Question

The demand for Wanderlust Travel Services is estimated to be: Qdx = 22,000 – 2.5Px + 4Py – 1M – 1.5Ax Ax represents the amount of advertising spent on X and M represents consumer income. The other variables have their usual interpretations. Suppose the price of good X is $450, Good Y sells for $40, the company utilizes 3,000 units of advertising and consumer income is $20,000. What impact does a price shift of good Y have on Qdx? As the price of good Y Answer , Qdx __________________. There is a ______________ effect.

Answer 1

To understand the answer, we must understand the demand function. The demand function shows that as Py increases, Qdx will also increase. This is indicated by the positive sign before the Py variable. Thus as Py rises, Qdx rises. This is because there is substitution effect. As price of Y rises people decrease demand for y and demand more x which is why Qdx increases.

To verify numerically, you can input all the given values in the demand equation. When you do so, we will have a -

Qdx = -3625 + 4Py

When Py=40, Qdx=-3465

Again if Py increases to 100, Qdx=-3225.

Numerically also there is increase in Qdx. Hence our answer is verified also.