Question

The price elasticity of demand for imported whiskey is estimated to be −0.70 over a wide interval of prices. The federal government decides to raise the import tariff on foreign whiskey, causing its price to rise by 20 percent.

a. Will the quantity demanded on imported whiskey rise or fall, and by what percentage amount?

b. What is the percentage change in the total revenue of imported whisky after the tariff increases?

c. What will be the impact on domestic whisky demand after the tariff increases?

Answer 1

Answer a.            Quantity demanded will fall by 14%

Explanation

Price elasticity of demand = Percentage change in quantity demanded/percentage change in price

Price elasticity of demand = -0.7

Percentage change in price = 20%

Therefore, percentage change in quantity demanded = -0.7*20 =-14%

b.            Total revenue will increase by 3.2%

We know that

Total revenue = Price *Quantity

Percentage change in total revenue = Percentage change in price + Percentage change in quantity + ((percentage change in price*percentage change in quantity)/100)

Percentage change in total revenue = 20% + (-14%) + (-(20%*14%)/100)

=6% - 2.8% =3.2%

c.             Demand for domestic whiskey increases since foreign imported whiskey has become more expensive.