Demand and supply: Elasticity and Applications.

 

1. Elasticity of demand

2. Elasticity of supply

 

Elasticity – the sensitivity of consumers to any change.

Types of elasticity:

• price elasticity of demand (ценовая эластичность)

•cross elasticity of demand (перекрестная эластичность)

•income elasticity of demand (эластичность спроса по доходу)

 

Price elasticity of demand

The sensitivity of consumers to a change in the price of a product.

 

Types of price elasticity

• Relatively inelastic or simply elastic
Demand for some products is such that consumers are highly responsive to price changes – modest price changes lead to very large changes in the quantity purchased.

 

The coefficient E(d)

• it`s calculated by dividing the change in price by the original price and the consequent change in quantity demanded by the original quantity demanded.

• E(d)=дельтаQ/Q: дельтаР/P

Or

•E(d)=дельтаQ(%)/дельтаP(%)

E(d) will always be a negative number.

 

Using percentage

• we could obtain a more sensible comparison of consumer sensivity to price changes.

•EX.-

- Price of car $10000

- Price of a bottle of water $1

If we increased the price of both products by 1% - $100 for the car, 1 c for the battle.

 

Interpretation of E(d)

• Elastic demand.

Demand is said to elastic if a specific percentage change in price results in a larger percentage change in quantity demanded then E(d) will be greater than 1.

• Inelastic demand.

Demand is said to inelastic if a specific percentage change in price results in a smaller percentage change in quantity demanded. Then E(d) will be less than 1.

•Unit elasticity.

A percentage change in price and the accompanying change in quantity demanded are equal. Then E(d) is exactly 1.

•Perfectly elastic demand.

In that extreme situation, a small price reduction will cause buyers to increase their purchases from zero to all they can obtain. Perfectly elastic demand is shown by a parallel to the horizontal axis.

E(d)=бесконечность

P

 

Q(p)

•Perfectly inelastic demand.

A price change results in no change whatsoever in the quantity demanded.

E(d)=0

 

 

 

 

Cross elasticity of demand.

It shows

- How the consumption of a good is affected by a change in the price of a related product

- How sensitive consumer purchases of one product (say, X) are to a change in the price of some other product (say, Y)

The coefficient of cross elasticity is E(xy)

E(xy)=дельтаQ(x)/дельтаP(x)

 

Interpretation of E(xy)

If cross elasticity of demand is positive – the quantity demanded of X moves in another direction as a change in the price of Y – then X and Y

•a zero of near-zero cross elasticity suggests that two products are unrelated or indepented good.

 

Income elasticity of demand

It shows how the consumption of a good is affected by a chahge in income.

• the coefficient of income elasticity of demand E(i) is determined with the formula:

E(i)=дельтаQ(%)/дельтаI(%)

Interpretation of E(i)

• inferior goods.

For these goods the income elasticity coefficient is negative, meaning that the consumers decrease their purchases of such products as incomes increase.

• normal goods.

For these goods the income elasticity coefficient is positive.

Price elasticity of supply

• if producers are relatively responsive to price changes, supply is if producers are relatively responsive to price changes, supply is elastic.

• if they are relatively insensitive to price changes, supply is inelastic.

the degree of elasticity is measured with the coefficient E(s):

E(s)=дельтаQ(s)/дельтаP

- Percentage change in quantity supplied of product (say, X)

- Percentage change in price of product

 

• Interpretation of E(s):

- E(s) < 1, supply is inelastic

- E(s) > 1, supply is elastic

- E(s)=1, supply is unit elastic

The main determinant of price elasticity of supply

• is the amount of time available to producers for responding to a change in product price. The longer the time – the greater elasticity of supply.

Consumer behavior and Utility maximization.

 

Utility

- Is want-satisfying power.

• it is satisfaction or pleasure one gets from consuming it.

Characteristic of utility:

• “utility” and “usefulness” are not synonymous. Works of art may be useless functionally.

• utility is subjective. The utility of a specific product will vary widely from person to person.

• utility is difficult to quantify. We assume that people can measure satisfaction with utils – units of utility.

 

Total utility (TU)

• is the total amount of satisfaction or pleasure a person derives from consuming some specific quantity of goods or services.

Marginal utility (MU)

• is the changes in total utility resulting from consumption of one more unit of product.

MU=дельтаTU/дельтаQ

Marginal utility is extra satisfaction a consumer realize from an additional unit of that product.

