The Concepts of Demand and Elasticity

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• The Concepts of Demand and Elasticity

Assistant Professor Dr. Chanin Yoopetch
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Learning outcomes

• By studying the end of this section students will
  be able to
• evaluate the work/leisure trade-off
• evaluate the notion of a leisure society
• understand and apply the concept of price
  elasticity of demand
• understand and apply the concept of income
  elasticity of demand
• understand and apply the concept of cross price
  elasticity of demand
• describe simple methods of demand forecasting
• evaluate techniques of demand forecasting

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The demand for leisure

• Two potential effects of an increase in income on
  the demand for leisure time
• The substitution effect First, an increase in
  income means an increase in the opportunity cost
  of leisure time. In this case we may expect
  consumers to demand less leisure time.
• The income effect Leisure time can be classed as
  a normal service, and in common with other
  normal goods and services, as income increases
  more will be demanded.

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Elasticity . . .

• is a measure of how much buyers and sellers
  respond to changes in market conditions. . .
• allows us to analyze supply and demand with
  greater precision.

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Elasticity A General Definition

• The percentage () change in something . . .
• . . . given a one percent (1) change in
  something else.

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Three Types of Elasticities. . .
Price

• Price Elasticity of Demand
• Income Elasticity
• Price Elasticity of Supply

Quantity
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Price Elasticity of Demand
Demand
P

• The percentage change in the quantity demanded
  given. . .
• . . . a one percent change in the price.

A
B
Q
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Ranges of Elasticity . . .

• Perfectly Inelastic Consumers are extremely
  unresponsive to price changes.
• Perfectly Elastic Consumers are extremely
  responsive to price changes.
• Unit Elastic Response is equal to change in
  price.

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Elasticity of Demand Illustrated
Perfectly Inelastic
Perfectly Elastic
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Elasticity of Demand Illustrated
At any price above 4, quantity demanded 0
Q
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At any price under 4, quantity demanded infinity
Perfectly Elastic
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Determinants of Price Elasticity of Demand

• Demand tends to be more elastic
• if the good is a luxury
• the longer the time period
• the greater the number of close substitutes and
• the more narrowly defined the market.

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Determinants of Price Elasticity of Demand

• Demand tends to be more inelastic
• if the good is a necessity
• the shorter the adjustment time
• if there are few good substitutes and
• the more broadly defined the market.

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Computing Elasticity Coefficient
Percentage Change in Quantity Demanded
Price Elasticity of Demand

Percentage Change in Price

• Computed as the percentage change in the quantity
  demanded divided by the percentage change in
  price.

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Income Elasticity... Types

• Goods consumers regard as necessities tend to
  be income inelastic...
• Examples include food, fuel, clothing,
  utilities, medical services.

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Price elasticity of demand

• Factors affecting price elasticity of demand
• necessity of good or service
• number of substitutes
• addictiveness
• price and usefulness
• time period
• consumer awareness
• Elasticity of demand and total revenue

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Elasticity and Total Revenue(TR)

• Over the Elastic Range of
• prices and quantity
• the relationship between price and total
  revenue is
• INDIRECT or OPPOSITE

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Elasticity and Total Revenue
ED gt 1 then
P
Q
TR
and
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What if the price declines in different
direction?
3.00
2.00
TR 1 15 (3.00x5)
TR 2 20 (2.00x10)
10
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Elasticity and Total Revenue

• Over the Inelastic Range of prices and quantity
• the relationship between price and total
  revenue is
• DIRECT or THE SAME

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Elasticity and Total Revenue
ED lt 1 then
P
Q
TR
and
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What if the price declines in different
direction?
3.00
2.00
TR 1 15 (3.00x5)
TR 2 12 (2.00x6)
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5
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Income Elasticity of Demand

• The percentage change in the quantity demanded
• given a one percent change in income.
• (Higher income ? higher demand)

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Computing Income Elasticity
Percentage Change in Quantity Demanded
Income Elasticity of Demand

Percentage Change in Income

• Computed as the percentage change in the quantity
  demanded divided by the percentage change in
  Income.

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Income Elasticity... Types

• Goods consumers regard as luxuries tend to be
  income elastic...
• Examples include expensive hotel rooms,
  luxurious spa services, sports cars, furs, and
  expensive foods.

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Demand forecasting

• Methods for forecasting demand (Frechtling, 2001)
  include
• naive forecasting
• Making simple assumptions about the future
  (assume the 3 increase for demand)
• qualitative forecasts
• Ranking the importance of factors affecting
  future trends (no mathematic models)
• time-series extrapolation
• Using a series of data (e.g. monthly data of
  international visitors
• from 1990-2009 to forecast the future arrivals
  of tourists in the next five years.)

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Demand forecasting

• Methods for forecasting demand (Frechtling, 2001)
  include
• Surveys
• Where no time series data exist. Surveys can be
  used by acquiring data from respondents to
  forecast demand.
• Delphi technique
• Using expert opinion to forecast with the aim of
  reaching a consensus among the experts
• Models
• Complex methods involving statistical or
  econometric techniques to construct a
  comprehensive model with economic variables, such
  as interest rates, inflation rates, and growth
  rates.