Chapter 4

Elasticity

Additional Questions 1-9

End-of Chapter Ex. 4, 8

Elasticity
It represents the ratio of the % change in one variable to the
% change in another variable
1) Price Elasticity of Demand
- measures the responsiveness of quantity demanded for
good x to a change in price of good x
% change in Qx
% change in Px
2) Price Elasticity of Supply
- measures the responsiveness of quantity supplied for good x
to a change in price of good x
% change in Qx
% change in Px

Elasticity
%Q

%P

Unit elastic
Elastic
-5

-4

-3

Inelastic
-2

-1

-0.5

Elastic :
-the % change in quantity demanded is larger
than the % change in price
- If elasticity is between -1 and infinity
Inelastic:
-the % change in quantity demanded is less than
the % change in price
-If elasticity is between 0 and -1

Elasticity
Unit Elastic,
- Elasticity = -1
- the % change in quantity demanded equals to the
% change in price
P

Unit Elastic

Elasticity
Perfectly Elastic
Demand/Supply

Perfectly Inelastic
Demand/Supply
P

Elasticity = 0

Elasticity = infinitely

Ex. Pepsi, coke

Ex. Tamiflu, Insulin

Elasticity and TE / TR
If demand is elastic, (% change in quantity demanded
is larger than the % change in price)
Decrease in price will increase TR
Increase in price will decrease TR
If Price decrease:

% change in Q = 3
% change in P = -0.5
Elasticity = -6 (Elastic)
TR increases

10
5

20

Elasticity and TE / TR
If demand is inelastic, (% change in quantity
demanded is less than the % change in price)
Decrease in price will decrease TR
Increase in price will increase TR
P

If Price decrease:
% change in Q = 0.4
% change in P = -0.5
Elasticity = -0.8 (Inelastic)
TR decreases

10
5

D
5

Elasticity and TE / TR
If Demand is Elastic, (% change in quantity demanded is
larger than the % change in price), Q and PQ move in the same
direction, similarly to increase in price

PQ

If Demand in Inelastic, (% change in quantity demanded

is less than the % change in price), P and PQ move in the same
direction, similarly to increase in price
P

PQ

Elasticity
3) Cross-Price Elasticity of Demand
- measure the responsiveness of quantity demanded for
good y to a change in price of good x
% change in Qy

% change in Px
Substitute goods: Elasticity is positive (Increase in
price of good x will result in an increase in demand of
good y)
Complement goods: Elasticity is negative (Increase in
price of good x will result in a decrease in demand of
good y)

Elasticity
4) Income Elasticity of Demand
- measure the responsiveness of quantity demanded
for good x to a change in income
% change in Qx
% change in I
Normal goods: Elasticity is positive (Increase in
income will result in an increase in demand of good x)
i.e., Mercedes Benz
Inferior goods: Elasticity is negative (Increase in
income will result in a decrease in demand of good x)
i.e., 2nd hand clothing

Chapter 4, Additional Question #1

When the price of hot dog is $1.50 each, 500
hot dogs are sold every day. After lowering
the price to $1.35 each, 510 hot dogs are
sold every day. At the original price, what is
the price elasticity of demand for hot dogs?
A)
B)
C)
D)
E)

66.67
5
1
0.2
0.015

Calculating Price Elasticity of

Demand
%Q

%P
QNew QOld

QOld

PNew POld

POld

Q P
Q P

Q
P
P Q

Price Elasticity of Demand for Hot

Dogs
QOld 500, QNew 510
POld $1.50, PNew $1.35
Q 510 500 10
P $1.35 $1.50 $0.15
Q POld
10 1.50

P QOld 0.15 500

0.2 (D)

Chapter 4, Additional Question #2

For which of the following products is
demand likely to be least price elastic?
A)
B)
C)
D)
E)

Frozen Food
Soft Drinks
Groceries
Diet Coke
Not enough information provided to answer this
question

What affects Price Elasticity of Demand?

One major factor is the availability of substitutes.
If there are many substitutes for Good X available
in the market, people tend to be very responsive
to changes in PX, and hence, higher elasticity.
In this question, we check out which option is the
most difficult to be substituted, i.e., necessity
good.

