Question

Suppose you are appointed as the CEO of Spoornet at a time when it is making a loss on passenger transport. The Financial Director informs you that the price elasticity of passenger rail services is 1.4. Provide and justify a strategy you would use to restore profitability at Spoornet. (9marks)

Answer 1

The price elasticity of demand of passenger rail services is 1.4. It means demand is price elastic. If you increase the rail service ticket price, even if by a little amount, quantity demanded will decrease by relatively larger amount and total revenue will decrease. But if you lower the ticket price, even by a smaller amount, quantity demanded will increase by relatively larger amount and therefore total revenue will increase. Therefore, profit will also increase. In short, in case of elastic demand, Change in price and change in total revenue moves in the opposite direction. So, to restore the profitability, you should decrease the price of passenger transport.