Question

1. The following information describes the demand schedule for the market for a particular good. Use this information to determine the price elasticity of demand with a price change from $3,000 to $3,300. Show your work.

Price	Quantity demanded
$3,000	240,000
$3,300	200,000
$3,600	160,000
$3,900	120,000
$4,200	80,000

2. Suppose that you are the owner of the firm that produces this good and that you currently charge $3,000 per unit. Your closest competitors charge $3300 for an identical product. Describe how you can use the information about elasticity to determine whether or not to increase your prices.
3. Compute the total revenue under both price schemes. What happens to your total revenue if you decide to increase prices? Show your work.

Answer 1

(a)

Using midpoint method,

Elasticity (Ed) = (Change in Qd / Average Qd) / (Change in P / Average P)

= [(200,000 - 240,000) / (200,000 + 240,000)] / [(3,300 - 3,000) / (3,300 + 3,000)]

= (- 40,000 / 440,000) / (300 / 6,300)

= - 1.91

(b)

Since |Ed| > 1, demand is elastic. With elastic demand, an increase in price will decrease revenue, so it is better not to increase price to 3,300.

(c)

TR = P x Q

When P = 3,000, TR = 3,000 x 240,000 = 720 million

When P = 3,300, TR = 3,300 x 200,000 = 660 million

Therefore, when price is increased, TR is lower by (720 - 660) = 60 million.