 (A) Frozen food can easily be replaced by fresh

food.
(B) Soft drinks and (D) Diet coke can easily find
substitutes, e.g. orange juice, coffee, tea, Zero
coke, Diet Pepsi
(C) Groceries are the hardest to be replaced as
they are necessities.
Ans: C

Chapter 4, Additional Question #3

If the price is $2 in both locations, the
Price Elasticity of Demand for a candy
bar at an airport is likely to be
the
price elasticity for a candy bar in a
grocery store.
A)
B)
C)
D)
E)

Less than
Equal to
Greater than
The reciprocal of
Not enough information to determine

What affects Price Elasticity of Demand?

Number of sellers within reach.
Suppose there exists only one kind of candy bar.
In busy areas where you can find grocery stores,
it is more likely that you can find more than one
shop selling candy bars.
However, in isolated areas such as airports, there
may only be one seller.

 In other words, one will find it difficult to locate an

alternative seller of a certain goods (e.g. candy
bars) at the airport.
A person will still have to buy candy bars from
that seller at the airport even if prices are raised.
Hence, quantity demanded is less responsive to
price changes compared to shops at other
locations.
Ans: a

Chapter 4, Additional Question #4

The Price Elasticity of Demand for
apartments is 1.3, while the Price
Elasticity of Demand for toothpicks is 0.4.
The likely reason for the difference is
because
A) There are few substitutes for toothpicks
B) Apartments are chosen over a long period of
time
C) The fraction of income spent on toothpicks is
minuscule
D) Toothpicks are a necessity
E) Apartments are a luxury

 Demand for apartments are more price elastic

than that for toothpicks. Why?
(A & D) are not true because there exist good
substitutes for toothpicks, e.g. dental floss and
fingernails.
(B) is true for many consumers, but is irrelevant,
as we are comparing the Price Elasticity at the
same point of time.
(E) is relevant only if we are talking about Income
Elasticity.

What affects Price Elasticity of Demand?

Budget share: the smaller the budget share of your
income, the smaller the incentive to look for other
substitute goods; thus, smaller the price elasticity of
demand.
People tend not to respond to changes in price of
toothpicks because they are too cheap. $0.20 a dozen and
$0.40 a dozen do not bother consumers as they probably
do not even notice the difference.
- the share of your budget is very small in buying toothpick.
However, buying an apartment is a major choice in life.
People spend most of their savings on acquiring their own
homes, and changes in price of properties are certainly
noticeable. As a result, consumers are more responsive to
changes in prices of apartments.
- the share of your budget is very large in buying a house.
Ans: C

Chapter 4, Additional Question #5

Assume the price of gasoline doubles
tonight and remains at that price the
next 2 years. The Demand for gasoline
measured tomorrow will be _____ when
compared with the demand for gasoline
measured 2 years from now.
A)
B)
C)
D)
E)

More Elastic
Larger in Absolute Value
The Same
More Inelastic
Less Inelastic

What affects Price Elasticity of Demand?

Time
It takes time for people to react to changes in
price.
People wake up tomorrow and find out price of
gasoline is doubled, but they do not have enough
time to find substitutes for gasoline, and hence,
the amount of usage will be more or less the same.
But, given more time, people can explore other
alternatives (e.g. public transport)
Ans: D

Chapter 4, Additional Question #6

The Cross Price Elasticity for cable TV
and satellite TV is estimated to be -0.3.
This implies cable and satellite TV are:
A)
B)
C)
D)
E)

Normal Goods
Substitutes
Elastic Goods
Complements
Unrelated

 Cross Price Elasticity measures the responsiveness of

quantity demanded for a good to a change in price of the
other good .
For complement goods, if Px , Qx, and Qy also
- The Cross Price Elasticity is negative
For substitute goods, if Px , Qx, and Qy will
- The Cross Price Elasticity if positive
Ans: d

Chapter 4, Additional Question #7

In surveying their alumni, State Us
economics department discovered that
ramen noodle consumption declined as
soon as students graduated and found
jobs. One conclusion the survey team
might draw from this result is that
A) There is Excess Demand for ramen noodles.
B) Equilibrium Price for ramen noodles is too high.
C) College graduates have a high reservation price
for ramen noodles.
D) Ramen noodles are an inferior good.
E) Ramen noodles are not nutritious.

 (A&B) are not the correct answers No price

adjustments were mentioned.
(C) is not relevant at all because we are not
calculating consumer surplus.
(E) is not even economics.

