Question

Q2: Last year, the equilibrium price of strawberries was $4.60 per kilogram and the equilibrium quantity of strawberries was 5.8 million kilograms. This year, the equilibrium price of strawberries increased to $5.10 per kilogram and the equilibrium quantity increased to 6.2 million kilograms due to an increase in average income from $36,400 to $37,200.

Use this information to answer the following questions.

Hint: Draw the market for strawberries and review the meaning of the four measures of elasticity examined in this course.

a) Why is it impossible to calculate the price elasticity of demand for strawberries from the information given above?

b) Why is it impossible to calculate the income elasticity of demand for strawberries from the information given above?

c) Which measure of elasticity can be calculated from the information given above?

Answer 1

(i) When price is $4.60, equilibrium quantity = 5.8 million
(ii) When price is $5.10, income increased from $36,400 to $37,200; quantity = 6.2 million

a) It is impossible to calculate the price elasticity of demand for strawberries because (i) (above) gives a situation where we know the demand in relation to price. But in situation (ii) above, we do not know if the quantity increased due to increase in price (in which case, strawberrries are inferior goods), or due to increase in income (in which case,strawberries are normal goods). However, to calculate price elasticity of demand, we must know the quantity demanded when price increased to $5.10 indubitably due to increase in price. But we cannot be certain that the increase in quantity demanded happened due to increase in price. Hence we cannot calculate the price elasticity of demand for strawberries

b) It is impossible to calculate the income elasticity for strawberries because (ii) above gives us a situation when we certainly knnow the quantity demanded is 6.2 million when income is $37,200. But we do not know for sure what the quantity demanded was when income was $36,400. So, it is not possible to calculate income elasticity of strawberries.

c) We cannot calculate price elasticity of demand nor income elasticity of stawberries due to lack of indubitable data. .Therefore, we cannot use the percentage method, arc method nor the midpoint method of elsticity. However, we can certainly say if the demand is elastic or inelastic by using the total expenditure method. According to the total expenditure method, if the increase in price results in increase in total expendiure, then the demand is said to be inelastic. If the increase in price results in a decrease in total expenditure, then the demand is elastic.

According to (i) above, total expenditure = price* quantity = 4.60 * 5.8 = 26.68 million.
According to (ii) above, total expenditure = price * quantity = 5.10*6.2 = 31.62 million. We see that the total expenditure has increased. Price and total expenditure move in the same direction. Therefore, strawberries have inelastic demand.