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In: Economics

When the New York City Opera faced a growing deficit, it cut its ticket prices by...

When the New York City Opera faced a growing deficit, it cut its ticket prices by 20% hoping to attract more customers. At the same time, the New York Transit Authority raised subway fares to reduce its growing deficit. Are one of these two opposite approaches to reducing a deficit necessarily wrong? Explain fully.

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Expert Solution

Increase or decrease in fares or price, should be based upon the elasticity of demand. If demand is relatively inelastic in nature, then it is good to increase the price as it will less affect the demand. So, more revenue can be generated and deficit is covered up. If demand is elastic, then it is good to decrease the price as more demand increases and revenue level is increased to cover the deficit.

Hence, it is important for the Opera to assess first the elasticity of demand of its shows. If demand is price elastic, then it is good to decrease the ticket price and get more customers. If not and demand is inelastic, then this strategy of reducing the price is going to backfire and deficit will further increase.  

In contrast to it, if transit authorities assess that demand is inelastic for the use of subway and raise the subway fare, then it is going to help them and deficit will be covered by raising more revenue.

So, the elasticity of demand, decides the right strategy. If demand for opera is elastic and demand for subway is inelastic, then both of these entities are right in their pricing strategy, even if it is in opposite direction. But, if the demand for opera is inelastic and demand for subway use is elastic, then both the strategies can create more harm.

Rahul Sunny answered 2 years ago
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