Question

The Sylvan Corporation produces wood sorrels. The price elasticity of demand is 0.25.

a. What will happen to the quantity demanded if Sylvan raises its price by 10 percent?

b. What will happen to Sylvan’s revenues following this price increase?

• Suppose that the cross-price elasticity of demand for good m is 1.75 and price of good n falls by 10 percent.

a. What is the relationship between good m and good n?

b. How will the fall in the price of good n affect sales of good m?

• Suppose that the income elasticity of demand for a good is 3.5.

a. How would you classify this good?

b. What increase in income is required for demand to increase by 21 percent?

Answer 1

1.

a) Given the e= 0.25 i.e. demand is relatively inelastic, and increase in price by 10 percent will lead to a fall in quantity demanded by 2.5%

b) Since price increases, quantity falls and demand is inelastic, the total revenue will increase.

2.

a) Given that demand is cross price elastic ( e= 1.75 means relatively elastic demand to other goods), a fall in the price of n will lead to a fall in the demand for good m. Thus, good n and m are substitute goods.

b) A fall in the price og good n by 10% will lead to a fall in demand for good m by 17.5%

3.

a) Since income elasticity >1, the good is a normal good.

b) for an increase in demand by 21%, the income should increase by 21/3.5 = 6%.