Question

In a two- to three-page paper (600 words minimum), address the following. Be sure to show all your work. Explain how you would calculate the price elasticity of demand for gasoline. In general terms, explain how consumer and producer surplus will change as a result of this price increase. Because there is no viable substitute for gasoline at this time, what can you say about the price elasticity for gasoline? Explain the elasticity of supply for gasoline. (If prices go up, how quickly would the supply of gasoline increase?) Is the demand for gasoline elastic, inelastic, perfectly elastic or inelastic, or unit elastic? Why?

Answer 1

The price elasticity of demand for gasoline will be calculated as:

Ed = (Percentage change in quantity demanded) / (Percentage change in price of goods)

or Ed = [Change in quantity demanded / change in price] x [Initial Price / Initial Quantity]

If Ed >1 then it is Elastic demand

If Ed = 1 then it is perfectly elastic demand

If Ed < 1 then it is inelastic demand

If Ed = 0 then it is perfectly inelastic demand

Now, if the price of Gasoline increases, then the consumer surplus decreases. The decrease in consumer surplus due to increase in price of gasoline has been shown in the following figure. In the figure, we see that the demand curve and the supply curve intersects at E. Thus triangle ABE shows the consumer's surplus and the triangle CBE shows the Producers surplus. Now, here in the figure we can observe that as the price of Gasoline increases, the consumer surplus decreases and the producer surplus increases.

As there is no viable substitute for gasoline at this time, we can say that the price elasticity of demand is inelastic. This is so because the change in price of gasoline would not have a major impact on the demand for gasoline.

The elsticity of supply of gasoline is also inelastic, because, gasoline is a natural resource, it is not a manufactured product. Hence a change in price would not have a major impact on its supply.

The demand for gasoline is Perfectly inelastic. This is so because, as there is no substitute for gasoline so consumers are bound to buy gasoline for meeting their demands. Hence the cange in demand for gasoline would not be highly affected by the change in price of gasoline.