ECO101H1 Lecture 7: Lecture 7-Price Elasticity of Demand and Total Revenue

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1 Aug 2010

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Tuesday, October 6th, 2009.

Price Elasticity of Demand and Total Revenue

Total Revenue = Price x Quantity

In response to an increase in price, total revenue:

- increases if demand is inelastic

- is unchanged if demand is unit elastic

- decrease if demand is elastic

Inelastic Demand Curve (TR 9 if P 9)

TR0 = P0 x Q0 (Revenue at old price)

TR1 = P1 x Q1 (Revenue at higher price)

Revenue increase: (P1 ± P0) x Q1

Revenue decreases: P0 x (Q0 ± Q1)

Toronto Transit Commission

Price (fare) 9 Æ TR 9, because

DD is inelastic (few close substitutes)

One of Five Toll Bridges Across River

Price (toll) 9 Æ 75; because

DD is elastic (several close substitutes)

xxx

Revenue Increase

Revenue Decrease

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Income Elasticity of Demand:

Percent change in quantity demanded

Percent change in income

Normal good: income elasticity > 0

Inferior good: income elasticity < 0

Insight: Most goods are normal goods

Few goods are inferior goods

(Example: bus travel)

Income Increases

Normal good: DD shifts to right

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Inferior Good: DD shifts to left

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DD1 (income increases)

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Related Questions

1. When demand is inelastic, a decrease in price will cause

a. an increase in total revenue.

b. a decrease in total revenue.

c. no change in total revenue but an increase in quantity demanded.

d.no change in total revenue but a decrease in quantity demanded.

2. For which of the following types of goods would the income elasticity of demand be positive and relatively large?

a. all inferior goods

b. all normal goods

c. goods for which there are many complements

d. luxuries

3. Which of the following should be held constant when calculating the income elasticity of demand?

a. the quantity of the good demanded

b. the price of the good

c. income

d. All of the above should be held constant.

4. Suppose goods A and B are substitutes for each other. We would expect the cross-price elasticity between these two goods to be

a. positive.

b. negative.

c. either positive or negative. It depends on whether A and B are normal goods or inferior goods.

d. either positive or negative. It depends on whether the current price level is on the elastic or inelastic portion of the demand curve.

5. As the price elasticity of supply increases, the supply curve

a. becomes flatter

b. becomes steeper

c. becomes downward sloping.

d. shifts to the right.

brownsea-lion330

the demand curve for a product is given by qxd = 1,200 - 3px - 0.1pz where pz = $300.

a. What is the own-price elasticity of demand when Px = $140? Is demand elastic or inelastic at this price? What would happen to the firm's revenue if it decided to charge a price below $140?

Own price elasticity:

If the firm prices below $140, revenue will: (increase, decrease or not change)

b. What is the own-price elasticity of demand when Px = $240? Is demand elastic or inelastic at this price? What would happen to the firm's revenue if it decided to charge a price above $240?

Own price elasticity:

If the firm prices above $240, revenue will:

c. What is the cross-price elasticity of demand between good X and good Z when Px = $140? Are goods X and Z substitutes or complements?

Cross-price elasticity:

lavendershark377

Ch. 6: Simple Pricing

a. define the Law of Demand?

b. Explain the distinction between a change in demand and a change in quantity demanded?

c. create a demand curve from a simple demand schedule in Table 6.2?

d. determine the calculated values in a table such as Table 6.4?

e. Can you apply your understanding of Chapter 4s marginal analysis to pricing decisions in a price-making (versus price-taking) firm?

f. Can you explain in words what Own Price Elasticity, Cross-Price Elasticity, and Income Elasticity mean?

g. Given specific values for Own-Price Elasticity of Demand, can you determine whether demand for the good is elastic, inelastic, or unit elastic?

h. Given specific values for Cross-Price Elasticity, can you determine whether the two goods are substitutes or complements?

i. Given specific values for Income Elasticity, can you determine whether the good is a normal or inferior good?

j. Can you calculate each of these elasticities, such as in the homework?

k. Identify relatively elastic and inelastic demand curves?

l. List factors that may affect demand elasticity.

m. Indicate whether total revenue will increase or decrease as a result of a price change, depending on the demand elasticity?

The textbook used for this assignment is Managerial Economics, Froeb Chapters.

rubylouse898

ECO101H1 Lecture 7: Lecture 7-Price Elasticity of Demand and Total Revenue

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