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1. QIISS4Long Exam I Reviewer Ferdinand B. Sta. Ana Jr. (IV – Electron)

2. Elasticity

3. Elasticity (η) Responsiveness of quantity to changes in certain factors Demand Price Elasticity of Demand (PεD) Income Elasticity of Demand (IεD) Cross-price Elasticity of Demand (CPεD) Supply Price Elasticity of Supply (PεS)

4. Degrees of Elasticity Unit elastic Change in a certain factor is equal to change in price of g00d ↑1% Price -> =↓1% Quantity demanded (for PεD) Elasticity = 1 Elastic Quantity demanded/supplied of a good reacts substantially to change in factor ↑1% Price -> >↓1% Quantity demanded (for PεD) 1 < Elasticity < +∞ Inelastic Quantity demanded/supplied of a good only responds slightly to change in factor ↑1% Price -> <↓1% Quantity demanded (for PεD) 0 < Elasticity < 1

5. Price Elasticity of Demand (PεD) Responsiveness of QDx to ΔPDx = %Δ𝑄𝐷𝑥%Δ𝑃𝐷𝑥= 𝑄𝐷𝑥𝑓𝑖𝑛𝑎𝑙 − 𝑄𝐷𝑥𝑖𝑛𝑖𝑡𝑖𝑎𝑙𝑄𝐷𝑥𝑖𝑛𝑖𝑡𝑖𝑎𝑙+ 𝑄𝐷𝑥𝑓𝑖𝑛𝑎𝑙2𝑃𝑥𝑓𝑖𝑛𝑎𝑙 − 𝑃𝑥𝑖𝑛𝑖𝑡𝑖𝑎𝑙𝑃𝑥𝑖𝑛𝑖𝑡𝑖𝑎𝑙+ 𝑃𝑥𝑓𝑖𝑛𝑎𝑙2=Δ𝑄𝐷𝑥Δ𝑃𝑥Σ𝑃𝑥Σ𝑄𝐷𝑥 Always negative so take the absolute value

7. Elasticity ≠ Slope

8. However……There are cases when slope = elasticity Perfectly Elastic: PεDx= ∞ m = ∞ (in math terms, it is undefined) Perfectly Inelastic: PεDx = 0 m = 0

9. Income Elasticity of Demand (I εD) Responsiveness of Dxto ΔI = %Δ𝐷𝑥%Δ𝐼 = Δ𝐷𝑥Δ𝐼Σ𝐼Σ𝐷𝑥 Interpreting the Income Elasticity of Demand: IεD < 0 (negative) – good is an inferior good IεD > 0 (positive) – good is a normal good If > 1 – good is a superior good If between 0 and 1, good is a necessity/relatively inelastic

10. Cross Price Elasticity of Demand (CPεD) Responsiveness of Dx to ΔPy = %Δ𝐷𝑥%Δ𝑃𝑦 = Δ𝐷𝑥Δ𝑃𝑦Σ𝑃𝑦Σ𝐷𝑥 Interpreting the Cross Price Elasticity of Demand: If CPεD > 0  x and y are substitute goods If CPεD< 0  x and y are complements If CPεD= 0  x and y are independent goods

11. Price Elasticity of Supply (Pεs) Responsiveness of Qsx to ΔPx = %Δ𝑄𝑆𝑥%Δ𝑃𝑥 = Δ𝑄𝑆𝑥Δ𝑃𝑥Σ𝑃𝑥Σ𝑄𝑆𝑥 Interpretation of Price Elasticity of Supply: If PεS = 0  supply is perfectly inelastic If 0 < PεS < 1  supply is relatively inelastic If PεS = 1  supply is unit elastic If 1 < PεS < +∞  supply is relatively elastic If PεS = ∞  supply is perfectly elastic

12. Determinants of Elasticity Type of good: Necessity – relatively inelastic (needed) Luxury – relatively elastic (not needed; luxury ≠ prestige) Availability of substitutes ↑substitutes  ↑elasticity (elastic) ↓substitutes  ↓elasticity (inelastic) Price as a percentage of income/Amount of disposable income on a good The lower the share of the price on the income, the more price-insensitive (inelastic) the buyer is. (e.g. candies) The higher the share of the price on the income, the more price-sensitive (elastic) the buyers is. (e.g. airfare, house and lot or automobile)

13. Determinants of Elasticity Time frame Longer time frame – elastic Shorter time frame – inelastic Has something to do with the response of buyer given a period of time. The more time the buyer has, the more time the buyer can think/look for better deals. (e.g. transportation) Unique value Loyalty, sentimental value  buyers tend to be price-insensitive (inelastic) By virtue of branding

14. Tax Incidence

15. Tax mainly used by the government to raise revenues (not limited to this) Affects the cost of production of goods  taxes directly affect the supply In graphical terms, causes a shift of the supply curve to the left It can also discourage market activity. (When a good is taxed, quantity of good sold is smaller in the new equilibrium) The buyer and seller share the burden of tax

16. Who has the heavier burden? This is where elasticity comes in. Analyze the ff. graphs: Demand and Supply have equal elasticity

17. Compare and contrast Elasticity: Supply > Demand Elasticity: Supply < Demand Remember: taxes cause a shift of the supply curve, not movement. Forgive me because the graphs I found didn’t have a new supply curve. Just imagine a line passing through the point on the demand curve (blue line) and is parallel to the supply curve (red line) Red bracket: per unit producer tax burden Blue bracket: per unit consumer tax burden

18. Compare and contrast Burden is solely shouldered by consumers Burden is solely shouldered by producers Perfectly Elastic Supply Perfectly Elastic Demand

19. Conclusion If demand is relatively inelastic, heavier tax burden for consumers If demand is relatively elastic, heavier tax burden for producers

20. Other notes Remember that the government will profit more from taxing inelastic goods But, inelastic goods are usually necessities, and taxing inelastic goods will contradict the equity function of the government So, the gov’t taxes the elastic goods that it wants to lower transactions of. Sin taxes – taxes on generally socially unwanted goods. Taxes on imports – taxes levied on imports to promote local products

21. References Samuelson, P. A. & Nordhaus, W. D. (2004). Economics, 18th ed. USA: Mc-Graw Hill, Inc. Mankiw, N. G. (2009). Principle of microeconomics, 5th ed. Mason, OH: South-Western Cengage Learning Depken, C. A. (2006). Microeconomicsdemystified. USA: Mc-Graw Hill, Inc. Notes from the lecture of Vladimir S. Lopez

22. End of Reviewer -fbsaj2011