Subsidy (Ŝ) can be assumed as a form negative tax because it is a payment made by the government to retailers, farmers, consumers or anyone as a way to promote production or utilisation. Therefore, subsidy is the opposite of tax. Production cost will decrease when subsidies are given to producers. Therefore, supply curve will shift vertically to the right at the rate of subsidy amount
accepted. In Figure 3.26, it is illustrated as the shift of supply curve from S0 to S1,
and the amount of subsidy per unit accepted is BC(Ŝ).
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The equilibrium quantity before subsidy is Q0 and increased to Q1 after subsidy.
Likewise, equilibrium price falls from P0 to P1. The price accepted by seller is P2
while buyers pay a price of P1. The ratio of benefits from giving subsidy also
depends on the elasticity of demand or supply.
Now you must have gained confidence to make your own analysis towards the effect of subsidy when demand and supply curve have different elasticity values. Among the conclusions you will obtain from your analysis are, the more elastic the demand curve is, the bigger the benefit of subsidy that will be enjoyed by the sellers; and the more elastic the supply curve is, the bigger the benefit of subsidy that will be accepted by the buyers.
Determine whether these statment are TRUE (T) or FALSE (F).
1. Income elasticity is positive for normal goods, and negative for
inferior goods.
2. If supply curve is linear and passes through the origin, elasticity
of supply changes along the curve. Fill in the Blanks
1. ___________ is a general concept that measures the ___________
of change between two related variables.
2. Elasticity changes along a demand curve with negative slope,
when price decreases and quantity ___________, price elasticity of demand ___________.
3. If price elasticity of demand has a value more than unity,
demand is ___________ and increase in price will cause total revenue to ___________. Total revenue is not influenced by price when demand curve is ___________.
4. ___________ elasticity of demand shows the method of utilisation
changes when there is a change in buying power, it is calculated by dividing percentage of change in quantity demanded with percentage of change in ___________.
5. ___________ elasticity of demand measures the percentage of
change in quantity demanded of a good when there is one percent of change in the price of other goods. A positive coefficient shows that both goods are ___________, while a negative coefficient shows that both goods are ___________ in usage.
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Problem Questions
1. If price of good X increases by 10% and quantity decreases by 30%,
what is the price elasticity of demand for the good?
2. The demand function of good M is Qd = 100 ă 2P. Calculate the
price elasticity of demand for M if price increases from RM2 per unit to RM3 per unit.
3. If price elasticity of demand is 2, price increase of X from RM10 per
unit to RM12 per unit will result in the decrease of quantity demanded from 20 units to _________ units.
4. The table below shows the relationship between income level and
quantity demanded for good R, good S and good T.
ConsumerÊs Income Good R Good S Good T
RM1000 20 20 50
RM2000 40 10 50
(a) Calculate the income elasticity of demand for good R, good S
and good T.
(b) State the type of goods, based on the value of income elasticity obtained in (a).
5. The table below shows the relationship between good A and quantity demanded for good K, good L and good M.
Price of Good A Quantity Demanded (Units)
(RM) K L M
2 10 20 40
3 5 30 40
(a) Calculate the cross elasticity between good A with good K,
good L and good M.
(b) State the relationship between good K and A; L and A; M and A.
6. If price increases from RM20 per unit to RM30 per unit, and quantity
supplied increases from 120 to 140 units, calculate the elasticity of supply.
• Market equilibrium is achieved when demand is equivalent to supply. Equilibrium quantity and price will not change as long as there is no change in demand and supply.
• Excess in demand or shortage, causes increasing pressure towards price and excess in supply or surplus, will result in decreasing pressure towards price. • Equilibrium quantity and/or price can change when either the demand curve
or supply curve shifts, or if there are shifts in both demand curve and supply curve.
• Price elasticity of demand measures the response of quantity demanded towards change in price.
• Demand can be elastic, unitary elastic, inelastic, perfectly elastic, or perfectly inelastic depending on the value of coefficient calculated. The bigger the value of coefficient, the bigger the elasticity is.
• The main determinants of elasticity of demand are the number of substitute goods available, time, and the importance of the good in budget.
• Income elasticity is the percentage of change in quantity divided by percentage of change in income. Negative value is for inferior goods, zero for necessities, and positive for normal goods and luxury goods.
• Cross elasticity is the percentage of change in the quantity of a good, divided by the percentage of change of other goods.
• If the elasticity coefficient is positive, both goods are said to be the substitute of one another. If the elasticity coefficient is negative, both goods are said to be the complementary of one another.
• Elasticity of supply is the percentage of change in quantity supplied, divided by percentage of price change.
• The main determinants of elasticity of supply are time period, size of industry, and mobility of production factors.
• Among the application of elasticity concept is in determining the actual burden for tax, and the actual benefits from subsidies.
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Coefficient value
Cross elasticity coefficient Elasticity curve Elasticity point Equilibrium Equilibrium price Equilibrium quantity Market equilibrium Shortage Surplus
X
INTRODUCTION
Through Topic 1 until Topic 3, you have been exposed to the basics of market behaviour. Now you must be ready to make further analysis towards demand curves. The main question that will be answered in this topic is the factors that influence consumers to behave according to the Law of Demand. The theory of consumer behaviour is crucial in the market economy because producers who always compete with each other to attract consumers to buy their products need to know the motives underlying consumersÊ demand.
The theory of consumer behaviour will further clarify the behaviour you have already known. You or anyone else, are consumers who normally have a sum of money at certain point of time to be spent on any required goods or services. You have to decide on the type and amount of goods that you want to purchase, because you know that every purchase made will take up a part of your limited income. But at the same time, you are also aware of your preferences. In this topic, we will analyse the consumption motives, consumer behaviour and decision making process of consumers.
T
Tooppiic c
4
4
X
Utility
Analysis
By the end of this topic, you should be able to:
1. Describe the concept of utility;
2. Differentiate between cardinal utility and ordinal utility;
3. Explain the concept of total utility, marginal utility and rule of
consumer equilibrium;
4. Examine the concept of indifference curve and budget line, and
consumer equilibrium;
5. Derive Engel curve and demand curve from income-consumption
curve and price consumption curve; and
6. Distinguish between substitution effect and income effect caused by
change in price.
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