Question

A) Calculate price elasticity given the following info. Is the curve elastis, inelastic or unitary elastic?

Original Quantity: 7,700 lbs of Butter
Nee Quantity: 6,900 lbs of Butter
Original Price: $2.99 lb
New Price: $5.49 lb

B) Given the elasticity calculated in (a) with the seller increase or decrease their revenue if they raise the price of butter?

C) Explain the determinants of elasticity.

Answer 1

a) Use the mid-point formula, the price elasticity of demand for a product is given by:

Ed = (Q2 – Q1) / [(Q2 + Q1)/2] / (P2 – P1) / [(P2 + P1)/2]

= -0.16

Q1	Q2	P1	P2	Q2-Q1	(Q2+Q1)/2	%Q	P2-P1	(P1+P2)/2	%P	Ed
7700.00	6900.00	2.99	5.99	-800.00	7300.00	-10.96	3.00	4.49	66.82	-0.16

b) Since the elasticity is less than 1 in absolute terms, when the price is increased, revenue falls. This indicates that the seller would experience a decline in revenues when it raises the price.

c) These determinants include the time zone (demand is inelastic in the short run because there are fewer substitutes and elastic in the long), availability of substitutes (with fewer substitutes there are fewer choices for consumers so demand is inelastic), share in budget (if there is a large share in budget of a good, then its demand is relatively elastic as consumer is more responsive for its price), luxury or necessity (demand for luxury is elastic because consumer are more responsive for their price changes).