 

Consumer behavior

• the idea of diminishing marginal utility explains also how consumers allocate…

The typical consumer`s situation has four dimension:

•Rational behavior. Consumers wants to maximize their total utility, trying to use income to derive the great amount of satisfaction – utility - from it.

• Preferences. We assume buyers have a good idea of how much MU they will get from units of various products.

• Budget restraint. At any point in time the consumer has a limited amount of money income. Thus, all consumers face a budget restraint.

• Prices. We assume that the product price are not affected by the amounts of goods which consumer buys.

 

 

12.13.12

Theories of consumer behavior

• the marginal utility theory of consumer

• the indifference curve theory (теория кривой безразличия)

 

The marginal utility theory

• assumers that utility is numerically measurable

• the consumer is assumed to be able to say how much utility he/she derives from each extra unit of product

•the consumer needs this information to realize the utility – maximizing or equilibrium position

• this position (suppose, for goods, a, b, c) is indicated as:

MUa/Pa=MUb/Pb=MUc/Pc

The indifference curve theory

• the equilibrium is based on:

- Budget line

- Indifference curve

 

Budget line

• shows all combinations of any two products which can be purchased, given the prices of the products and the consumer’s money income.

 

Qa

 

 

 

Qb

Indifference curve

•each point represents some combination of products of a and b, these combinations are equally satisfactory to the consumer and yield the same total utility.

Qa

 

 

Qb

The equilibrium

• where the budget line is tangent to indifference curve.

 

Qa

 

x

Qb

The costs of production

Издержки производства

Types of costs

Types of profit

Short-run production relationship

Long – run production relationship

Costs of production

• production costs in economics arise from forgoing the opportunity to produce other goods or services

Types of costs:

• accounting costs (бух.)

• economic costs

 

Accounting costs – explicit costs –

Cash expenditures a firm makes to “outsiders” who supply labor services, materials, fuel, transportation.

Economic costs –

All the costs required to attract and retain resources in a specific line of productin.

- Consist of:

Explicit costs (внешние издржки) бух. Явные

Implicit costs (неявные)

Normal profit

Implicit costs –

• in addition to “out-resources’, a firm may use resources itself owns.

• the costs of such self-owned, self-employed resources are called implicit costs.

• Implicit costs – money payment the self-employed resources could have earned in their best alternative use.

Normal profit –

Payment you could receive for performing entrepreneurial functions.

So normal profit – is an implicit cost.

Accounting profit

• the firm’s total revenue less its explicit costs.

Economic profit

• total revenue less all costs (explicit, implicit, including normal profit)

• economic profit=total revenue-economic costs

• if a firm’s total revenue exceed all its economic costs, any residual to the entrepreneur.

 

Short-run and long –run

• the capacity(производственная мощность) of a manufacturing plant can be varied only over considerable period of time.

• it may take months or years

Short-run: fixed plant.

• a period too brief for a firm to alter its plant capacity

P-60p Q-60

P-100p Q100

P-30p Q-?

 

12.03.12

Q	TU	MU

 

Qb	TUb MUb Qba	TUba MUba
	10 10 10	7 0.7
	18 8 20	13 0.6
	24 6 30	18 0.5
	28 4 40	22 0.4
	31 3 50	25 0.3
	3 2 60	27 0.2

 

Pbeer-10

Pbanana-0.5

Доход потребителя который тратит на бананы и пива – 25.

 

MUa/Pa=MUb/Pb=MUc/Pc

10/10=1 1кружка

0.5/0.5=1 30 бананов

ОТВЕТ: так как у него 25 рублей.

 

8/10=0, 8 2 кружки

0, 4/0, 5=40 бананов

 

6/10=0, 6 3 кружки

0, 3/0, 5=0, 6 50 бананов

 

4/10=0, 4 4пива

0, 2/0, 5=0, 4 60 бананов

 

 

26.03.12

Short – run: fixed plant

• a period too brief for a firm to alter its plant capacity, yet long enough to vary firm` output by applying larger or smaller amounts of labor, materials, any other resources.

• existing capacity can be used more or less intensively to the short – run.

Long – run: variable plant

• period long enough for the firm to adjust the quantities of all resources it employs, including capacity.

Example

• if firm hires 100 extra workers, we are speaking of the short run.

• if it adds a new production facility and installs more equipment, we are referring to the long run.

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