Question

The price elasticity of demand for air travel differs radically from first-class (-3) to unrestricted coach (-4) to restricted discount coach (-9).  What do these elasticities mean for optimal prices (fares) on a cross-country trip with incremental variable costs (marginal costs) equal to $120?

Answer 1

MR = P( 1 + 1/ Ed)
and MR = MC. ( at profit maximizing point )
where ,
P is optimal price
Ed = price elasticity of demand
MC = marginal cost

First Class
MC = P( 1 + 1/ Ed)
120 = P(1 + 1/-3)
120 = P(1 - 1/3)
120 = P(2/3)
P = 120*(3/2)
P = 180

Unrestricted Coach
MC = P( 1 + 1/ Ed)
120 = P(1 + 1/-4)
120 = P(1 - 1/4)
120 = P(3/4)
P = 120*(4/3)
P = 160

Restricted discount
MC = P( 1 + 1/ Ed)
120 = P(1 + 1/-9)
120 = P(1 - 1/9)
120 = P(8/9)
P = 120*(9/8)
P = 135