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## Chapter 17 Elasticity We

Chapter 17 Elasticity We are often interested in how a change in one variable will affect another variable. For example, the law of demand (see Chapter 3) indicates that a change in price will lead to an inverse change in quantity demanded. But how large will the change in quantity demanded be relative to the change in price? The question of how responsive one variable is to changes in another variable is answered by measuring elasticity. Elasticity – a measure of the responsiveness of one variable to changes in another variable. Example 1: Stephanie Student earned a 2.7 grade point average last semester. She would like to do better, so she decides to increase her study time by 50 percent. But how responsive will her grades be to a change in her study time? Perhaps a 50 percent increase in study time will increase her grade point average to 4.0. Or perhaps a 50 percent increase in study time will increase her grade point average only to 2.8. Price Elasticity of Demand (E D ) The law of demand indicates that a change in price will lead to an inverse change in quantity demanded. Price elasticity of demand measures the relative sizes of the changes in quantity demanded and price. The formula for price elasticity of demand is: E D = Percentage Change in Quantity Demanded ÷ Percentage Change in Price Example 2: When Darla increases the price of her donuts by 10%, the quantity demanded decreases by 25%. The price elasticity of demand for this change in price is 2.5 (25% ÷ 10%). Notice in Example 2 that a positive answer was reached even though the percentage change in price was positive and the percentage change in quantity demanded was negative. In computing price elasticity of demand, the common practice is to treat changes as absolute values and arrive at a positive answer. Two Extreme Examples One extreme example is perfectly inelastic demand. When demand is perfectly inelastic, the quantity demanded is unchanged by a change in price. The price elasticity of demand is zero. A good that is essential to the buyer (e.g. insulin to a person with Type 1 diabetes) might have a perfectly inelastic demand curve. Example 3A: The graph below illustrates a perfectly inelastic demand curve. Price \$7 - 6- 5- 4- 3- 2- 1- D 0 0 10 20 30 40 50 60 FOR REVIEW ONLY - NOT FOR DISTRIBUTION Quantity 17 - 1 Elasticity

The second extreme example is perfectly elastic demand. When demand is perfectly elastic, the demand curve is horizontal. This indicates that a seller has no ability to change the selling price. A perfectly competitive firm (Chapter 21) faces a perfectly elastic demand curve for its product. Example 3B: The graph below illustrates a perfectly elastic demand curve. Price \$7 - 6- 5- 4- D 3- 2- 1- 0 0 10 20 30 40 50 60 Computing Price Elasticity of Demand Quantity In computing price elasticity of demand, the percentage change in quantity demanded is calculated by dividing the change in quantity demanded by the average quantity demanded. The percentage change in price is calculated by dividing the change in price by the average price. The formula is expressed below: Change in Quantity Demanded Q 2 – Q 1 Average Quantity Demanded (Q 2 + Q 1 )/2 E D = ——————————————— = ————— Changein Price P 2 – P 1 Average Price (P 2 + P 1 )/2 To illustrate this formula, we will use the following demand schedule and demand curve: Price Quantity Demanded \$7 - \$7 20 6- 6 30 5- 5 4 40 50 Price 4- 3- 3 2 60 70 2- 1- D 1 80 0 0 10 20 30 40 50 60 70 80 FOR REVIEW ONLY - NOT FOR DISTRIBUTION Quantity Elasticity 17 - 2

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PRINCIPLES OF ECONOMICS JEFF HOLT S

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Principles of Economics, 6th Editio

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16. Study Guide for Chapter 7 17. C

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11. Appendix: Book Review - “The

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20. Appendix: The NCAA Cartel 21. S

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Introduction: A Brief History of U.

