ECON1210

Tutorial 5 – Elasticity and its

Applications
Teaching assistant: Louise LIU
 Roadmap

1. Key concept recall •

•
Introduction to Elasticities
Determinants of Elasticities of Demand and Supply
• Types of Elasticity of Demand
• Quick Prediction Formulas

2. Example questions 4 example questions, 5 past paper exam questions

3. Attendance exercises
 Key concept recall: Introduction to Elasticities

Elasticity of demand/supply:
• measuring how responsive the quantity demanded / supplied is to a change in price

• Elasticity of demand: negative value

• Elasticity of supply: positive value

 Key concept recall: Introduction to Elasticities

Elastic: |elasticity|>1
• A demand / supply curve is elastic when

% change in quantity > % change in price

Inelastic
Inelastic: 0< |elasticity| <1 Inelastic
demand
supply

• A demand / supply curve is inelastic

when % change in quantity < % change in
price
 Key concept recall: Introduction to Elasticities

• Perfectly elastic: |elasticity|=infinity • Perfectly inelastic: |elasticity|=0

• Quantity changes substantially even with • No matter how price changes, change
minimal price change in quantity is 0
• Horizontal supply/demand • Vertical supply/demand
 Key concept recall: Introduction to Elasticities

• unitary elastic demand: elasticity=-1 • unitary elastic supply: elasticity= 1

• Increase in price will lead to same • increase in price will lead to same
percentage increase in quantity
percentage decrease in quantity demanded
supplied
• Total expenditure is fixed (P×Q = Constant)
• Straight line that passes origin
 Key concept recall: two special cases

Constant elasticity of -k: PkQ=constant Demand in log form: lnQ = -k lnP + c

Price elasticity equals -k at any (p,q) pair. Price elasticity equals -k at any (p,q) pair.
Key concept recall: elasticity of demand along a linear demand

Demand becomes more inelastic as quantity increases.

(Revenue-maximizing point)
 Key concept recall: supply with positive y/x-intercept
Price
• Supply with positive y-intercept:
• Any point is elastic (Es>1)
• Elasticity converge to 1 as quantity increases
• As quantity increases, elasticity decreases

quantity

Price
• Supply with positive x-intercept:
• Any point is inelastic (0< E s<1)
• Elasticity converge to 1 as quantity increases
• As quantity increases, elasticity increases

quantity
Key concept recall: Determinants of Elasticity of Demand
Key concept recall: Determinants of Elasticity of Supply
 Key concept recall: Types of Elasticity of Demand

Type Formula Interpretation

Point (price) elasticity of ∆Q/𝑄 ∆𝑄 𝑃 The elasticity at a particular

demand = × point
∆P/𝑃 ∆𝑃 𝑄

Arc (price) elasticity of 𝑄𝑑1 + 𝑄𝑑0 The elasticity across two points
demand
(𝑄𝑑1 − 𝑄𝑑0 )/( ) (mid-point formula)
2
𝑃 + 𝑃0
(𝑃1 − 𝑃0 )/( 1 )
2
Cross-price elasticity of ∆𝑄𝑥 /𝑄𝑥 ∆𝑄x 𝑃y Substitutes: positive
demand for X with = × Complements: negative
∆𝑃𝑦 /𝑃𝑦 ∆𝑃y 𝑄x
respect to Y
Income elasticity of Normal goods: positive
∆𝑄𝑥 /𝑄𝑥 ∆𝑄x 𝐼
demand = × Luxury goods: greater than one
∆𝐼/𝐼 ∆𝐼 𝑄x
Inferior goods: negative
 Key concept recall: – Quick Prediction Formulas

Percentage Change in Price from a Shift in Demand

𝑃𝑒𝑟𝑐𝑒𝑛𝑡𝑎𝑔𝑒 𝐶ℎ𝑎𝑛𝑔𝑒 𝑖𝑛 𝐷𝑒𝑚𝑎𝑛𝑑
=
𝐸𝑑 + 𝐸𝑠

Percentage Change in Price from a Shift in Supply

𝑃𝑒𝑟𝑐𝑒𝑛𝑡𝑎𝑔𝑒 𝐶ℎ𝑎𝑛𝑔𝑒 𝑖𝑛 𝑆𝑢𝑝𝑝𝑙𝑦
=−
𝐸𝑑 + 𝐸𝑠

With the information about elasticities of demand and supply, we can also obtain
the percentage change in quantity!
 Example question 1
Find the corresponding elasticity of demand or supply.

(i) Annie drinks a cup of latte every morning without paying attention to the price.
(ii) Consider the demand for Starbucks coffee. Suppose a price increase would cause
all consumers to buy from Pacific coffee while a price decrease results in all
consumers buying from Starbucks.
(iii) Joe places an order at a gas station, saying that “I’d like 10 gallons of gas”.
(iv) Jerry also places an order at a gas station, saying that “I’d like $10 of gas”.
(v) Tom’s marginal cost of producing orange juice is given by MC(q) = 9q, where q is
the amount of range juice (in liters).
Example question 1
Q1

(i) and (iii): Perfectly inelastic demand → Ed = 0

• Fixed quantity demanded

• Any price change has no effect on quantity demanded

(ii): Perfectly elastic demand → Ed = – ∞

• Price increases a little, Qd drops to zero

• Price drops a little, Qd increase a lot

Example question 1
Q1

(iv): Unitary elastic demand → Ed = -1

• Total expenditure is fixed (P×Q = Constant)

