Question

•Drawing on the influences (determinants) of price elasticity of demand, explaining whether the demand for petrol in Australia is elastic or inelastic. Illustrate the effect of price drop on the total revenue of a petrol station.

•Part 1: explain whether demand for petrol is elastic or inelastic by exploring the determinants of price elasticity of demand.

•Part 2: explain and draw a graph on the impact of price rise on total revenue of a petrol station. You may draw a graph similar to those in figure 4.2 on page 106.

Answer 1

Elasticity of demand of petrol will be relatively inelastic becuase consumers does not change their quantity demanded by large even if there is rise in price.

Elasticity of petrol would be less than 1 which means %change in quantity demanded < %change in price.

Price drop of petrol will result in fall in total revenue because consumers would not change their quantity demanded.

a) The major determinant of elasticity of demand:

• Consumers are habitual to drive cars and it have become necessary good for consumers. Elasticity of necssary goods is always inelastic.
• There is no perfect substitutes available to petrol on which consumers can rely to run their cars which makes demand inelastic of petrol.

b) If price of petrol rises, total revenue of petrol station will rise due to its inelastic demand. In the diagram below, when price falls from E to A, quantity demanded rises from G to C. We can see that %increase from point G to point C is less than % decrease from point E to point A.