CHAPTER 4: Elasticity (Pg. 82-95)
Answers to the Review Quizzes
Review Quiz Page 88
1. The elasticity of demand is a unit-free measure, which is a better measure than the slope ratio
for the responsiveness of quantity changes to price changes. The slope of the demand curve
will change as the units measuring the same quantity of the good change (going from pounds
to ounces, for example). The value of the elasticity is independent of the units used to
measure the price and quantity of the product and can be compared across the same good
when quantity is measured in different units, or can be compared across different goods when
they are measured in different units.
2. The price elasticity of demand is the absolute value (or magnitude) of the ratio of the
percentage change in the quantity demanded to the percentage change in the price. The
percentage change in quantity (price) is measured as the change in quantity (price) divided by
the average quantity (price). The ratio of two percentages causes the unit measures to
disappear, leaving a unit-free measure.
3. Using the average of both price and quantity gives the elasticity at the midpoint between the
original price and the new price. If we only used percentage change from the original price,
we would have a larger value for the elasticity between two prices when calculating for a
price rise than when calculating for a price fall. Using the average price and quantity
measures avoids the value of elasticity being dependent upon whether a price change reflects
a price increase or decrease.
4. The total revenue test is a method of estimating the price elasticity of demand by observing
the change in total revenue, given a change in price, holding all other things constant. The
total revenue test shows that a price cut increases total revenue if demand is elastic, decreases
total revenue if demand is inelastic, and does not change total revenue if demand is unit
elastic.
5. The magnitude of the price elasticity of demand for a good depends on three main influences:
a. Closeness of substitutes. The more easily people can substitute other items for a
particular good, the larger is the price elasticity of demand for that good.
b. The proportion of income spent on the good. The larger the portion of the consumer’s
budget being spent on a good, the greater is the price elasticity of demand for that good.
c. The time elapsed since a price change. Usually, the more time that has passed after a
price change, the greater is the price elasticity of demand for a good.
6. Demand for a necessity is generally less elastic than demand for a luxury because: (i) there
are fewer substitutes for a necessity, and (ii) the proportion of our budgets spent on
necessities is usually relatively larger than on luxuries.
2
Review Quiz Page 91
1. Cross elasticity of demand measures how the quantity demanded of a good responds to a
change in the price of another good. The formula for cross price elasticity is the percentage
change in the quantity of the good demanded divided by the percentage change in the price of
the related good.
2. The sign of the cross elasticity of demand reveals whether two goods are substitutes or
compliments: The cross elasticity of demand is positive for substitute goods and negative for
complement goods.
3. Income elasticity of demand measures how the quantity demanded of a good responds to a
change in income. The formula for income elasticity is the percentage change in the quantity
of the good demanded divided by the percentage change in income.
4. The sign of income elasticity of demand reveals whether a good is a normal good or an
inferior good: The income elasticity of demand is positive for normal goods and negative for
inferior goods.
5. The level of a person’s income can influence the income elasticity of demand by changing
how a good or service is perceived. Some goods, such as automobiles, might seem like a
luxury when a person’s income is very low, but seem like a necessity when income is very
high. Therefore, the income elasticity for some goods, like automobiles, might decrease
(become less elastic) as incomes increase.
Review Quiz Page 94
1. Supply elasticity is an important component of understanding how resources will be allocated
when changes in the market lead producers to adjust their level of output. For example, how
many additional antibiotics will be available if a sudden outbreak of anthrax is detected in
our country, resulting in a significant increase the demand for such drugs?
2. The elasticity of supply measures the responsiveness of the quantity supplied to a change in
the price of a good when all other influences on selling plans remain the same. The elasticity
of supply is calculated by the percentage change in the quantity supplied divided by the
percentage change in the price.
3. The main influences on the elasticity of supply are:
a. Resource substitution possibilities: the greater the suppliers’ ability to substitute
resources, the greater will be their ability to react to price changes and the greater the
elasticity of supply.
b. Time frame for the supply decision: the greater the amount of time available after the
price change, the greater is the supplier’s ability to adjust quantity supplied, and the
greater the elasticity of supply.
3
4. Students’ answers will vary. Here are some examples:
a. The momentary supply of wheat is perfectly inelastic. Once farmers have brought their
wheat to market, there is no other alternative use for it and they sell it all regardless of the
going price.
b. The short-run supply of wheat. If the farmers already have a mature wheat crop but have
not yet harvested it, farmers with both relatively high and low yield fields may chose to
harvest both types of fields if the price for wheat is high. However, the farmers will not
harvest their low yield fields when the price of wheat is relatively low, in order to
economize on added labour costs.
c. The supply of wheat to an individual buyer. Any one buyer can purchase as much wheat
at the going price as he or she desires. However, no quantity of wheat will be supplied at
a lower price.
5. The momentary supply, short-run supply, and long-run supply all illustrate the response of
suppliers to changes in the price, but they differ according to how much time has elapsed
after the price change.
a. The momentary supply curve is frequently the least elastic and shows how suppliers
cannot easily respond to a price change immediately after the price change occurs.
Changing the quantity produced means changing the inputs into the production process,
which takes time to complete. Sometimes the momentary supply is perfectly inelastic.
b. The short-run supply shows suppliers’ response after enough time has elapsed for some,
but not all, of the possible technological adjustments have been made. Short-run supply
generally is intermediate in elasticity between the momentary supply and the long-run
supply.
c. The long-run supply shows how suppliers react after enough time has passed that all
possible adjustments to productive factors have been made to accommodate the price
change. It usually is the most elastic of the three supply curves.
Answers to the Problems
1. a. The price elasticity of demand is 1.25.
The price elasticity of demand equals the percentage change in the quantity demanded
divided by the percentage change in the price. The price rises from $4 to $6 a box, a rise
of $2 a box. The average price is $5 a box. So, the percentage change in the price equals
$2 divided by $5, which equals 40 percent.
The quantity decreases from 1,000 to 600 boxes, a decrease of 400 boxes. The average
quantity is 800 boxes. So, the percentage change in quantity equals 400 divided by 800,
which equals 50 percent.
The price elasticity of demand for strawberries equals 50 divided by 40, which is 1.25.
b. The price elasticity of demand exceeds 1, so the demand for strawberries is elastic.
2. a. The price elasticity of demand is 1.5. The price elasticity of demand equals the
percentage change in the quantity demanded divided by the percentage change in the
price. The price falls from $7 to $5 a basket, a fall of $2 a basket. The average price is
4
$6 a basket. So, the percentage change in the price equals $2 divided by $6, which equals
33.3 percent.
The quantity increases from 300 to 500 baskets, an increase of 200 baskets. The average
quantity is 400 baskets. So, the percentage change in quantity equals 200 divided by 400,
which equals 50 percent.
The price elasticity of demand for tomatoes equals 50 divided by 33.3, which is 1.5.
b. The price elasticity of demand exceeds 1, so the demand for tomatoes is elastic.
3. a. The price elasticity of demand is 2. When the price of a videotape rental rises from $3 to
$5, the quantity demanded of videotapes decreases from 75 to 25 a day. The price
elasticity of demand equals the percentage change in the quantity demanded divided by
the percentage change in the price.
The price increases from $3 to $5, an increase of $2 a videotape. The average price is $4
a videotape. So, the percentage change in the price equals $2 divided by $4, which
equals 50 percent.
The quantity decreases from 75 to 25 videotapes, a decrease of 50 videotapes. The
average quantity is 50 videotapes. So, the percentage change in quantity equals 50
divided by 50, which equals 100 percent.
The price elasticity of demand for videotape rentals equals 100 divided by 50, which is 2.
b. The price elasticity of demand equals 1 at $3 a videotape. The price elasticity of demand
equals 1 at the price halfway between the origin and the price at which the demand curve
hits the y-axis. That price is $3 a videotape.
4. a. The price elasticity of demand is 2. When the price of a pen rises from $6 to $10, the
quantity demanded of pens decreases from 60 to 20 a day. The price elasticity of demand
equals the percentage change in the quantity demanded divided by the percentage change
in the price.
The price rises from $6 to $10, an increase of $4 a pen. The average price is $8 a pen.
So, the percentage change in the price equals $4 divided by $8, which equals 50 percent.
The quantity decreases from 60 to 20 pens, a decrease of 40 pens. The average quantity
is 40 pens. So, the percentage change in quantity equals 40 divided by 40, which equals
100 percent.
The price elasticity of demand for pens equals 100 divided by 50, which is 2.
b. The price elasticity of demand equals 1 at $6 a pen. The price elasticity of demand is
greater than 1 at prices greater than $6 a pen. The price elasticity of demand is less than
1 at prices less than $6 a pen.
The price elasticity of demand equals 1 at the price halfway between the origin and the
price at which the demand curve hits the y-axis. That price is $6 a pen.
The demand curve is linear. Along a linear demand curve, the price elasticity of demand
is greater than 1 at points above the midpoint and less than 1 at points below the
midpoint. The price elasticity of demand is greater than 1 at prices above $6 a pen and
less than 1 at prices below $6 a pen.
5. The demand for dental services is unit elastic. The price elasticity of demand for dental
services equals the percentage change in the quantity of dental services demanded divided by
5
the percentage change in the price of dental services. The price elasticity of demand equals
10 divided by 10, which is 1. The demand is unit elastic.
6. The demand for haircuts is elastic. The price elasticity of demand for haircuts equals the
percentage change in the quantity of haircuts demanded divided by the percentage change in
the price of a haircut. The price elasticity of demand equals 10 divided by 5, which is 2. The
demand for haircuts is elastic.
7. a. Total revenue increases. When the price of a chip is $400, 30 million chips are sold and
total revenue equals $12,000 million. When the price of a chip falls to $350, 35 million
chips are sold and total revenue is $12,250 million. Total revenue increases when the
price falls.
b. Total revenue decreases. When the price is $350 a chip, 35 million chips are sold and
total revenue is $12,250 million. When the price of a chip is $300, 40 million chips are
sold and total revenue decreases to $12,000 million. Total revenue decreases as the price
falls.
c. Total revenue is maximized at $350 a chip. When the price of a chip is $300, 40 million
chips are sold and total revenue equals $12,000 million. When the price is $350 a chip,
35 million chips are sold and total revenue equals $12,250 million. Total revenue
increases as the price rises from $300 to $350 a chip. When the price is $400 a chip, 30
million chips are sold and total revenue equals $12,000 million. Total revenue decreases
as the price rises from $350 to $400 a chip. Total revenue is maximized when the price is
$350 a chip.
d. The demand for chips is unit elastic. The total revenue test says that if the price changes
and total revenue remains the same, the demand is unit elastic at the average price. For
an average price of $350 a chip, cut the price from $400 to $300 a chip. When the price
of a chip falls from $400 to $300, total revenue remains at $12,000 million. So, at the
average price of $350 a chip, demand is unit elastic.
8. a. Total revenue increases. When the price of a pound of sugar is $5, 25 million pounds are
sold and total revenue equals $125 million. When the price of a pound of sugar rises to
$15, 15 million pounds are sold and total revenue is $225 million. Total revenue
increases.
b. Total revenue does falls. When the price of a pound of sugar is $15, 15 million pounds
are sold and total revenue is $225 million. When the price of a pound of sugar is $25, 5
million pounds are sold and total revenue is $125 million. Total revenue falls.
c. Total revenue is maximized at $15 a pound. The total revenue test says that if the price
rises and total revenue remains the same, total revenue is maximized and demand is unit
elastic at the average price. Total revenue is maximized at the price at which price
elasticity of demand is 1. Draw the graph and extend the demand (which is linear) until it
cuts the y-axis. The price halfway between the origin and the price at which the demand
curve cuts the y-axis is the price at which elasticity is 1. The demand curve will cut the
y-axis at $30 a pound. So, the elasticity of demand for sugar equals 1 at a price of $15 a
pound.
You can check your answer by calculating the elasticity at an average price of $15 a
pound. When the price rises from $10 to $20 a pound, the average price is $15 a pound.
6
The price rises from $10 to $20, an increase of $10 a pound. The average price is $15 a
pound. So, the percentage change in the price equals $10 divided by $15, which equals
66.67 percent.
The quantity decreases from 20 to 10 pounds, a decrease of 10 pounds. The average
quantity is 15 pounds. So, the percentage change in quantity equals 10 divided by 15,
which equals 66.67 percent.
The price elasticity of demand equals 66.7/66.7, which is 1.
d. The demand for sugar is elastic. The total revenue test says that if the price rises and
total revenue decreases, the demand is elastic at the average price. For an average price
of $20 a pound, raise the price from $15 to $25 a pound. Question 8(b) has calculated the
change in total revenue when the price rises from $15 to $25 a pound. Total revenue
decreases from $225 million to $125 million. So, at the average price of $20 a pound,
demand is elastic.
9. The demand for chips is inelastic. The total revenue test says that if the price falls and total
revenue falls, the demand is inelastic. When the price falls from $300 to $200 a chip, total
revenue decreases from $12,000 million to $10,000 million. So, at an average price of $250
a chip, demand is inelastic.
10. The demand for sugar is inelastic. The total revenue test says that if the price rises and total
revenue increases, the demand is inelastic at the average price. For an average price of $10 a
pound, raise the price from $5 to $15 a pound. Question 8(a) has calculated the change in
total revenue when the price rises from $5 to $15 a pound. Total revenue increases from $75
million to $225 million. So, at the average price of $10 a pound, demand is inelastic.
11. The cross elasticity of demand between orange juice and apple juice is 1.17. The cross
elasticity of demand is the percentage change in the quantity demanded of one good divided
by the percentage change in the price of another good. The rise in the price of orange juice
resulted in an increase in the quantity demanded of apple juice. So the cross elasticity of
demand is the percentage change in the quantity demanded of apple juice divided by the
percentage change in the price of orange juice. The cross elasticity equals 14 divided by 12,
which is 1.17.
12. The cross elasticity of demand between chicken and beef is 4. The cross elasticity of demand
is the percentage change in the quantity demanded of one good divided by the percentage
change in the price of another good. The fall in the price of chicken resulted in a decrease in
the quantity demanded of beef. So the cross elasticity of demand is the percentage change in
the quantity demanded of beef divided by the percentage change in the price of chicken. The
cross elasticity equals 20 divided by 5, which is 4.
13. Income elasticity of demand for (i) bagels is 1.33 and (ii) donuts is -1.33. Income elasticity
of demand equals the percentage change in the quantity demanded divided by the percentage
change in income. The change in income is $2,000 and the average income is $4,000, so the
percentage change in income equals 50 percent.
7
(i) The change in the quantity demanded is 4 bagels and the average quantity demanded is 6
bagels, so the percentage change in the quantity demanded equals 66.67 percent. The
income elasticity of demand for bagels equals 66.67/50, which is 1.33.
(ii) The change in the quantity demanded is -6 donuts and the average quantity demanded is
9 donuts, so the percentage change in the quantity demanded is 66.67. The income
elasticity of demand for donuts equals
14. Income elasticity of demand for (a) concert tickets is 0.56 and (b) bus rides is 0.375.
Income elasticity of demand equals the percentage change in the quantity demanded divided
by the percentage change in income. The change in income is $4,000 and the average
income is $15,000, so the percentage change in income equals 26.67 percent.
a. The change in the quantity demanded of concert tickets is 15 percent. The income
elasticity of demand for concert tickets equals 15/26.67, which is 0.56.
b. The change in the quantity demanded of bus rides is -10 percent. The income elasticity
of demand for bus rides equals -10/26.67, which is -0.375.
15. a. The elasticity of supply is 1. The elasticity of supply is the percentage change in the
quantity supplied divided by the percentage change in the price. When the price falls
from 40 cents to 30 cents, the change in the price is 10 cents and the average price is 35
cents. The percentage change in the price is 28.57.
When the price falls from 40 cents to 30 cents, the quantity supplied decreases from 800
to 600 calls. The change in the quantity supplied is 200 calls, and the average quantity is
700 calls, so the percentage change in the quantity supplied is 28.57.
The elasticity of supply equals 28.57/28.57, which equals 1.
b. The elasticity of supply is 1. The formula for the elasticity of supply calculates the
elasticity at the average price. So, to find the elasticity at an average price of 20 cents a
minute, change the price such that 20 cents is the average price - for example, a fall in the
price from 30 cents to 10 cents a minute.
When the price falls from 30 cents to 10 cents, the change in the price is 20 cents and the
average price is 20 cents. The percentage change in the price is 100. When the price
falls from 30 cents to 10 cents, the quantity supplied decreases from 600 to 200 calls.
The change in the quantity supplied is 400 calls and the average quantity is 400 calls.
The percentage change in the quantity supplied is 100.
The elasticity of supply is the percentage change in the quantity supplied divided by the
percentage change in the price. The elasticity of supply is 1.
16. a. The elasticity of supply is 3.25. The elasticity of supply is the percentage change in the
quantity supplied divided by the percentage change in the price. When the price rises
from $125 to $135, the change in the price is $10 and the average price is $130. The
percentage change in the price is 7.7.
When the price rises from $125 to $135, the quantity supplied increases from 2,800 to
3,600 million pairs. The change in the quantity supplied is 800 million pairs, and the
average quantity is 3,200 million pairs, so the percentage change in the quantity supplied
is 25.
The elasticity of supply equals 25/7.7, which equals 3.25.
8
b. The elasticity of supply is 3.57. The formula for the elasticity of supply calculates the
elasticity at the average price. So, to find the elasticity at $125, change the price such
that $125 is the average price - for example, a fall in the price from $130 to $120.
When the price falls from $130 to $120, the change in the price is $10 and the average
price is $125. The percentage change in the price is 8. When the price falls from $130 to
$120, the quantity supplied decreases from 3,200 to 2,400 million pairs. The change in
the quantity supplied is 800 millions pairs and the average quantity is 2,800 million pairs.
The percentage change in the quantity supplied is 28.57.
The elasticity of supply is the percentage change in the quantity supplied divided by the
percentage change in the price. The elasticity of supply is 3.57.