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George Washington University *

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1011

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Economics

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Apr 3, 2024

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ECON 1011 Prof. Foster ©I. R. Foster 1 ELASTICITY Terms: Price Elasticity of Demand – Elastic Demand – Unit Elastic Demand – Inelastic Demand – Price Elasticity of Supply – Income Elasticity of Demand – not covered on Midterm 1 Cross-Elasticity of Demand – not covered on Midterm 1 True/False: 1) If the slope of a demand curve is equal to -0.1 then we don't know whether the demand is elastic or inelastic. True or False? 2) If the demand for a steak is unit-elastic, then the percentage change in quantity demanded is 1 percent greater than the percentage change in price. True or False? 3) If the percentage change in the quantity of teapots demanded is greater than the percentage change in the price of teapots, then the price elasticity of demand for teapots is greater than 1 in absolute value. True or False? 4) If the demand for a product is elastic, the quantity demanded changes by a smaller percentage than the percentage change in price. True or False? 5) If the absolute value of the price elasticity of demand for gasoline is 0.5, then a 10 percent increase in the price of gasoline leads to a 0.5 percent decrease in the quantity demanded. True or False? 6) If at a price of $10, a vendor sells 5 units of a product and at a price of $8, 6 units are sold, then, using the midpoint formula, the demand for this good is inelastic. True or False? 7) The larger the share of a good in a consumer's budget, holding everything else constant, the more price inelastic is a consumer's demand. True or False? 8) In general, if a product has few substitutes it will have an elastic demand. True or False? 9) In general, a "big ticket item" such as a house or new car will tend to have a more elastic demand than a lower priced good. True or False? 10) Jill believes that the price elasticity of demand for her economics textbook is relatively inelastic. She argues "I was told I had to purchase a book written by Hubbard and O'Brien as required by my instructor. If I wanted to buy a mystery novel I would have many authors to choose from. Therefore, the demand for mystery novels is more elastic than the demand for my textbook." Is Jill correct? 11) Opera Estate Girls' School is increasing its tuition. If the school believes that raising tuition will increase revenue, it is assuming that the demand for attending the school is perfectly elastic. True or False?

ECON 1011 Prof. Foster ©I. R. Foster 2 12) Along a downward sloping, linear demand curve, total revenue is the greatest where demand is unit- elastic. True or False? 13) Suppose a decrease in the supply of paper results in an increase in revenue. This indicates that the demand for paper is inelastic. True or False? 14) The absolute value of the price elasticity of demand for telescopes is 1.5. Therefore, telescopes can be classified as a luxury. True or False? 15) Most food products have low income- and price-elasticities of demand. True or False? 16) If the quantity supplied of walkie-talkies increases by 5 percent when prices increase by 12 percent, then the supply of walkie-talkies is inelastic. True or False? 17) Suppose the demand curve for a product is represented by a typical downward-sloping curve. Now suppose the demand for this product increases. The more elastic the supply curve, the greater the price increase. True or False? 18) Refer to the figure below. The section of the demand curve labeled "A" represents the inelastic section of the demand curve. True or False? 19) In the figure below, as price falls from P A to P B , the quantity demanded increases most along D 1; therefore, D 1 is more elastic than D 2 or D 3 . True or False?

ECON 1011 Prof. Foster ©I. R. Foster 3 Multiple Choice: 20) The price elasticity of demand for beef is estimated to be 0.60 (in absolute value). This means that a 20 percent increase in the price of beef, holding every thing else constant, will cause the quantity of beef demanded to increase/decrease by __________%. 21) When the price of tortilla chips rose by 10 percent, the quantity of tortilla chips sold fell 4 percent. This indicates that the demand for tortilla chips is elastic/inelastic . 22) If the absolute value of the price elasticity of demand for DVD movies is 0.8 then the elasticity of demand for the DVD for the Bruce Willis movie Die Hard should be greater than/less than 0.8 in absolute value. 23) Holding everything else constant, the absolute value of the price elasticity of demand for Saucony tennis shoes is greater than/less than the price elasticity of demand for tennis shoes. 24) In order to prove that Motrin and Ibuprofen are substitutes, one should measure the _________________ elasticity and get a positive/negative number. 25) When the price of pistachio nuts is $7.50 per lb. the quantity demanded is 48 lbs. When the price is $9.00 per lb. the quantity demanded is 40 lbs. When the midpoint formula is used to measure the price elasticity of demand we can say that the demand for pistachio nuts is elastic/unit-elastic/inelastic . 26) Between points a and b on the demand curve, demand is inelastic/unit-elastic/elastic . Show calculations . 27) Refer to the figure below. The demand for milkshakes is unit elastic at Point C . If a store reduces the price of a milkshake from P 3 to P 4, its total revenue will increase/stay the same/decrease. Circle the right answer .

