uh welcome back to the discussion on elasticity uh of demand and supply in the previous module
we ended our discussion on elasticity price elasticity of demand and we took an example
of how to how to to illustrate uh how a producer decides from elasticity of demand whether
to changes his whether to increase or decrease his prices or not uh or rather to say its
not that the producer decides to change his price or not depending on elasticity its not
that its not that a producer who has varying elastic demand he is never going to increase
his price its not that or he is never going to reduce his price its not that
the the producers decision on whether to change the price is not solely dependent on elasticity
of demand its dependent on a lot of things which we are going to discuss later when we
talk about cost or we talk about uh producer theory cost functions etc and we are going
to see that the producers decision of how much to produce how much to charge depends
on a lot of other things than solely on the demand that he is facing but nevertheless
its the the what is the impact of a price change on revenue is a important information
which goes into the decision making process of a producer and this is what we discussed
in the previous uh module and to continue with the discussion today we are going to
talk about price elasticity of supply we are going to talk about price elasticity of supply
. and price elasticity of supply as many of
you might must have already figured out would be the percentage change in supply divided
by percentage change in price so this is the percentage change in supply divided by percentage
change in price or in other words how much supply responds to any price change how much
supply responds to any price change and is uh giving us our elasticity price elasticity
of supply uh and like we discussed in the previous in while discussing the elasticity
of demand we discussed that uh we talked about the midpoint method and the same midpoint
method can be used to uh calculate elasticity of supply as well so that uh let me illustrate
. so if this is the supply curve and say this
is the initial sorry this is the initial price quantity combination at which the supplier
was operating and now the price changes now the price changes or price increases to p
2 say price increase to p 2 and quantity also increases to q 2 why it follows the law of
supply by the law of supply whenever price increases it makes sense for the supplier
to increase the amount of uh output that he can supply in the market
so when price increases quantity also increases here say for example quantity increases by
say 14 percent when price had increased by say 7 percent so what is the elasticity of
supply so in this case elasticity of supply is equal to 14 percent divided by 7 percent
is equal to 2 and needless to say uh elasticity of supply is always positive why because the
slope of the supply function is positive so elasticity of supply price elasticity of supply
is always uh positive so this is price elasticity of supply and
as we discussed in the case of demand also say if you are moving from point a to b or
if you are moving from the point b to a if you calculate the elasticity at this point
you are going to get a different number and if you calculate the elasticity from this
point you are going to get a different number and to resolve that problem what we do is
we use the midpoint method where we basically take the change in price divided by the average
price of it at the 2 points and uh on the numerator we take the change in quantity divided
by the uh average of the quantities at the 2 points and that is the midpoint method and
that midpoint method is also used in case to calculate the uh price elasticity of supply
so again flatter the curve larger the elasticity steeper the curve smaller the elasticity so
similar to the demand the price elasticity of the demand that we have become quite conversant
with so the similarly in case of the supply curve also if it is a flat supply curve the
price the response of quantity to price is very high and if it is a steep supply curve
the response of the quantity response against price is very small
so that is the so that is uh so so you have a elasticity supply curve if it is very or
in other words what is the what is uh in to what is the intuition or what what do we mean
by a flat supply curve what we mean by a flat supply curve is its very or a highly elasticity
supply curve is basically the it is the suppliers are highly responsive to price changes if
the price increases a little bit the supplier can change the quantity supplied by a big
amount and if in case of a inelastic supply curve the supplier is basically not too responsive
to price changes that could be because of various reasons we
are going to uh talk about some of them in the later slides basically there is a a constraint
or a rigidity that the supplier faces because of when the price changes a little bit the
supplier is unable to change the quantity much and in that case the supplier faces a
or the supplier has a very steep supply curve and as i already said price elasticity of
supply is always positive . now uh similar to the (elas) uh similar to
the demand curves you have different types of supply curves also and accordingly with
different kinds of supply curves you have uh different elasticities also elasticities
of supply because depending on what the slope of the what kind of slope the supply curve
has accordingly the elasticity also changes of the supply curve .
