Question

For each of the following,

(a) calculate the elasticity,

(b) interpret your result (in terms of whether a good is elastic/inelastic, luxury/necessity, and what the percentage change in quantity will be in response to a 1% change in price), and

(c) indicate what would happen to revenues for this good if the price was increased

1. In response to a 10% increase in price, the quantity demanded of Bubly decreased by 20%
2. In response to a 5% decrease in price, the quantity demanded of steak increased by 60%
3. In response to a 10% increase in price, the quantity demanded did not change.

Part 2:

Figure out how much the quantity demanded changed for each of the following:

1. When the price elasticity of demand is 3, and the price increases by 10%.
2. When the price elasticity of demand is 0, and the price increases by 10%.
3. When the price elasticity of demand is 0.3, and the price increases by 10%.

Answer 1

Note that whether the good is a necessary/necessity good or luxury good, basically depend on the income elasticity of demand, not on the price elasticity of demand. It necessity is a factor in determination of elasticity, in the sense that if a good is necessary its demand would not change much for an increase in price, than if a good is not a necessary one. The below answers considers the non-necessary goods as luxury one, but it should be concerned that the income elasticity is the one that's mainly to be concerned.

1. i (a) The elasticity would be or or .

(b) This means that for a unit percent increase in price, the demand would decrease by 2%. As , the demand is elastic, and the good is a luxury one.

(c) If the price increases, then demand would decrease more than the price increase, meaning that the revenue would decrease.

ii. (a) The elasticity would be or or .

(b) This means that for a unit percent increase in price, the demand would decrease by 12%. As , the demand is elastic, and the good is a luxury one.

(c) If the price increases, then demand would decrease (much) more than the price increase, meaning that the revenue would decrease.

iii. (a)

The elasticity would be or or .

(b) This means that for a unit percent increase in price, the demand would decrease by 0% (another way of saying that the demand would not change at all). As , the demand is (perfectly) inelastic, and the good is a (quite) necessity one.

(c) If the price increases, then demand would not decrease more than the price increase, meaning that the revenue would increase.

2. i. We have or or or 30%, meaning that the demand would change by 30%.

ii. We have or or or 0%, meaning that the demand would change by 0% or it would not change at all.

iii. We have or or or 3%, meaning that the demand would change by 3%.

Note that if the law of demand is valid, then the elasticity would be negative, and the demand would decrease for an increase in price by the stated amounts.