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In the twentieth century, per capit

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Appendix: The 35 Largest National E

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Multiple Choice: ___ 1. The Jamesto

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2. Describe the economic cost of th

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Chapter 1 Scarcity and Choices The

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Example 5B: At the end of 1982, the

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Example 11: When Cindy quits her jo

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consequences may result in failure

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An upward sloping curve (as in Exam

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In making decisions, humans tend to

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5. ______________________ _________

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___ 13. If the value of one variabl

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Y Point X Y A 0 1 B 3 3 C 6 5 D 9 7

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Chapter 2 Trade and Economic System

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Example 4B: The following quantitie

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1. An increase in the quantity of r

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3. For whom to produce? This is det

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The graph below illustrates the shi

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The two primary economic systems ar

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___ 12. The capitalist vision sees

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___ 25. According to the book “Ca

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Chapter 3 Demand, Supply, and Equil

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. For inferior goods, income and de

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The same information can be placed

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Not only does a free market elimina

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\$7 - 6 - 5 - S 3 S1 S 2 Price 4 - 3

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Example 17: The graph below illustr

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Questions for Chapter 3 Fill-in-the

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___ 12. Assuming a market originall

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\$8 - 7 - 6 - 5 - Price 4 - 3 - 2 -

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Chapter 4 Inflation and Unemploymen

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Computing the Rate of Inflation The

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Full Employment Though unemployment

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3. Cyclical unemployment - due to d

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During the Great Depression, the ec

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Appendix: Think Like an Economist -

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Answer questions 8. and 9. based on

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___ 25. The extension of unemployme

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Chapter 5 Measuring Total Output: G

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5. Leisure. Leisure time is by defi

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The U.S. is a high per capita GDP c

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Example 17: In “An International

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The simple circular flow diagram be

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___ 3. Which of the following would

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2. Explain what nonproduction trans

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Chapter 6 The Aggregate Market The

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Example 2C: Assume the same facts a

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Example 5B: The price of crude oil

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Appendix: Why the Aggregate Demand

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___ 3. DEF Company can invest in ne

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2. List and explain the two factors

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Chapter 7 Classical Economic Theory

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Notice that the investment demand c

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Long-Run Equilibrium If Real GDP is

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Example 6B: When the economy is in

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Laissez-faire If the economy is sel

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___ 5. According to Say’s Law: a.

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3. On the graph below, draw an aggr

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Chapter 8 Keynesian Economic Theory

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Example 2B: The graph below illustr

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Example 5: Assume that the table be

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Notice on the graph on the previous

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According to Keynesian theory, a ch

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“The General Theory” also inclu

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___ 8. If the consumption function

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3. If the MPC is .667, and investme

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Chapter 9 Fiscal Policy The basic e

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Keynesian Fiscal Policy Theory and

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Example 5A: The federal government

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The Laffer Curve What will happen t

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Appendix: The Importance of Incenti

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___ 4. A decrease in government exp

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2. Explain what automatic stabilize

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Chapter 10 Money, Money Creation, a

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Example 4B: The castaways on Gillig

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Looking at the balance sheet below,

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Demand-side One-shot Inflation Exam

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4. Inflation increases uncertainty

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life; it came into existence not by

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calculated by using the potential d

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___ 12. If the required-reserve rat

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4. Referring to the balance sheet f

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Chapter 11 The Federal Reserve Syst

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5. After Bank X sells the \$300,000

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Low Mortgage Interest Rates Mortgag

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Relaxed Standards for Mortgage Loan

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The Bursting of the Housing Bubble

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On February 17, 2009, the federal g

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Fed policies caused short-term inte

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___ 10. The Fed’s most important

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___ 25. In response to the recessio

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Chapter 12 Monetary Policy The basi

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2. A change in aggregate demand (AD

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Monetarist Transmission Mechanism C

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3. Borrowers do not have to seek ou

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Appendix: Book Review - “The Age

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Questions for Chapter 12 Fill-in-th

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___ 16. The primary source of incom

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7. According to Alan Greenspan, wha

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Chapter 13 Taxes, Deficits, and the

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Example 5: In 2015, Taxpayer A had

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of \$5 and a quantity of 10 units. T

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The complexity of the tax law also

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the current government spending and

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cut of 1964. The top rate was lower

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___ 6. Federal excise taxes: a. are

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3. How would eliminating the loopho

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Chapter 14 Economic Growth The basi

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• Page 246 and 247: Chapter 15 Less Developed Countries
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• Page 252 and 253: c. Restrictions on international tr
• Page 254 and 255: Appendix: Book Review - “The Powe
• Page 256 and 257: Example 25: In Brazil, about half t
• Page 258 and 259: Study Guide for Chapter 15 Chapter
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• Page 268 and 269: Example 6: The graph below illustra
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• Page 308 and 309: The diamond-water paradox is the ob
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In Example 5B, Birdwell finds that

