Question

Waffle Co. sells 100,000 bicycles each year at $250 per bicycle. From past experience the manager of Waffle Co. believes the price elasticity of the company’s bicycles is approximately - 0.8. The manager is thinking of increasing the bicycle’s prices to $300 per bicycle, an increase of 20%.

1. Calculate the anticipated % change in the company’s sales volume.
2. Calculate the new total revenue.
3. Should the manager of Waffle Co change his pricing strategy? Justify your answer

Answer 1

i) Elasticity of demand = -0.8

%change in price = 20%

Elasticity of demand = %change in quantity demanded / %change in price

-0.8 = %change in quantity demanded = 20%

%change in quantity demanded = -16%

There always exist negative relationship between price and quantity demanded, %change in quantity demanded = 16%

ii) Initial total revenue = 100,000 * 250 = 25,000,000

New quantity demanded = 84,000

New revenue = 84,000 * 300 = 25,200,000

iii) As elasticity of demand is inelastic, raising price will raise total revenue as consumers are less responsive to rise in price.