 The question talks about Income Elasticity of

Demand for ramen noodles.
- measures the responsiveness of quantity
demanded for a good to the change in income.
- For normal goods, if Income , Qd
- For inferior goods, if Income , Qd
Graduates graduating and finding a job implies an
increase in real income.
The survey relates real income and quantity
demanded for noodles.
Income , causing Qd --- inferior good
Ans: D

Chapter 4, Additional Question #8

Period

Income

Px

Qx

Py

Qy

8000

24

12

40

9000

24

12

36

a) Given the above information. Calculate the Income

Elasticity of y. Is Good y normal or inferior?
Recall that Income Elasticity refers to the responsiveness
of quantity demanded for y to a change in Income.

 Mathematically, Income Elasticity of y can

be calculated as: %Qy / %I.

To calculate the Income Elasticity of y,

%Qy / %I
= (Qy / original Qy) x (original I / I)
= (-4 / 40) x (8000 / 1000) = -0.8

a) Is Good y normal or inferior?

Normal goods: Demand for normal goods increases when
income increases.
- Mathematically, the Income Elasticity of a normal good is
positive. (Quantity changes in the same direction as income)
Inferior goods: Demand for inferior goods drops as Income
increases.
- Mathematically, the Income Elasticity of an inferior good is
negative. (Quantity changes in an opposite direction as
Income)
Since the Income Elasticity of y is negative, Qy drops as
Income increases.
Therefore, Good y is inferior.

Period Incom
e

Px

Qx

Py

Qy

9000

24

12

36

9000

21

12

12

30

b) Given the above information. Calculate the Cross Price

Elasticity of y with respect to a change in Px. Are Good x
and y complements or substitutes?

Cross Price Elasticity measures the responsiveness of

the quantity demanded for y with respect to a change in
Px.

 Mathematically, %Qy / %Px.

Hence, the Cross Price Elasticity of Demand for y is
%Qy / %Px
= (Qy / original Qv) x (original Px / Px)
= (-6 / 36) x (24 / -3) = 4/3

b) Are Goods x and y complements or substitutes?

For complement goods, if Px , Qx, and Qy also
- The Cross Price Elasticity is negative
For substitute goods, if Px , Qx, and Qy will
- The Cross Price Elasticity if positive
In this case, the Cross Price Elasticity of y with respect
to a change in price of x is positive.
Therefore, Goods x and y are substitutes.

Chapter 4, Additional Question #9

If the Price Elasticity of demand for good
X is -3, your goal is to maximize the
revenue, should you raise or lower the
price of good X?
Recall that whether total revenue
increases or decreases when the price of
the good changes depends on the
elasticity of demand.

 If demand is elastic, (% change in quantity demanded

is larger than the % change in price)
Increase in price will decrease TR
Decrease in price will increase TR
P

PQ

You should decrease the price of good X in order to

maximize Total Revenue.

Chapter 4, Problem #4
Is the demand for a particular brand of car, like a
Chevrolet, likely to be more or less price-elastic than the
demand for all cars? Explain.

Price elasticity of a good increases, as more close

substitutes are readily available.

Solution to Problem 4(1)

Demand for all cars (i.e. Motorcycle, bus, van): hard to find
other substitutes for cars if price of all cars rises, for ex., it is
hard to substitute motorcycle for a car. Highly insensitive to
price change.

Demand for specific brand of cars: if price of Chevrolet rises,

people will switch to other brand, say, Toyota. Highly
sensitive to price change.

Thus, it is easier to substitute Toyota for Chevrolet than it is

to substitute a motorcycle for a car.

Therefore, the market demand curve for cars is likely to be

less elastic than the market demand curve for Chevrolets.

Chapter 4, Problem #8
Suppose that the ingredients required to bring a slice of pizza
to market and their respective costs are as listed in the table:

Paper plate

2cents

Flour

8cents

Tomato sauce

20cents

Cheese

30cents

Labor (3minutes @
$12/hour)

60cents

Total cost

120 cents

If these proportions remain the same no matter how many

slices are made, and the inputs can be purchased in any
quantities at the stated prices, draw the supply curve of pizza
slices and compute its price elasticity.

Solution to Problem 8(1)

The proportions and prices of the ingredients are the same
no matter how many slices are made, meaning that,
The price of input cost is fixed at 120 cents or $1.2.
Therefore, the marginal cost of producing an additional
unit of pizza is constant at $1.2.

Solution to Problem 8(2)

P
($/slice)
1.2

Q
(slices per day)
The price elasticity of supply of pizza is infinite ---- Perfectly Elastic Supply
Curve.
Highly sensitive to price change - A small change in price, quantity
supplied drops to zero
Usually occurs when there is a larger number of perfectly substitute
goods
i.e., If the price of an input increases, sellers will switch to another
available substitute goods

End of Chapter 4