Question

1. A major PC producer lowers the price of its desktop PC from $1,000 to $800. The sale of desktops increases by 25 percent. The sales manager notices that sales of the company’s laser printers increase by 15 percent. a. Calculate the arc price elasticity of desktop PC. Explain what it means. b. Why have the sales of laser printers increased? Calculate the arc cross price elasticity of laser printers. Based on your calculation, is a laser printer a substitute or complement? Why? c. Was the new policy beneficial for increasing the revenues of the producer? Explain. d. If you were to estimate a demand equation for desktop computers, which variables would you choose as explanatory variables?

Answer 1

1.

A.

Arc price elasticity of desktop PC = % change in quantity demanded / % change in price

Arc price elasticity of desktop PC = 25%/((800-1000)/(800+1000)/2)

Arc price elasticity of desktop PC = -4.5

The arc price elasticity of desktop PC is -4.5 and its absolute value is greater than 1. It means that demand for dektop PC is relatively elastic in nature. It means that demand is price elastic in nature.

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B.

Sale of laser printer has increased, because it is used with the desktop PC. When sale of desktop PC increases, then sale of laser printer also increases. It makes, laser printer and desktop PC are complementary goods.

Arc cross price elasticity of laser printers = 15%/((800-1000)/(800+1000)/2)

Arc cross price elasticity of laser printers = -2.7

Since arc cross price elasticity of laser printers is negative, then it means that laser printer and desktop PC are complementary goods.

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C.

Yes, the policy is beneficial, because there is a huge response in sale of desktop PC as well as laser printers. With 10% decrease in price of desktop PC, there is a rise in sale of 45% in desktop PC and 27% increase in sale of laser printers. So, profitability increases as decrease in price is well compensated by the increase in sale of more number of units.

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D.

Explanatory variables will be price of desktop PC, price of laser printer (complementary goods) as well as income of the consumer. Though, income of the consumer is not mentioned in the given problem statement.