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variable cost initially decreases,

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Quantity TC MC AFC AVC ATC 0 240 X

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If the scale of operation is increa

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average total cost. Average fixed c

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___ 11. Concerning the cost curves:

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5. Complete the following cost tabl

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Chapter 21 Perfect Competition The

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Even though a perfect competitor ca

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Example 6C: This example builds on

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At what price will there be neither

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Appendix: Perfect Competition in th

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Multiple Choice: ___ 1. A perfect c

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___ 17. Perfect competition: a. req

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Chapter 22 Monopoly Of the four mar

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3. Exclusive ownership of an essent

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maximizing quantity (4 units) creat

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\$22 - 20 - 18 - 16 - 14 - Deadweigh

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2. Negotiating, beginning at a high

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Legal barriers are created by gover

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___ 8. The slope of the demand curv

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Price Quantity 3. List some of the

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Chapter 23 Monopolistic Competition

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For Percomp (the perfect competitor

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Example 7A: The graph below represe

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Example 9: The Organization of the

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Example 12 illustrates the dilemma

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its current price and quantity. The

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___ 14. Game theory: a. is a method

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Chapter 24 Factor Markets The basic

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\$ \$240 - 200 - 160 - 120 - 80 - 40

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Since producers will attempt to equ

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2. Differences in nonmoney aspects

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were his strikeouts, walks, and hom

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___ 3. To maximize profits, a produ

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___ 19. According to the book, “M

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Multiple Choice: 1. a. 8. c. 15. d.

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Chapter 25 Labor Unions The primary

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The elasticity of demand for union

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Example 4A: Assume that the graph b

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Notice from the graph in Example 6

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Wage Factory A Quantity of Labor S

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As a cartel, a labor union faces a

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___ 10. For a monopsony: a. there i

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3. The graph below represents a lab

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Chapter 26 Interest, Present Value,

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An increase in expected rates of re

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An asset is valuable because we exp

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Example 13B: General Ordnance prove

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Appendix: Present Value Table One f

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___ 4. An increase in expected rate

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Problems: 1. List and explain the t

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Chapter 27 Market Failure The basic

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External Benefit If a market genera

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Example 2: To encourage the consump

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\$100 - 90 - 80 - MSC 70 - \$ 60 - 50

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A common good is nonexcludable. Non

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Study Guide for Chapter 27 Chapter

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___ 5. What government policy would

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4. Based on the information on the

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Chapter 28 Public Choice and Govern

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Candidates and the Median Voter Mod

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Example 8: According to State and F

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Example 10: When Elvis Presley was

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4. Pessimistic bias. This is the te

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___ 5. An elected official will: a.

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2. If a certain policy will yield s

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Chapter 29 Government Regulation of

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underproduction is the amount that

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market. They may agree with their c

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Questions for Chapter 29 Fill-in-th

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___ 10. The public interest theory

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4. List the four types of costs imp

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Chapter 30 Agriculture and Health C

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weather may cause bumper crops. Bad

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Security and Rural Investment Act o

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Example 12: From 1960 to 2013, the

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1. NHI would provide universal heal

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d. Insurance providers are not allo

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Study Guide for Chapter 30 Chapter

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Answer questions 7. through 10. by

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___ 21. If there were no individual

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Chapter 31 Income Distribution and

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Income is more equally distributed

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over a typical career is the accumu

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Ideal Income Redistribution The ide

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Poverty - a family whose income fal

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Appendix: Income Inequality around

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How is this story an analogy for th

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___ 2. In 2013, the Lowest Income 6

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Problems: 1. Explain the two primar

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Absolute advantage - when one natio

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Fiat money - money by government de

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Nonrivalrous good - a good for whic

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“Company town”, 25-6 Comparativ

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Eli Lilly and Company, 22-1 Emergen

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Houston, Texas, 15-10 Human capital

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Market, 3-1, 3-8-9 Market basket, 4

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Political bias, 9-4, 12-7 Political

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Short run production, 20-2-3 Short-

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Upturns, 9-4 USDA, 27-9, 30-1-2, 30

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