so elasticity of supply is also dq dp into p by q so elasticity of supply is also defined
like this or elasticity of supply is percentage change in q divided by percentage change in
p so uh and in case of elasticity of uh supply this is the slope of the supply curve and
this is positive so elasticity of supply is always uh positive
now depending on different types of supply curves you have different kinds of elasticities
that will be shown by the supply curve uh say perfectly inelastic supply curve so what
do we mean if you if you may remember we had discussed about perfectly inelastic demand
curve and what did the curve look like in case of a perfectly inelastic demand curve
the curve was a vertical line so which meant that quantity demanded was not changing no
matter what the price was similarly in this case where it is a perfectly inelastic supply
curve elasticity is equal to 0 and i draw it here so this is the supply curve this is
the quantity supplied and no matter what the price is the quantity supplied there is no
change in quantity supplied so there is no change in quantity supplied so change in quantity
supplied is always 0 so uh the (elas) inelastic supply curve always has a elasticity of elasticity
of supply is equal to 0 elasticity of supply is equal to 0
so you might like to know uh you might ask that uh what is a do we have any example of
a perfectly inelasticity supply curve do we have a any example of perfectly inelastic
supply curve where basically we are saying that the the supply does not change supply
is not changing no matter what the price is so uh one example that one could think of
is say for example i have a very precious rare say i have a painting of picasso which
i have inherited from somewhere from my uh great great grandparents and it is there with
me and i would like to sell it now i can no matter what the price of that
painting is in the market i cannot change the supply of that painting there is there
is only 1 painting or maybe 2 paintings that i have and no matter what the price is if
if by due to some strange reason no one is willing to pay anything and the price is 0
or if they uh pay me the sky then also i cannot change the uh supply from what i have right
now so that is a perfectly inelastic supply curve
and so a little more realistic example realistic uh supply curve that you have is you have
the inelastic supply curve where elasticity is less than 1 and you have the elasticity
supply curve where elasticity is more than 1 so you will be able to find lot of examples
where elasticity is less than 1 where elasticity is more than 1
so elasticity less than 1 basically means that say for example there is a increase in
price you would like to increase the quantity but you have not been able to increase the
quantity as much so basically the amount by which you increase the quantity is less than
the amount by which uh price increases and that can happen due to lot of reasons
say for example you have some uh say your supply depends on some natural resources that
you use say for example you have a land and you produce uh say say you are already producing
rice there and the the suddenly there is a increase in demand and you would like to increase
and there is a increase in price in the market but you have only that much land and there
is only probably if you find a little more squeeze in some more place to sow some more
seeds and produce some more grains probably you will be able to produce a little more
but you may not be able to produce as much as you would like to given the increase in
price so that is kind of inelastic supply curve uh and and on the other hand you have
elasticity supply curve where basically you have a lot of capacity and its possible to
increase when the price increases and you maybe you are operating at below capacity
earlier and now because of increase in demand the prices have increased in the market and
there you have enough capacity to increase your production so that case it is a very
elasticity supply curve you have a uh its a elasticity supply curve that you have
unit elasticity as i said in case of demand elasticity also its a very special case where
uh and it is although it kind of looks nice that it is unit elasticity where basically
the quantity supplied increases exactly by the amount by which price increases uh its
actually not so much of interest uh its its only a special case of elasticity .
and another extreme is you have perfectly elasticity supply curve that is perfectly
elasticity supply curve which um again if you may remember perfectly elasticity demand
curve perfectly elasticity supply curve also looks similar where you have perfectly elasticity
supply curve means if this is the price uh existing price at this price supply that there
is in the market is infinite basically uh at this price the supply is infinite
and if the price changes a little bit the quantity supplied uh comes to 0 so this is
the price at which uh supply is infinite again example uh again to like a perfectly
inelastic supply curve perfectly inelasticity and perfectly elasticity demand curve perfectly
elasticity supply curve uh also is not very realistic but one might imagine that perfectly
elasticity supply curve is what the uh sellers might have in a perfectly competitive market
say there is a perfectly competitive market and there are infinite number of sellers like
everyone is producing say grains and there is a so if everyone is producing grains the
price falls to whatever is the minimum cost of production
so no one is going to charge a price which is below that because uh price has is already
at minimum cost of production so that is the price that everyone is charging and if anyone
uh tries to reduce the price below that then one uh the the in that case every everyone
is going to rush to him so he is going to the the consumers are going to rush to him
so he has to produce more which is not possible and finally price comes back here but that
is beside the point the point is the price is not going to change from here
price is not going to change from here because if the price increases again the infinite
amount of supply of the quantity supplied uh moves to here like there is again a infinite
change in supply in the market like if the price increases so in the denominator there
is a finite increase in price but in the numerator there the response will be a infinite increase
in quantity because everyone is going to now whoever were selling earlier at the smaller
lower price they all of them are going to now sell at this higher price so basically
at every price the quantity supplied is infinite and that is a perfectly elasticity supply
curve and so the elasticity of supply is also uh infinite here .
