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Michael R. Baye, Managerial Economics and Business Strategy, 6e. The McGraw-Hill Companies, Inc., 2008
EG , S
% G = % S
If EG,S > 0, then S and G are directly related. If EG,S < 0, then S and G are inversely related. If EG,S = 0, then S and G are unrelated.
Michael R. Baye, Managerial Economics and Business Strategy, 6e. The McGraw-Hill Companies, Inc., 2008
EG , S
dG S = dS G
If EG,S > 0, then S and G are directly related. If EG,S < 0, then S and G are inversely related. If EG,S = 0, then S and G are unrelated.
Michael R. Baye, Managerial Economics and Business Strategy, 6e. The McGraw-Hill Companies, Inc., 2008
EQX , PX > 1
EQX , PX = 1
Michael R. Baye, Managerial Economics and Business Strategy, 6e. The McGraw-Hill Companies, Inc., 2008
Quantity
Perfectly Elastic ( EQ X ,PX = )
Quantity
Perfectly Inelastic ( EQX , PX = 0)
Michael R. Baye, Managerial Economics and Business Strategy, 6e. The McGraw-Hill Companies, Inc., 2008
Inelastic
Increase (a decrease) in price leads to an increase (a decrease) in total revenue.
Unitary
Total revenue is maximized at the point where demand is unitary elastic.
Michael R. Baye, Managerial Economics and Business Strategy, 6e. The McGraw-Hill Companies, Inc., 2008
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Michael R. Baye, Managerial Economics and Business Strategy, 6e. The McGraw-Hill Companies, Inc., 2008
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Michael R. Baye, Managerial Economics and Business Strategy, 6e. The McGraw-Hill Companies, Inc., 2008
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Michael R. Baye, Managerial Economics and Business Strategy, 6e. The McGraw-Hill Companies, Inc., 2008
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Michael R. Baye, Managerial Economics and Business Strategy, 6e. The McGraw-Hill Companies, Inc., 2008
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Michael R. Baye, Managerial Economics and Business Strategy, 6e. The McGraw-Hill Companies, Inc., 2008
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Elastic
Michael R. Baye, Managerial Economics and Business Strategy, 6e. The McGraw-Hill Companies, Inc., 2008
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Michael R. Baye, Managerial Economics and Business Strategy, 6e. The McGraw-Hill Companies, Inc., 2008
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Michael R. Baye, Managerial Economics and Business Strategy, 6e. The McGraw-Hill Companies, Inc., 2008
For a linear inverse demand function, MR(Q) = a + 2bQ, where b < 0. When
MR > 0, demand is elastic; MR = 0, demand is unit elastic; MR < 0, demand is inelastic.
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Michael R. Baye, Managerial Economics and Business Strategy, 6e. The McGraw-Hill Companies, Inc., 2008
Time
Demand tends to be more inelastic in the short term than in the long term. Time allows consumers to seek out available substitutes.
Expenditure Share
Goods that comprise a small share of consumers budgets tend to be more inelastic than goods for which consumers spend a large portion of their incomes.
Michael R. Baye, Managerial Economics and Business Strategy, 6e. The McGraw-Hill Companies, Inc., 2008
If EQX,PY > 0, then X and Y are substitutes. If EQX,PY < 0, then X and Y are complements.
Michael R. Baye, Managerial Economics and Business Strategy, 6e. The McGraw-Hill Companies, Inc., 2008
Income Elasticity
EQX , M %QX = %M
d
If EQX,M > 0, then X is a normal good. If EQX,M < 0, then X is a inferior good.
Michael R. Baye, Managerial Economics and Business Strategy, 6e. The McGraw-Hill Companies, Inc., 2008
Uses of Elasticities
Pricing. Managing cash flows. Impact of changes in competitors prices. Impact of economic booms and recessions. Impact of advertising campaigns. And lots more!
Michael R. Baye, Managerial Economics and Business Strategy, 6e. The McGraw-Hill Companies, Inc., 2008
Michael R. Baye, Managerial Economics and Business Strategy, 6e. The McGraw-Hill Companies, Inc., 2008
Michael R. Baye, Managerial Economics and Business Strategy, 6e. The McGraw-Hill Companies, Inc., 2008
Michael R. Baye, Managerial Economics and Business Strategy, 6e. The McGraw-Hill Companies, Inc., 2008
Answer
Calls would increase by 25.92 percent!
EQX , PX
Michael R. Baye, Managerial Economics and Business Strategy, 6e. The McGraw-Hill Companies, Inc., 2008
Answer
AT&Ts demand would fall by 36.24 percent!
EQX , PY
QX = 10 2 PX + 3PY 2 M
d
Law of demand holds (coefficient of PX is negative). X and Y are substitutes (coefficient of PY is positive). X is an inferior good (coefficient of M is negative).
Michael R. Baye, Managerial Economics and Business Strategy, 6e. The McGraw-Hill Companies, Inc., 2008
QX = 0 + X PX + Y PY + M M + H H
d
EQX , PY
PY = Y QX
Michael R. Baye, Managerial Economics and Business Strategy, 6e. The McGraw-Hill Companies, Inc., 2008
Michael R. Baye, Managerial Economics and Business Strategy, 6e. The McGraw-Hill Companies, Inc., 2008
Conclusion
Elasticities are tools you can use to quantify the impact of changes in prices, income, and advertising on sales and revenues. Given market or survey data, regression analysis can be used to estimate:
Demand functions. Elasticities. A host of other things, including cost functions.
Managers can quantify the impact of changes in prices, income, advertising, etc.
Michael R. Baye, Managerial Economics and Business Strategy, 6e. The McGraw-Hill Companies, Inc., 2008