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Understanding Elasticity: Total Revenue and Surplus in Microeconomics

This chapter delves into the concept of elasticity in microeconomics, particularly focusing on how price elasticity relates to total revenue and market dynamics. It discusses the characteristics of necessities and luxuries, the importance of substitutes, and the ability to delay purchases. Inelastic and elastic supply responses to price changes are examined, along with market periods and the impact on producers. Key determinants of elasticity are outlined, providing insights into excise tax implications and how producers can adjust to price fluctuations over time.

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Understanding Elasticity: Total Revenue and Surplus in Microeconomics

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  1. Elasticity, Total Revenue and Surplus Micro Chapter 18 Cont’d

  2. Quick Check 1 • Items that are necessities are considered to be _____________ • inelastic

  3. Quick Check 2 • If TR and price go in opposite directions, the good is considered to be _______ • Elastic

  4. Quick Check 3 • List the determinants of elasticity • P- the proportion of income spent on the good • A- availability of close substitutes (the more subs. The more elastic) • I- the importance of a good (luxury v necessity) • D- the ability to delay the purchase (the more time, the more elastic)

  5. Quick Check 4 • If a good has an elasticity coefficient of 0, that good is said to be ___________ • Perfectly inelastic

  6. $8 7 6 5 4 3 2 1 a b c Price d e f g h 0 0 1 2 3 4 5 6 7 8 Quantity Demanded Price Elasticity Elastic Ed > 1 Unit Elastic Ed = 1 Inelastic Ed < 1 D

  7. Excise Taxes • Governments tend to tax inelastic products to ensure high revenues • Ex- liquor, gasoline and tobacco

  8. Price Elasticity of Supply • If producers are relatively responsive to price changes, supply is elastic. If producers are relatively unresponsive to price change, supply is inelastic • Es = Percentage change in quant supplied of product x/percentage change in price of product x • Or….Es = change S/sum of S/2 / change P/sum P/2 • Ex- Solve Es for an increase in price from $4-6 and increase in quantity supplied from 10 units to 14 units (use midpoint)

  9. Check your work • Es = change quant supplied/(sum of Qs/2)/(change price/sum of P/2) • = ((14-10)/(14+10/2))/((6-4)/(6+4/2)) • = (4/12)/(2/5) • = .33/.40 • = .83

  10. Price Elasticity of Supply Cont’d • The degree of price elasticity of supply depends on how easily and quickly producers can shift resources between alternative uses

  11. Market Period • A period that occurs when the time immediately after a change in market price is too short for producers to respond with a change in quantity supplied

  12. Market Period Continued • Ex- perishable items are perfectly inelastic such as beets. Farmers will sell all of their product because they will go bad • The market period for a farmer is the growing season

  13. Short run • a period of time too short to change plant capacity but long enough to use fixed plant more or less intensively

  14. Long Run • Time period long enough for firms to adjust plant sizes and for new firms to enter and old firms to leave an industry • Ex- in the tomato industry the farmer has time to acquire new land and buy machinery. Over time more farmers will shift to tomatoes if profitable

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