• In other words, 1% increase (decrease) in price will

lead to 1% decrease (increase) in quantity demanded

(v): Unitary elastic supply → Es = 1

• The line MC(q) = 9q passes through the origin
Example question 2
 Example question 2
(I) lemonade v.s. ivory (Lemonade → more elastic)
• Increase production of ivory is very expensive; production of lemonade can increase with little
extra cost
(II) short-run housing supply v.s. long-run housing supply (Long-run housing supply → more
elastic)
• Immediately following a price increase, producers can expand output only by using their
current capacity.
• Overtime, producers can expand their capacity
(III) Hong Kong market for coal v.s. global market for coal (Hong Kong market for coal → more
elastic)
• The wider the scope of the market of a good, the less elastic its supply. Narrower scope, more
elastic
Example question 2
Example question 3
 Example question 3
Increase in demand → two points on the same supply
• Consider (arc) elasticity of supply!
1517−1443
• %∆𝑄 = 1443+1517 = 5%
2
105−95
• %∆𝑃 = 95+105 = 10%
2

%∆𝑄 5%
→ 𝐸𝑠 = = = 0.5
%∆𝑃 10%

A. The good is a habit-forming good. → Inelastic demand

B. There are lots of substitutes for the good. → Elastic demand
C. Firms producing the good have excess capacity in production. → Elastic supply
D. Firms producing the good have used factor inputs which are more specialized.
→ Inelastic supply
Example question 3
 Example question 4
Elasticity of demand: -2
Elasticity of supply: 0.5
Small increase in supply will __(A. increase; B. decrease) seller’s total revenue
Small increase in demand will __(A. increase; B. decrease) seller’s total revenue
 Example question 4
Elasticity of demand: -2
Elasticity of supply: 0.5
Small increase in supply will increase seller’s total revenue.
Small increase in demand will increase seller’s total revenue.
Past Exam Question 2021 Fall Midterm Q40
 Past Exam Question 2021 Fall Midterm Q40

(i) Demand should become more inelastic as quantity increases → False

(ii) True
 Past Exam Question 2021 Fall Midterm Q40

∆𝑄 𝑃
(iii) Consider Es = × 0 and Supply: 𝑃 = 𝑎 + 𝑏𝑄
∆𝑃 𝑄0

Put 𝑃 = 𝑎 + 𝑏𝑄 into the Es formula, we have

∆𝑄 𝑎+𝑏𝑄0 1 𝑎 𝑎
Es = × = × +𝑏 = +1
∆𝑃 𝑄0 𝑏 𝑄0 𝑏𝑄0

Note that 𝑎 < 0 and 𝑏 > 0.

For a supply that has a positive x-intercept, it becomes more elastic as quantity
increases → True

In general, the elasticity of supply along a linear supply curve would converge to 1 as
quantity increases.
 Past Exam Question 2021 Fall Midterm Q40

(iv) For any linear supply curve

• Elastic (Es > 1) when it intersects the positive vertical axis
• Inelastic (Es < 1) when it intersects the positive horizontal axis
• Unitary elastic (Es = 1) when it passes through the origin
→ True
Past Exam Question 2022 Fall Midterm Q34-35
Past Exam Question 2022 Fall Midterm Q34-35
Q34
Quantity supplied increase at any given price → Increase in supply
270
• Percentage increase in supply = = 3%
9000

• S↑ → P↓ Q↑

By the quick prediction formula, we have

𝑃𝑒𝑟𝑐𝑒𝑛𝑡𝑎𝑔𝑒 𝐶ℎ𝑎𝑛𝑔𝑒 𝑖𝑛 𝑆𝑢𝑝𝑝𝑙𝑦 3%
• Percentage change in price = − = − 0.5+1.85 = −1.2766%
𝐸𝑑 +𝐸𝑠

Hence, the equilibrium price will decrease by 1.28%.

Past Exam Question 2022 Fall Midterm Q34-35
Past Exam Question 2022 Fall Midterm Q34-35
Q35
Increase in supply → two points on the same demand
• Consider elasticity of demand!

%∆𝑄
𝐸𝑑 =
%∆𝑃
%∆𝑄
−0.5 =
−1.28%
%∆𝑄 = 0.6383%
Hence, the equilibrium quantity will increase by 0.64%.
Past Exam Question 2023 Summer Midterm Q35-36
 Past Exam Question 2023 Summer Midterm Q35-36

Q35
Put 𝑄A = 150, 𝑃A = 43 and 𝑃B = 36 into the demand function, we have
150 = 609.8 – 3(43) + 1.7(36) – 2.8𝐼
𝐼 = 140

∆𝑄A 𝐼
Income elasticity of demand = ×
∆𝐼 𝑄A

= -2.8 × 140/150
= -2.61
 Past Exam Question 2023 Summer Midterm Q35-36

Q36
∆𝑄A 𝑃B
Cross-price elasticity of demand for A with respect to B = ×
∆𝑃B 𝑄A

= 1.7 × 36/150
= 0.41
Past Exam Question 2023 Summer Midterm Q35-36

ln(QA)=609.8-3ln(PA)+1.7ln(PB)-2.8ln(Income)

-2.8

+1.7
Thank you!
(deadline for regular quiz 5:
11th October)