Question

If demand is price inelastic, a decrease in price will cause a

     a. larger percentage increase in quantity demanded than the percentage decrease in price,

         thereby decreasing total revenue.

     b. smaller percentage decrease in quantity demanded than the percentage decrease in price,

         thereby decreasing total revenue.

     c. smaller percentage decrease in quantity demanded than the percentage decrease in price,

         thereby increasing total revenue.

     d. larger percentage decrease in quantity demanded than the percentage decrease in price,

         thereby decreasing total revenue.

      e.none of these choices are correct

.          Suppose that there is a recession and you observe that the market price of new cars decreases and

             the market price of used cars increases. This observation is consistent with:

1. new cars being a normal good
2. used cars being an inferior good
3. new cars being an inferior good and used cars being a normal good
4. new cars being a normal good and used cars being an inferior good

8.         Suppose that builders of new single family homes and prospective first time buyers of single

            family homes believe that housing prices will fall in the future. This would lead to:

1. market price to rise and quantity to be ambiguous
2. market price to fall and quantity to be ambiguous
3. market quantity to fall and price to be ambiguous
4. market quantity to rise and price to be ambiguous

.       The demand for good X will be more elastic

a.         the larger the number of substitutes

b.         the larger percentage good X takes in the consumer's budget.

c.         the longer the time period consumers have to adjust to a change in the price of good X

e.         all of these answers are correct

Answer 1

1.  e. None of these choices are correct.

If demand is price inelastic, a decrease in price will cause a smaller percentage increase in quantity demanded, thereby decreasing the total revenue.

The price and quantity demanded are inversely related. When demand is price inelastic, then the percentage change in quantity demanded is less than the percentage change in price. Thus, if price decreases, the quantity demanded will increase less than the decrease in price. Thus the total revenue(Price * Quantity) falls.

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2. d. New cars being a normal good and used cars being an inferior good.

During a recession, the income falls. Now, if I observe that the market price of new cars decreases, it means that the demand for new cars decreases, i.e., the demand curve for new cars has shifted leftward for the decrease in income. If the market price of used cars increases, it means that the demand for used cars increases, i.e., the decrease in income has shifted the demand curve of used cars rightward. So, for the recession, the income has decreased. The decrease in income decreases the demand for new cars, and the decrease in income increases the demand for used cars. So, the income and demand for new cars are directly related, and the income and demand for old cars are inversely related. Thus, the new cars are normal good, and the old cars are inferior good.

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3. b. Market price to fall and quantity to be ambiguous.

If the builders of new single family homes believe that housing prices will fall in the future, the supply of housing at present will increase. So, the supply curve of housing will shift rightward. If the prospective first time buyers of single family homes believe that housing prices will fall in the future, the demand for housing at present will decrease. So the demand curve of housing will shift leftward. The shift of the curves will decrease the equilibrium price in the housing market, but the equilibrium quantity may increase, decrease or may remain unchanged depends on the relative change of the supply curve and the demand curve.

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4. e. All of these answers are correct.

The demand for good X will be more elastic, if

• good X has larger number of substitutes
• the larger percentage of good X takes in the consumer's budget.
• the longer the time period consumers have to adjust to a change in the price of good X

If Good X has large number of substitutes, a small increase in the price of good X, will have a large impact on the quantity demanded for good X. The quantity demanded for good X will decrease more than the increase in the price of good X..The larger percentage of good X takes in the consumer's budget, the higher will be its elasticity. Again, the longer the time period, the more substitutes of good X become available in the market. Thus, the consumers can adjust to a change in the price of good X.

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