Question

Recently, Verizon Wireless ran a pricing trial in order to estimate the elasticity of demand for its services. The manager selected three states that were representative of its entire service area and increased prices by 5 percent to customers in those areas. One week later, the number of customers enrolled in Verizon’s cellular plans declined 4 percent in those states, while enrollments in states where prices were not increased remained flat. The manager used this information to estimate the own-price elasticity of demand and, based on her findings, immediately increased prices in all market areas by 5 percent in an attempt to boost the company’s 2016 annual revenues. One year later, the manager was perplexed because Verizon's 2016 annual revenues were 10 percent lower than those in 2015—the price increase apparently led to a reduction in the company’s revenues. Did the manager make an error? Explain.

Answer 1

Yes, the manager made an error.

EXPLAINATION:

Increasing the revenue of a firm depends on two factors which are price and effective demand. An increase in price without a fall in demand will increase revenue, an increase in demand without a fall in price will equally increase revenue.

However, when manipulating price only in order to increase revenue care must be taken to ensure same or higher level of demand for an increase in price which lead to a fall in demand may boomerang for the firm.

Example:

Year Price($) Demand Revenue($)

1 7 60 420

2 9 40 360

The above example proves that an increase an price without a rise or maintaining the same level of demand leads to fall in revenue.