# Economics CFA

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1. Price elasticity of demand
• a units-free measure of the responsiveness of the quantity demanded of a good to a change in its price when all other influences on buyers' plans remain the same
• Price elasticity of demand = % change in quantity demanded / % change in price ... use absolute value so ignore the minus sign
• % change in quantity demanded = (Orginal quant. - New quant.) / average of old and new quant.
• % change in price = (Orginal price - New Price) / average of old and new price
2. Elasticity is a units-free measure because
the % change in each variable is independent of the units in which the variable is measured. The ratio of the 2 %s is a # without units.
3. Perfectly inelastic demand
• Quantity demanded is constant regardless of the price changes. The price elasticity of demand is 0.
• ex of good: low price elasticity of demand = insulin.
4. Unit elastic demand
if the % change in the quantity demanded equals the % change in price, then price elasticity = 1 and the good is said to have a unit elastic demand.
5. Inelastic demand
% change in the quantity demanded is less than the percentage change in price (price elasticity is between 0 and 1)
6. perfect elastic demand
• if the quantity demanded changes by an infinitely large % in response to a tiny price change, then the price elasticity of demand is infinity
• ex: soft drink machine located side by side
7. elestic demand
if % change in quantity demanded exceeds % change in price, the price elasticity of demand is greater than 1 and the good is said to have an elastic demand.
8. The change in total revenue depends on the elasticity of demand in the following ways:
• - If demand is elastic: 1% price cut increases quantity sold by more than 1% & total rev. increase
• - If demand is inelastic: 1% price cut increases quantity sold by less than 1% & total rev. decrease
• - If demand is unit elastic: 1% price cut increases quantity sold by 1% & total rev. doesn't change
9. total revenue test
• is a method of estimating the price elasticity of demand by observing the change in total rev. that results from a change in the price, when all other influences on the quantitiy sold remain same
• - price cut ^ total rev. demand = elastic
• - price cut decrease total rev. demand = inelastic
• - price cut leave total rev. unchange, demand = unit elastic
10. magnitude of the elasticity of demand depends on
• - the closness of substitutes
• - the proportion of income spent on the good = higher % of income a good cost the more elastic the demand
• - the time elapsed since a price change = the more time that has passed the more elastic the demand
11. Cross Elasticity of Demand
• Measures the influence of a change in price of a subsitute or complement.
• Measure of the responsiveness of the demand for a good to a change in the rpice of a substitute or complement, other things remainig same
• - cross elasticity of demand = % change in quantity demanded / % change in price of a substitute or complement
• - positive for a substitute and negative for a complement
• - the larger the cross elasticity of demand the greater the change in demand and the larger the shift in the demand curve
• - if two items are not related then the cross elasticity is 0.
12. Income Elasticity of Demand
• Responsiveness of the demand for a good or service to a change in income, other things remaining the same.
• - income elasticity of demand = % change in quantity demanded / % change in income
• - Greater than 1 (normal good, income elastic) = as income ^, % of income spent on good ^
• - Positive and less than 1 ( normal good, income inelastic) = as income ^, % of income spent on good decreases
• - Negative (inferior good) = as income ^, % of income spent on good decreases
13. Elasticity of Supply
• Measures the responsiveness of the quantity supplied to a change in the price of a good when all the other influences on selling plans remain the same
• - Elasticity of supply = % change in quantity supplied / % change in price
• - No matter how steep the supply curve is , if it is linear and pases through the origin, supply is unit elastic
14. Magnitude of the elasticity of supply depends on
• - Resource substitution possibilities = when good is produced in many countires or can be obtained easily then it is highly elastic.
• - Time frame for the supply decision > momentary supply (response of quantitiy supplied immediately following price change)
• > long-run supply (response of quantitiy supplied to a change in price after all the technologically possible ways of adjusting supply have been exploited)
• > short-run supply (the quantity supplied responds to a price change when only some of the technologically possible adjustments to production have been made) producers can control quantitiy supplied quickly
 Author: brundhak ID: 32771 Card Set: Economics CFA Updated: 2010-09-05 00:22:54 Tags: Econ Folders: Description: Reading 13 - Elasticity Show Answers: