ELASTICITIES

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CHAPTER 7

• ELASTICITIES
• SUPPLY/DEMAND

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ELASTICITY

• ELASTICITY REFERS TO THE CHANGE
• IN QUANTITY SUPPLIED OR DEMANDED
• RELATIVE TO A CHANGE IN PRICE AS
• WE MOVE FROM ONE POINT ON A DEMAND
• OR SUPPLY CURVE TO A SECOND POINT
• MEASURING CHANGE IN QUANTITY
• DEMANDED OR SUPPLIED
• MUST UNDERSTAND
• TO ESTIMATE
• PRICE EQUILIBRIUMS

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OBJECTIVES

• CONCEPTS OF ELASTICITY OF
• DEMAND SUPPLY
• CONCEPTS OF CROSS-PRICE ELASTICITY
• AND INCOME ELASTICITY
• DETERMINANTS OF ELASTICITY
• EFFECTS ON AGRICULTURAL INPUT
• OUTPUT MARKETS

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ELASTICITY OF DEMAND

• LAW OF DEMAND - PRICES DECREASES
• QUANTITY INCREASES -- BUT HOW MUCH?
• WHO CARES WHY?
• IMPACTS REVENUE ON SALES!
• PRICE DOWN BY 10 AND QUANTITY UP 5
• PRICE CHANGE QUANTITY CHANGE
• 2.00 TO 1.80 100 TO 105
• TOTAL REVENUE CHANGE 200 TO 189

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ELASTICITY OF DEMAND

• WHO CARES AND WHY? (CONTINUED)
• PRICE DECREASES BY 10 AND QUANTITY INCREASES
  BY 20
• 2.00 TO 1.80 (Q) 100 T0 120
• T.R. 200 TO 216
• WHO CARES?
• FARMERS, POLICY MAKERS, SALES PERSONS, BUSINESS
  PERSONS, SCHOOL ADMINISTRATORS, PAPER BOY (ANY
  EVERYONE)

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DEMAND ELASTICITY DEFINITION

• PRICE ELASTICITY OF DEMAND --
• IN QUANTITY OF GOOD DEMANDED WITH
• RESPECT TO A IN PRICE
• Ed ( IN Q / IN P)
• Ed Q2 - Q1 \ P2 - P1
• (Q2 Q1)\ 2 (P2 P1)\ 2
  

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DEMAND ELASTICITY - ARC

• THE ABOVE FORMULA CREATES AN ARC
• OR AVERAGE - IT AVOIDS ERROR
• P2 2.00 Q2 100 P1 1.80 Q1 110
• 100 - 110 \ 2.00 - 1.80
• (100 110)\ 2 (2.00 1.80)\2
• Ed -10 \ 0.20 -.0952
  -.9047
• 105 1.90 .1052
  

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ELASTICITY DEMAND

• ARC ELASTICITY CONT.
• Ed -.9047 A ONE IN PRICE
• RESULTS IN .9047 IN QUANTITY
• OR A 10 IN PRICE A 9.047
• IN QUANTITY

A
P1
B
P2
Q1
Q2
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TYPES OF ELASTICITYOF DEMAND

• INELASTIC DEMAND - A ONE IN
• PRICE CAUSES LESS THAN ONE
• IN QUANTITY. Ed lt 1.0 AND TOTAL
• REVENUE DECLINES AS PRICE DECLINES

PID Ed 0
ID Ed lt 1.0
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TYPES OF ELASTICITYOF DEMAND

• UNITARY ELASTICITY OF DEMAND -- A
• ONE IN PRICE CAUSES A ONE
• IN QUANTITY. Ed 1.0 AND TOTAL REVENUE
• UNCHANGED WITH DECREASE IN PRICE

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TYPES OF ELASTICITYOF DEMAND

• ELASTIC DEMAND -- A ONE IN PRICE
• CAUSES A GREATER THAN ONE IN
• QUANTITY. Ed gt 1.0 AND TOTAL REVENUE
• INCREASES WITH DECREASE IN PRICE

PED Ed INFINITY
Ed gt 1.0
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TYPES OF ELASTICITYOF DEMAND

• TYPES ON ONE CURVE
• TENDS TO BE ELASTIC
• 
  UNITARY
• 
  TENDS TO
• 
  BE INELASTIC

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P. E. FOR AG. COM.

• Commodities Ed Feed Ed Food
• Corn -.019 -.07
• Wheat -1.004 -.017
• Beans (process) -1.953 (export) -.6
• Pork
• Beef
• Milk

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DETERMINANTS OF PRICE ELASTICITY OF DEMAND

• SUBSTITUTABILITY - THE MORE
• SUBSTITUTES, THE MORE ELASTIC
• COMPLEMENTARITY - THE MORE
• COMPLEMENTS, THE LESS ELASTIC

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DETERMINANTS OF PRICE ELASTICITY OF DEMAND CONT.

• INCOME - HIGHER PROPORTION OF
• INCOME SPENT ON GOOD, MORE
• ELASTIC
• NECESSITIES VS. LUXURIES -
• NECESSITY IS MORE INELASTIC AND
• LUXURY MORE ELASTIC
• TIME -- MORE TIME MORE ELASTIC

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CROSS-PRICE ELASTICITYOF DEMAND

• COMPLEMENT AND COMPETITIVE GOODS
• CROSS PRICE ELASTICITY OF DEMAND
• IS A MEASURE OF IN QUANTITY
• OF GOOD (Y) WITH RESPECT TO A
• IN PRICE OF GOOD (X)
• Ec Q2y - Q1y \ P2x - P1x
• (Q2y Q1y) \ 2 (P2x P1x) /
  2

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CROSS PRICE ELASTICITYOF DEMAND

• SUBSTITUTES -- IF SOLUTION TO FORMULA
• GENERATES () SIGN, THEN COMMODITIES
• ARE SUBSTITUTES. PRICE OF X INCREASES,
• THE QUANTITY OF Y INCREASES (NOT A
• MEASURE OF LAW OF DEMAND BUT CHANGE
• IN DEMAND) PRICE OF X UP AND Q OF Y UP

P2 P1
PY
Q1 Q2
Q OF X
Q OF Y
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CROSS PRICE ELASTICITYOF DEMAND

• COMPLEMENT -- IF SOLUTION TO FORMULA
• GENERATES NEGATIVE SIGN, THEN
• COMPLEMENTS (NOT A MEASURE OF LAW
• OF DEMAND) PRICE OF X UP AND QUANTITY
• OF Y DOWN

S2 S1
D1
D2
P2 P1
Q OF X
Q2 Q1 OF Y
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CROSS PRICE ELASTICITYOF DEMAND

• INDEPENDENT RELATIONSHIP --
• THE COEFFICIENT ZERO (0) THUS A
• CHANGE IN PRICE OF X DOES NOT
• AFFECT CHANGE IN DEMAND FOR Y
• EXAMPLE -- PRICE OF OSU FOOTBALL
• TICKETS AND THE QUANTITY OF SALT

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INCOME ELASTICITYOF DEMAND

• IT IS A MEASURE OF THE RESPONSIVENESS
• OF IN QUANTITY WITH RESPECT TO A
• IN INCOME FOR A COMMODITY
• Ey Q2 - Q1 / Y2 -
  Y1
• (Q2 Q1) / 2 (Y2 Y1)
  /2

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INCOME ELASTICITY

• NORMAL GOOD -- FORMULA GENERATES
• A () SIGN INCOME INCREASES AND
• QUANTITY INCREASES
• INFERIOR GOOD -- FORMULA GENERATES
• A (-) SIGN INCOME INCREASES AND
• QUANTITY DECREASES

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INCOME ELASTICITIES

• VALUE OF Ey
• PREDICT WHICH INDUSTRY WILL EXPERIENCE MOST
  INCREASE IN DEMAND IF ECONOMY GROWTHS
• (Y) UP
• NOT A MEASURE OF LAW OF DEMAND
• BUT A CHANGE IN DEMAND
• ELASTIC, UNITARY, INELASTIC

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PRICE ELASTICITYOF SUPPLY

• IT IS A MEASURE OF IN QUANTITY
• SUPPLIED WITH RESPECT TO A IN
• PRICE A MEASURE OF LAW OF SUPPLY
• Es Q2 - Q1 \ P2 - P1
• (Q2 Q1) \ 2 (P2 P1) / 2

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SUPPLY IS ELASTIC

• ELASTIC -- Es gt 1.0

PERFECTLY ELASTIC
Es INFINITY
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SUPPLY IS UNITARY

• UNITARY -- Es 1.0

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SUPPLY IS INELASTIC

• INELASTIC -- Es lt 1.0

PERFECTLY INELASTIC
Es 0
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SUPPLY ELASTICITY DETERMINANTS

• MARKET PERIOD - SUPPLY CURVE IS
• PERFECTLY INELASTIC
• SHORT RUN - TENDS TO BE INELASTIC
• AND MORE INELASTIC THAN LONG RUN
• FOR AGRICULTURAL COMMODITIES
• LONG RUN - INELASTIC BUT MORE
• RESPONSIVE

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SUPPLY ELASTICITY COEFFICIENTS

• COMMODITY Es
• CORN .402
• BEANS .433
• WHEAT .651
• RICE .455
• PORK
• BEEF

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CROSS ELASTICITYOF SUPPLY

• IN QUANTITY OF Y WITH RESPECT
• TO A IN PRICE OF COMMODITY X.
• (NOT A MEASURE OF LAW OF SUPPLY)
• Esc Q2y - Q1y \ P2x - P1x
• (Q2y q1Y) / 2 (P2x P1x0 /
  2
• NEGATIVE (-) SIGN INDICATES
• SUBSTITUTES

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SUPPLY SUBSTITUTES EXAMPLE

• Producer can plant either corn or soybeans.
• They are substitutes in the production plan.
• Price of soybeans is up, P2s gt P1s
• Producer plants more soybeans and less
• corn
• Quantity of corn falls, Q1c gt Q2c

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PRICE VOLATILITY

• PRICES FOR AGRICULTURAL COMMODITIES
• ARE VOLATILE BECAUSE OF INELASTIC
• DEMANDS AND SUPPLIES

S
S1 S2
D2
P1 P2
P1 P2
D1
D
Q1 Q2
Q2 Q1
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WHO PAYS TAX?

• PERFECT INELASTICITIES

SUPPLY WITH TAX
D
SUPPLY NO TAX
P2 P1
B A
CONSUMER PAYS ALL TAX (P1ABP2)
0 Q
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WHO PAYS TAX?

• PERFECTLY ELASTIC DEMAND

S2
S1
A B
D
P
PRODUCER PAYS (Q2ABQ1)
0 Q2 Q1
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WHO PAYS TAX?

• BOTH SUPPLY DEMAND INELASTIC

S2
S1
D
PRODUCER PAYS Q2Q1BC CONSUMER PAYS CAP2P1 1.00
TAX PRICE INC. BY 0.50 TO P2 THEN PRODUCER
PAYS 0.50 AND CONSUMER PAYS 0.50
A
P2 P1
B
C
0 Q2 Q1