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Chapter 3: Q1LO (page 114)

Apply various elasticities of demand as a quantitative tool to forecast changes in revenues, prices, and/or units sold.

Short Answer

Expert verified

Own price elasticity: A price rise will result in a decrease in the amount of quantity sold as demand will fall and further decrease the overall revenue.

Cross elasticity: An increase in the price of one commodity will increase the price of another commodity more than proportionately, thus decreasing the former's revenue.

Income elasticity: An increase in the consumer's income will increase the demand for the normal commodity, thus increasing the revenue.

Step by step solution

01

Definition of Various Elasticity of demand: 

Own price elasticity:Own price elasticity suggests the change in demand for a commodity caused due to the change in its price.

Cross elasticity:It signifies the change in demand for a commodity caused due to the change in the price of another commodity.

Income elasticity:It signifies the change in demand for a commodity caused due to the change in income of a consumer.

02

Elasticity being used as a tool in forecasting: 

Revenue generated, prices, and one can forecast the quantity sold by firms with the help of the elasticity of demand.

Own price elasticity: The price elasticity of demand indicates a more proportionate change in commodity demand. A small rise can decrease the demand more, reducing the revenue generated proportionately. An inelastic demand induces an increase in revenue due to less than proportionate change in demand.

Cross price elasticity: The cross elasticity suggests that the commodity's price will increase the consumers to demand more of other commodities reducing the revenue generated. Inelastic suggests a price change would not induce the customers to demand other commodities.

Income elasticity: An increase in income will increase the demand for normal goods, proportionately increasing the firms' revenue. However, if the good is inferior, an increase in income would reduce the consumption of the commodity, in turn reducing the revenue generated from them.

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Most popular questions from this chapter

As the owner of Barney’s Broilers—a fast-food chain—you see an increase in the demand for broiled chicken as consumers become more health conscious and reduce their consumption of beef and fried foods. As a result, you believe it is necessary to purchase another oven to meet the increased demand. To finance the oven, you go to the bank seeking a loan. The loan officer tells you that your revenues of\(750,000 are insufficient to support additional debt. To qualify for the loan, Barney’s Broilers’s revenue would need to be\)50,000 higher. In developing a strategy to generate the additional revenue, you collect data on the price (in cents) per pound you charge customers and the related quantity of chicken consumed per year in pounds. This information is contained in the file called Q18.xls available online at www.mhhe.com/baye8e. Use these data and a log-linear demand specification to obtain least squares estimates of the demand for broiled chicken. Write an equation that summarizes the demand for broiled chicken, and then determine the percentage price increase or decrease that is needed in order to boost revenues by$50,000 .

Suppose the Kalamazoo Brewing Company (KBC) currently sells its microbrews in a seven-state area: Illinois, Indiana, Michigan, Minnesota, Mississippi, Ohio, and Wisconsin. The company’s marketing department has collected data from its distributors in each state. These data consist of the quantity and price (per case) of microbrews sold in each state, as well as the average income (in thousands of dollars) of consumers living in various regions of each state. The data for each state are available online at www.mhhe.com/baye8e under the filename Q19.xls, where there are multiple tabs at the bottom of the spreadsheet, each referring to one of the seven states selling the Kalamazoo Brewing Company’s microbrews. Assuming that the underlying demand relation is a linear function of price and income, use your spreadsheet program to obtain least squares estimates of the state’s demand for KBC microbrews. Print the regression output and provide an economic interpretation of the regression results.

For the first time in two years, Big G (the cereal division of General Mills) raised cereal prices by 4percent. If, as a result of this price increase, the volume of all cereal sold by Big G dropped by 5percent, what can you infer about the own price elasticity of demand for Big G cereal? Can you predict whether revenues on sales of its Lucky Charms brand increased or decreased? Explain.

You are a manager in charge of monitoring cash flow at a company that makes photography equipment. Traditional photography equipment comprises 40percent of your revenues, which grow about 2 percent annually. You recently received a preliminary report that suggests consumers take three times more digital photographs than photos with traditional film, and that the cross-price elasticity of demand between digital and disposable cameras is -0.3. In 2012, your company earned about #600 million from sales of digital cameras and about $400 million from sales of disposable cameras. If the own price elasticity of demand for disposable cameras is -2, how will a 4 percent decrease in the price of disposable cameras affect your overall revenues from both disposable and digital camera sales?

Suppose the cross-price elasticity of demand between goods XandYis4. How much would the price of goodYhave to change in order to increase the consumption of goodXby percent?

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