Types of Income elasticity of demand

1) Negative income elasticity of demand: In this case demand of the product decreases with increase in the income of
the consumer. Those goods that have negative income elasticity of demand.
2) Positive income elasticity of demand:In this case increase in income leads to increase in demand of products at all
price levels. Those are the normal goods. The increase in demand rises but
not as fast as luxurious goods.
3) Cross price elasticity of demand:It is the study of change in the demand of x good due to the change in the
price of the y good. For example: the study of change in the price of petrol
on the demand of petrol fueled cars.
The following formula is used to calculate the price elasticity of demand
E P=

Q P

P Q

Q) The coefficient on the price of petrol in the regression of quantity demanded of

automobile (in millions of units) on the price of petrol is $14.
Calculate the cross price elasticity on demand between automobiles and the petrol
and the price of $1 per unit and sales of automobiles of 8 million units
Ans. -14*(1/8) = -1.5
Cross PED

Factors determining price elasticity of supply

1) Time under consideration
time is put under 3 Categories
a. Market period
this is considered when the supply has reached the market, i.e. supply
is constant. So the supply will remain inelastic here.
b. Short period
short-period is regarded as a situation in which production can be
increased by using more quantity of labor only. The time is so short,
that the stock of machines cannot be changed. So the supply of the
product becomes relatively inelastic.
c. Long period
this refers to a situation in which the supply of the product is
relatively elastic because production can be increased by installing
more machines in the factory
2) Availability of raw materials and the price at which they are available are
also factors for price elasticity of supply.
Additional formulae
percentage change in quantity demanded can be calculated for a given change in
price
% Q= PE

Percentage change in price can be calculated for a given percentage change in

quantity demanded

P=

%QD
E

Method of forecasting
A) Qualitative factors
a. Consumer survey: buyers are asked about future buying intentions of
products, brand preferences and quantities of purchase, response to an
increase in price, or comparison with competitors products
b. Delphi method: it is a structured communication technique or method,
originally developed as a systematic, interactive forecasting method
which relies on a panel of experts.
c. Expert opinion method: an approach to demand forecasting is to ask
the experts in the field to provide their own estimates of likely sales.
Experts may include executives directly involved in the market, such
as dealers, distributors and suppliers or others whose major interest is
in the forecast itself such as industry analyst, specialist marketing
consultants etc.
d. Collective opinion method: sales persons are in direct contact with the
customers. Salespersons are asked about estimated sales target in their
respective sales territories in a given period of time
e. Market experiment method: involves real markets in which consumers
actually buy a product without the consciousness of being observed.
Product is actually sold in certain segments of market, regarded as
test market. Choice and number of test market and duration of test
are very crucial to the success of the results.
f. Visual shopping and virtual management: the consumer can see
shelves stocked with all kinds of products, he can view up close any
product by touching its image on the screen so as to be able to read its
label and check its contents and he can then purchase the product by
touching the picture of a shopping cart.

B) Quantitative method
a. Regression analysis: it is a statistical tool for estimating the
relationship among different variables. It includes many techniques
for modeling and analyzing several variables, when the focus is on the
relationship between a dependent variable and one or more
independent variables
b. Time series analysis: is the use of a model to predict the future values
based on previously observed values.
Returns to scale:
If the production is increased by using more quantity of all factors then this type of
increase in production is known as long period. In the long run the firm has to use
more quantity of all factors i.e. more quantity of fixed factors as well as of variable
factors. In other words in the long periods all factors are variable factor (because
the quantity of all factors have to be changed).
The returns to scale are explained with the help of following:
1) Increasing returns to scale
2) Constant returns to scale
3) Diminishing returns to scale
Increasing returns to scale: this refers to a situation in which the output is increased
by using factors in a certain ration. The increase in the output is proportionately
greater than the increase in inputs.
Constant returns to scale: in this case increase in output is equal to the increase in
the inputs. The proportionate increase in the inputs results in an equal increase in
the output.
Diminishing returns to scale: in this case the output is lower than the proportionate
increase in the inputs.
Law of variable proportion
The law of variable proportion apply for
short period
This law applies when the production is
increased by using more quantity only

Returns to scale
This law is applied to long period
The quantity of all factors change. The
production is increased by using more

of labor. The quantity of fixed factor is

fixed
This law applies when the proportion
between variable factor and fixed
factors is altered i.e. output is increased
by changing the proportion between
fixed and variable factors. However, the
scale of production remains constant.
In this law we find three stages. These
are distinguished on the basis of the
behavior of total product and marginal
product

quantity of all the factors

This law applies when the output is
increased by increasing the scale of
production but by keeping the
proportion between the variable factors
and fixed factors constant.
In this case also we find three stages i.e.
increasing return, constant return and
diminishing returns. These stages are
distinguished on the basis of the
relationship between input and output.

Oligopoly
Discriminating Monopoly or Price Discrimination
Degrees of price discrimination
1) First degree (perfect) price discrimination
2) Second degree price discrimination
3) Third degree price discrimination
First degree (perfect) price discrimination
The seller keeps on increasing the price till the consumer surplus is taken away

Difficulties:
Requires precise knowledge about the consumer reaction to increase in
price.
Second degree
Lower prices are offered for large quantities and buyers can self-select the price by
choosing how much to buy.
When the same customer buys more than one unit of a good or service at a time,
the marginal value placed on additional unit declines as more units are consumed.
Declining Block pricing: -Offers quantity discounts over successive discrete block
of quantities purchased.
Third degree price discrimination

Case of Dumping
Dumping is a case of charging high price in home country and low price in foreign
country.
3 cases of dumping
Disposing excess stock
Hurting other countrys industry
Making a foothold in other country
Important terms:
1) Glut when a country has too much of stock (temporary)

2)
3)
4)
5)

Sporadic disposing excess stock

Predatory to harm industry in another country
Import duty an anti-dumping tax
WTO governing body to check dumping