Elasticity applications - Microeconomics AP Study Notes

Think of elasticity like a rubber band. Some rubber bands stretch a lot with just a little pull (that's elastic), and some barely stretch at all (that's inelastic). In economics, we use this idea to see how much people change their buying or selling habits when something else changes, like the price.

• Price Elasticity of Demand (PED): This is like asking, "If I change the price of my favorite video game by a little bit, how much will people change how many copies they buy?" If people stop buying it almost entirely, it's elastic. If they keep buying it no matter what, it's inelastic.
• Price Elasticity of Supply (PES): This is about sellers. "If the price I can sell my handmade bracelets for goes up, how much more will I make and sell?" If you can quickly make a lot more, your supply is elastic. If you can't make more quickly (maybe you need special materials), your supply is inelastic.
• Income Elasticity of Demand (YED): This one asks, "If people suddenly get more money (their income goes up), how much more of a certain product will they buy?" For some things, like fancy dinners, people buy a lot more. For others, like basic bread, they don't buy much more at all.
• Cross-Price Elasticity of Demand (XED): This is a bit like asking, "If the price of peanut butter goes up, how does that affect how many jars of jelly people buy?" If they buy less jelly, these items are complements (go together). If they buy more jelly because they're ditching the expensive peanut butter, they are substitutes (can be used instead of each other).

Let's imagine a local coffee shop, "The Daily Grind." They want to increase their revenue (the total money they make from sales).

1. They consider raising the price of their coffee. If coffee is price elastic for their customers (meaning customers are sensitive to price changes), then raising the price might make a lot of people go to the Starbucks next door. They'd sell fewer coffees, and even with a higher price per cup, their total revenue might actually fall.
2. However, what if their coffee is very unique, and there are no other coffee shops nearby? Then their coffee might be price inelastic. Customers might grumble, but they'd still buy their coffee because there's no good alternative. In this case, raising the price would likely increase their total revenue because they wouldn't lose many customers.

So, before changing prices, the coffee shop owner needs to understand how elastic (or inelastic) their customers are to price changes. It's like knowing if your customers are loyal fans who will stick with you, or if they're easily swayed by a better deal elsewhere.