Demand Elasticity

•Work on the ½ sheet of problems at door.

•Have out HW & Test Corrections to be collected.

Warm Up Problems

1. P1 $100 P2 $125

2. Q1 10 Q2 8

3. P1 $64 P2 $32

4. P1 $80 P2

$120

5. Q1 50 Q2 150

6. Q1 16 Q2 20

Answer: +25%

Answer: -20%

Answer: -50%

Answer: +50%

Answer: +200%

Answer: +25%

Warm Up Problems

Point Price Q.D.

1 $12 6

2 $8 9

Point Price Q.D.

1 $60 100

2 $80 90

Answer: Price decreases 33%

Quantity increases 50%

%ΔQD > %ΔP = Elastic

Ed = 1.5

Answer: Price increases 33%

Quantity decreases 10%

%ΔP > %ΔQD = Inelastic

Ed = 0.30

Elasticity and Total Revenue

• We have seen that OPEC increased its revenues in the 1970s by restricting supply and pushing up the market price of crude oil. We also argued that a similar strategy by OBEC would probably fail. Why?

Total Revenue

• We can now use the more formal definition of elasticity to make more precise our argument of why OPEC would succeed and OBEC would fail. In any market, P × Q is total revenue (TR) received by producers:

• TOTAL REVENUE = PRICE × QUANTITY• TR = P × Q• Because total revenue is the product of P and Q,

whether TR rises or falls in response to a price increase depends on which is bigger (the percentage increase in price or the percentage decrease in quantity demanded).

Testing Total Revenue

P Q TR

1 $5 10

2 $2.50 40

%∆ ↓50% ↑300%

$50

$100

%ΔQD > %ΔP = Elastic;

Decreasing Price will = Increase TR

× =

Testing Total Revenue

P Q TR

1 $200 150

2 $450 75

%∆ ↑125% ↓50%

$30,000

$33,750

%ΔP > %ΔQD = Inelastic;

Increasing Price will = Increase TR

Testing Total Revenue

P Q TR

1 $12 36

2 $15 24

%∆ ↑25% ↓33%

$432

$360

%ΔQD > %ΔP = Elastic;

Increasing Price will = Decrease TR

Testing Total Revenue

P Q TR

1 $36 40

2 $24 50

%∆ ↓33% ↑25%

$1440

$1200

%ΔP > %ΔQD = Inelastic;

Decreasing Price will = Decrease TR

Total Revenue RulesEffect of Price on

QuantityType of

ElasticityChange in

Total Revenue

P × Q

P × Q

P × Q

P × Q

Inelastic TR ↑

Inelastic TR ↓

Elastic TR ↑

Elastic TR ↓