Question

9. Elasticity and total revenue The following graph shows the demand curve for kumquats. Points A, B, C, and D mark price ranges over which you will be asked to calculate the price elasticity of demand for this good. Use the purple rectangle labeled Total Revenue (diamond symbols) to compute total revenue at various prices along the demand curve. To see the area of the Total Revenue rectangle, select the shaded area with your mouse. You will not be graded on where you place the rectangle. Total Revenue per bushel per month)

Answer 1

(1) TR = P x Q

Total Revenue PRICE (Dollars per bushel per month) ŏ i 9 10 2 3 5 Ý 8 QUANTITY (Thousands of bushels)

(2) Using midpoint method, Elasticity (Ed) = (Change in Q / Average Q) / (Change in P / Average P)

(i) Between A and B

At point A, P = 7 and Q = 3,000 and at point B, P = 6 and Q = 4,000

Ed = [(4,000 - 3,000) / (4,000 + 3,000)] / [(6 - 7) / (6 + 7)] = (1,000 / 7,000) / (- 1 / 13) = - 1.86

Since absolute value of Ed is higher than 1, demand is elastic.

With elastic demand, a decrease in price will increase revenue.

(ii) Between C and D

At point C, P = 4 and Q = 6,000 and at point D, P = 3 and Q = 7,000

Ed = [(7,000 - 6,000) / (7,000 + 6,000)] / [(3 - 4) / (3 + 4)] = (1,000 / 13,000) / (- 1 / 7) = - 0.54

Since absolute value of Ed is lower than 1, demand is inelastic.

With inelastic demand, a decrease in price will decrease revenue.