More Demand elasticities and Intro into Supply

• What is income elasticity of demand and how do you calculate it?

  - measure responsiveness of demand to changes in the income of consumers

  
  

  YED = % change in quantity demanded/ % change in y
• Why is understanding income elasticity of demand important?

  it provides the means to distinguish between normal and inferior goods
• What is the income elasticity of necessities and give examples of necessities?

  - tend to be inelastic (0> YED > 1)

  - basic foods, fuel, clothing, utilities, medical services
• What is the income elasticity of relative luxuries and give examples of relative luxuries.

  - tend to be income elastic (YED>1)

  - sports cars, designer clothes, expensive holidays, luxury foods
• What is the income elasticity of demand for inferior goods and give an example of an inferior good?

  - demand is negative

  - YED < 0

  - basic staples
• What is cross-price elasticity of demand?

  measures the sensitivity of demand for good B to changes in the price of good A
• why is understanding cross-price elasticity important?

  - possible to measure the extent to which goods are (close) substitutes or complements: important when considering the relationship between one firm's product and those of rival companies/brands
• How do you calculate cross-price elasticity?

  % change in QD of good B / % change in price of good A
• How do consumption of complements change?

  - consumption of complements varies negatively with changes in each others prices( as price of A increases, consumption of B decreases)

  - -1< XED < 0
• what are perfect and close complements?

  perfect complements: XED = -1

  Close complements: XED between -0.5 to -0.7
• How does consumption of substitutes change ?

  - consumption of substitutes vary positively with changes in each others prices (as price A increases consumption of B increases)

  0 < XED < 1
• what are perfect and close substitutes?

  perfect substitute XED = +1

  Close substitute XED greater than +0.7
• Why does "greater no. of product varieties and brands that are available in a product group; the greater the individual variety/brand elasticities of demand" imply greater cross-price elasticities between products?

  Because of the greater availability of substitutes
• What is supply?

  The quantity supplied of any good/service that sellers are willing and able to sell
• What is the "law" of supply?

  The quantity supplied of a good will increase when its price rises (ceteris paribus)
• What is ceteris paribus?

  all things being equal
• What are the factors of production?

  Capital (K) and Labour (L)
• What is the production function and how can it be represented graphically?

  - Shows all possible combinations of capital (K) and Labour (L) in output Q.

  Q = f(K,L)

  - can be represented graphically using isoquants- lines of equal output
• what are isoquants?


  A line of equal output using different combinations of K and L
• Show a firms production on an isoquant map?

  
• What are some of the properties of isoquants?

  - downward sloping ( show how much of a factor (K or L) can be substituted for the other while keeping output constant

  
  

  - convex to origin (gradient of isoquant diminishes along x-axis)

  
  

  - firms max efficiency by producing on highest possible isoquant for least input of K and L

  
  

  - lines can't cross
• What is the slope of the isoquant determined by and what does that determine and what is it called?

  - determined by tech (this determines extent to which a firm can sub K for L and VV yet maintain output Q constant)

  - Marginal rate of technical substitution (slope = marginal rate of technical substitution)
• Why is the isoquant convex to the origin?

  because of diminishing marginal productivity
• What is diminishing marginal productivity?

  the change in output as a result of using one additional unit of capital or labour in production
• How can a firm's cost constraint be analysed?

  By looking at costs of capital and labour , where output depends upon some combination of K and L
• How can a firms budget line be represented?


  by an isoquant curve
• What happens to the isocost curve when there is an increase or decrease in available resources or a change in input costs?

  It will shift either inwards or outwards: movement will be parallel to origin because slope of isocost curve will be the same since relative prices of K and L have not changed
• What will alter the slope of the isocost curve?

  any changes in the prices of capital and labour