now uh similar to the discussion that we had in case of demand we said that there are various
factors which tell you uh how the demand is going to behave or how responsive is demand
to to price changes similarly in case of supply also there are various factors which determine
whether supply is going to be elastic or is it going to be inelastic or how responsive
the supplier is would depend on a lot of factors so they are the determinants of supply elasticity
so responsiveness of supply to price changes varies across commodities price ranges and
other factors so what factors determine if price elasticity of supply would be high or
low so similar to the earlier case here also we are going to use some uh we are going to
see a few principles basically guide the supply of elasticity and lets take an example
say the example of beachfront properties versus new cars so this is a market for beachfront
properties you have houses on the beach and it’s a market for houses which are available
on the beach people would like to buy houses on the beach and there is a separate market
which is for cars now which one do you think has higher supply
elasticity or in other words if the price increases in both the markets in both the
markets say for example there is a boom in the economy and everyone lot of people are
expecting to be rich or already have got richer and they are looking for nice houses in front
of the on the sea beach and they are looking for cars
in which of the 2 markets do you think supply is more elastic or in which of the 2 markets
is it more easy to respond to the price change that is the question that we are asking and
as you may have already figured out on the beachfront properties case there is only a
limit to which the suppliers can increase the supply of beachfront properties because
there is only so much of beachfront land available in the market where new property can be or
new houses can be built and sold in the market on the other hand it is probably easier to
just expand or you have build a few more plants few more factories and design a few more cars
and produce new cars and sell in the market when the demand for cars go goes up in the
market so beachfront properties is something where the supplier is constrained by one of
the resources very integral or important resource which is beachfront land and but in case of
new cars and in case of cars the supplier is not so much constrained by uh resources
so the more easily the supplier can change the quantity supplied higher the elasticity
take another example which is hybrid cars in the long run versus hybrid cars in the
short run say uh the economy has become very environment conscious say everyone has become
very conscious and would like to have a cleaner have cleaner air cleaner environment and suddenly
the demand for hybrid cars which uses less of uh fossil fuels uh the demand for these
cars go up in the economy in that case uh the the price of the so the
demand has gone up so the price of hybrid cars has gone up and the suppliers would like
to supply a lot of hybrid cars in the market so are they able to match demand in the short
run as much as they can match the demand in the long run what do you think so in the long
in the short run the car manufacturers are only are constrained by the amount of capacity
they have already created to produce the cars but in the longer run they can set up more
factories they can expand their capacity take more loans to build new factories so they
need some time to increase the capacity and increase the amount of cars that the economy
is demanding so they are more flexible in the longer run in production than they are
in the short run in production and so their responsiveness to price increase in the short
run is much less than their responsive to price increase in the longer run so firms
may need a longer run to expand capacity of production and raise supply elasticity of
supply is more in the long run than in the short run .
so uh that was about price elasticity of supply
that was about price elasticity of supply but as i said during the beginning of our
lecture on elasticity we said that uh you can define elasticity of demand or supply
as percentage elasticity of demand or elasticity of supply can be defined as percentage change
in quantity demanded or quantity supplied divided by percentage change in any determinant
of quantity demanded or quantity supplied so this is the very general definition of
elasticity and this elasticity definition can also be used to find out what happens
to or what is the responsiveness of quantity demanded or quantity supplied to change in
any of the determinants if you may remember we had said that quantity demanded depends
on a lot of things it is a function of the price it is a function of lot of other goods
say for example substitute goods or complementary goods or say whether income lot of things
similarly quantity supplied is a function of price price of raw materials price of uh
labour and say taxes and lot of other things so all these determinants any change in any
of these determinants can be put in the denominator and the responsiveness can be put in the numerator
and the elasticity calculated so this can be done .
now so from there we are going to discuss a couple of elasticities which are very important
uh first is the cross price elasticity of demand now what is cross price elasticity
of demand now this is change in demand for one good in response to change in the price
of another good so this is change in demand for one good in response to change in price
of another good so this is called cross price elasticity of demand which is percentage change
in quantity demanded of good 1 divided by percentage change in price of good 2
so basically we are (say) uh trying to see here if price of good a changes what is the
impact on the quantity demanded of a good b so how is that relevant what happens why
is price of some other good relevant to the quantity demanded of another good that can
happen in 2 situations in case of substitutes so substitutes we have already said substitute
is what substitute is basically uh 2 goods are substitutes when they are kind of replaceable
say for example tea and coffee if the price of coffee goes up you are probably going to
uh switch to tea say say in a railway station everyone the all of a sudden the coffee vendor
decides that i am going to increase the price of coffee probably lot of people are going
to shift to the tea vendors that are available around
so so there the tea and coffee are substitutes so the cross price elasticity or if you have
the change in quantity on the numerator and change in price of change in quantity of tea
consumed in response to change in price of coffee in the denominator you are going to
see that the cross price elasticity is always greater than 0 since it is a substitute
so the law of demand behaves in a opposite way that if the price of the substitute good
goes down you are going to reduce the quantity demanded of this particular good so if the
price of coffee goes down you are going to consume less of tea and move to coffee so
the in response to uh so the price and quantity of substitute goods they move in the same
direction so that is the reason that substitute goods have cross price elasticity greater
than 0 and another example is the complements complement
is you cannot use one good without the other say for example in case of fountain pens is
the pen and the ink they are complements you cannot use the pen without the ink and ink
is of no use if you dont have the pen like computers and softwares they are all complement
goods so in case of the complement goods if the
price of the of one say the price of fountain pen goes up the demand for ink also goes down
because when the price of fountain pen goes up the demand for fountain pen pen goes down
and so the demand for ink also goes down so in case of complements cross price elasticity
of demand is less than 0 the quantity demanded and the price they move in opposite direction
just like the case of the price elasticity of demand of a single good
that ends our discussion on elasticity we have talked about price elasticity of demand
we have talked supply elasticity of demand we have looked at different determinants of
elasticity and we have looked at different uh values of elasticity ranging from 0 to
infinity and we have taken some example to illustrate and finally we have talked about
a more general kind of elasticities other elasticities and we have talked about the
cross price elasticity where basically we have talked about the response of one good
in to uh against the price range in some other good in the next class we are going to start
our discussion on producer theory and cost thank you