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.

1. Calculate the arc price elasticity of desktop PC. Explain what it means.
2. 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?
3. Was the new policy beneficial for increasing the revenues of the producer? Explain.
4. If you were to estimate a demand equation for desktop computers, which variables would you choose as explanatory variables?

Answer 1

a) P changes from $1000 to $800

%change in price= (Change in P / P)*100

= (200/1000)*100

%change in price = 20%

%change in quantity of Desktop = 25%

%change in quantity of Laser printer = 15%

Price elasticity of desktop PC = % change in qty demand/ % change in Price

= 25%/20%

= 1.25

Price elasticity of desktop PC is greater than 1. This means that demand is elastic and Consumer are very sensitive to change in price. a 1% increase in price will lead to a drop in quantity demanded of more than 1%.

b) sale of laser printer increases because people who are buying desktop may also buy laser printer because they are complementary goods. So when the price of Desktop decreases, quantity demand for desktop PC increases. and when the quantity demand of Desktop PC increases than demand of laser printer also increases.

Cross Price elasticity of laser printer = % change in qty of laser printer / % change in Price of Desktop PC

= 15% / 20%

= 0.75

Desktop PC and Laser Printer are complementary goods because the decrease in the price of one good causes increases in demand of other goods.

c) Yes, the new policy is beneficial for increasing the revenue of the producer. because decrease in price of desktop PC not only increase the demand of Desktop PC by 25% but also the demand of Laser Printer by 15%. So this 15% will be a bonus to producer's revenue.

d) To estimate a demand equation for desktop computers, Price is the explanatory variable because demand equation shows the relationship between quantity demanded and price that is the different quantity at different prices.