.

Where a change (increase/decrease) in the price of a good/service causes a more than proportionate change (decrease/increase) in quantity demanded of that good/service. This is always greater than 1

Where a change (increase/decrease) in the price of a good/service causes a less than proportionate change (decrease/increase) in quantity demanded of that good/service. This is always between 0 and 1

Where a change in the price of a good/service causes a proportionate change in quantity demanded of that good/service. This is always 1.

• Plenty of good substitutes
• Often considered luxury goods, eg: fashion, clothes,cars, chocolate, coffee, etc
• High proportion of income spent on this good.
• Durable goods so lasts long.

• Few good substitutes
• Often considered necessities,eg: bread, milk, medical services,salt, or reputed necessities eg: cigarettes as it may be addictive.
• Low proportion of income spent on this good.
• Non-durable/single use goods so gets quickly used up, eg: vegetables.

E_p< 1

Producer should increase price of "name of good" as demand is price inelastic. This means an increase in price of "name of good" will cause a less than proportionate decrease in quantity demanded so total revenue will increase.

Producer should decrease price of "name of good" as demand is price elastic. This means an increase in price of "name of good" will cause a more than proportionate decrease in quantity demanded so total revenue will decrease.

The elasticity of price controls the quantity demanded by consumers. For consumers, "name of good" is demand "in/elastic", ie: Ep "</>" 1. So, if the price, increases, quantity demanded for "name of good" will decrease by less than a proportionate amount than the increase in price. This is because there are no real substitutes for them, it is considered a necessity item, is non-durable as it is quickly used up, low proportion of income is spent on it, etc. This contrasts with say, "name of contrast good" where the Ep is "</>" 1. These are goods with many substitutes, are considered wants/luxuries, high proportions of income is spent on them, etc. So if the price decreases it will increase the quantity demanded by a more than proportionate amount than the decrease in price.

Dosen’t matter if producer increases or decreases price of bus fares because demand is unit elastic. This means any change in the price of bus fares will cause a proportionate change in quantity demanded but total revenue remains unchanged.

Price elasticity of demand affects the price a producer/seller charges for the good and the revenue they earn for that good. With demand for "name of good" being "in/elastic" the producers know that they could "in/decrease" the price. This would increase their total revenue with little effect on quantity demanded (ie: quantity demanded will decrease by a less than proportionate amount). This is because the consumer actually needs the good and there are no real substitutes for it. In contrast, however, for elastic goods like iPhones and chocolate, Ep > 1, demand is price elastic, so if producers need more revenue they must decrease the price. This will increase quantity demanded by a more than proportionate amount than the decrease in price. This will increase total revenue.So the producers will price their goods according to the price elasticity of demand.