# Econ 110: Ch. 5 - 6

## Terms

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price elasticity of demand
the ratio of the percent change in the quantity demanded to the percent change in the price as one moves along the demand curve
The midpoint method
replaces the usual definition of the percentage change in a variable:
%âˆ† X = (âˆ† X) Ã· (AVG value X) â€¢ 100, where average value of X is
AVG value X = (Xinitial + Xfinal) Ã· 2
perfectly inelastic
(a) Demand is perfectly inelastic when the quantity demanded does not respond at all to changes in the price. When demand is perfectly inelastic, the demand curve is a vertical line. i.e., shoelaces
perfectly elastic
Demand is perfectly elastic when any price increase will cause the quantity demanded to drop to zero. When demand is perfectly elastic, the demand curve is a horizontal line. i.e., pink tennis balls
elastic vs. inelastic vs. unit-elastic
Demand is elastic if the price elasticity of demand is greater than 1, inelastic if the price elasticity of demand is less than 1, and unit-elastic if the price elasticity of demand is exactly 1
total revenue
The total revenue is the total value of sales of a good or service. It is equal to the price multiplied by the quantity sold.
price effect
The price effect: after a price increase, each unit sold sells at a higher price, which tends to raise revenue;
quantity effect
after a price increase, fewer units are sold, which tends to lower revenue
Factors that determine price elasticity of demand
1) Whether close substitutes are available: price elasticity tends to be higher if there are other goods that they would be willing to consume instead, and low if there are no close substitutes
2) Whether the good is a necessity or a luxury: life-saving medicine vs. diamond rings
3) Time: The long-run price elasticity of demand is often higher than the short-run elasticity
Cross-price elasticity of demand
The cross-price elasticity of demand between two goods measures the effect of the change in one goodâ€™s price on the quantity demanded of the other good. It is equal to the percent change in the quantity demanded of one good divided by he percent change in the other goodâ€™s price
When two goods are substitutes, the cross-price elasticity of demand is
positive
When two goods are complements, cross-price elasticity is
negative
Close substitutes, the cross-price elasticity is both
positive and large
Non-close substitutes, the cross-price elasticity is both
positive and small
If cross-price elasticity is only slightly below zero, they are
weak complements
If cross-price elasticity is very negative, they are
strong complements
The cross-price elasticity sign tells if the goods are
complements or substitutes. It also eliminates the need for units in quantification
The income elasticity of demand is
the percent change in the quantity of a good demanded when a consumerâ€™s income changes divided by the percent change in the consumerâ€™s income
When the income elasticity of demand is positive, the good is a
normal good
When the income elasticity of demand is negative, the good is an inferior good
inferior good
The demand for a good is income-elastic if
the income elasticity of demand for that good is greater than 1.
demand for a good is income-inelastic if
the income elasticity of demand for that good is positive but less than 1
The price elasticity of supply is
a measure of the responsiveness of the quantity of a good supplied to the price of that good. It is the ratio of the percent change in the quantity supplied to the percent change in the price as we move along the supply curve
There is perfectly inelastic supply when
the price elasticity of supply is zero, so that changes in the price of the good have no effect on the quantity supplied. A perfectly inelastic supply curve is a vertical line, i.e. cell phone frequencies.
There is perfectly elastic supply when
even a tiny increase or reduction in the price will lead to very large changes in the quantity supplied, so that the price elasticity of supply is infinite. A perfectly elastic supply curve is a horizontal line, i.e. pizza.
Factors that determine the Price Elasticity of Supply
1) The Availability of Inputs: elasticity tends to be larger when inputs are easily available
2) Time: price elasticity tends to become larger as producers have more time to respond to price changes
When an Excise Tax is Paid Mainly by Consumers, the supply/demand curves are
i.e., gasoline: the demand curve is relatively steep, and the supply curve is relatively flat
When an Excise Tax is Paid Mainly by Producers
i.e., parking in small towns: the demand curve is flatter, while the supply curve is steeper
What determines the incidence of an excise tax?
Elasticityâ€”not who literally pays the taxâ€”determines the incidence of an excise tax

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