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ECON 1011 Prof. Foster ©I. R. Foster 4 Problems & Graphing: 1) Assume that when the price of cantaloupes is $2.50 the demand for cantaloupes is unit-elastic, and that the demand curve for cantaloupes is linear and downward sloping. If firms lower the price of cantaloupes to $2.00, the price elasticity of demand for cantaloupes must be ______________. 2) You own a bookstore. You believe that you can sell 40 copies per day of the latest Harry Potter novel when the price is $35. You consider lowering the price to $25 and believe this will increase the quantity sold to 50 books per day. Compute the price elasticity of demand using the mid-point formula. What is the price elasticity of demand for the Harry Potter book? What will happen to revenue if the price is lowered? 3) The current price of canvas messenger bags is $36 each and sales of the bags equal 400 per week. If the price elasticity of demand is -2.5 and the price changes to $44, how many messenger bags will be sold per week? Use the midpoint formula. 4) For each pair of items below, circle the product that would have the higher price elasticity of demand (in absolute value). a) Blood pressure medicine vs. Clairol hair coloring product. b) A new Ford Fusion or a tank of gas for your current car. c) A Seiko watch or watches in general. 5) Indicate whether the products listed as "Product B" will have a more elastic or less elastic demand than the corresponding Product A. Product A Estimated Elasticity for Product A Product B Would Elasticity for Product B Be More Elastic or Less Elastic than for Product A? Beer - 0.23 Samuel Adams Boston Lager Chicken - 0.37 Organically raised chicken Cocaine - 0.28 Illegal narcotics Cigarettes - 0.25 Marlboro Lights Restaurant meals - 0.67 Denny's Grand Slam breakfast 6) Assume that you own a small boutique hotel. In an attempt to raise revenue you reduce your rates by 20 percent. However, your revenue falls. What does this indicate about the demand for your boutique hotel rooms?

ECON 1011 Prof. Foster ©I. R. Foster 5 7) Assume that the market for barley is in equilibrium and the demand for barley is inelastic. Predict what happens to the revenue of barley farmers if a prolonged drought reduces the supply of barley. Drawing a graph would help in solving this problem . 8) When Yummy Bakery raises the price of its breads by 10 percent, the quantity demanded falls by 15 percent. What is the effect on sales revenue? 9) Ali's Gyros operates near a college campus. Ali has been selling 120 gyros a day at $4.50 each and is considering a price cut. He estimates that he would be able to sell 200 gyros per day at $3.50 each. a) Calculate the price elasticity of demand using the midpoint formula. b) Calculate the change in revenue as a result of the price cut. 10) In July 2008, the average price of gasoline in the United States was $4.09 per gallon, and consumers purchased nearly 6 percent less gasoline than they had during July 2007, when the average price of gasoline was $2.96 per gallon. Based on these figures, from July 2007 to July 2008, the price elasticity of demand for gasoline was________________. 11) Carrie Bradshaw claims that when it comes to buying shoes, "price is no object." If this is true, then her demand curve for shoes is ____________________.

ECON 1011 Prof. Foster ©I. R. Foster 6 12) When is the demand curve relatively more elastic – in the short run or the long run? Explain in one sentence. 13) Different consumer purchasing patterns imply different price elasticities. What price elasticity of demand will result in each of the following patterns? Draw a graph for each explaining your answer. a) Mrs. Jones has a pet cat that loves catnip; therefore, Mrs. Jones buys one small bag of catnip as part of her weekly shopping. Regardless of expense, she always buys a single small bag. b) Every week young Bart spends all of his $5 allowance on comic books. If prices are higher, or if special sale prices exist, he still buys $5 worth of comic books each week. 14) The figure below shows three di ff erent demand curves, all of which pass through the point (P = $12, Q = 40). For each demand curve calculate both the slope and the elasticity between the prices of $12 and $8. What generalization is suggested by your calculations? 0 20 40 60 80 100 120 140 0 2 4 6 8 10 12 14 16 18 20 . . . Price Quantity D 1 D 2 D 3

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ECON 1011 Prof. Foster ©I. R. Foster 7 15) The U.S. government's focus on supply reduction efforts in its "war on drugs" has been relatively unsuccessful at addressing illegal drug use. Some economists believe that a successful anti-drug program must concentrate on reducing demand; for example, through drug education and voluntary treatment programs for addicts. a) Suppose the price elasticity of demand for cocaine is -0.5. What will happen to the equilibrium price, quantity and total revenue from cocaine sales if the government succeeds in its efforts to reduce demand? What is likely to happen to the incentive to sell cocaine? Drawing a graph may help you answer this question. b) Suppose the government continues to concentrate its efforts on supply reduction and is able to reduce the supply of cocaine. As a result of the reduction in supply the price of cocaine increases by 25 percent. If the price elasticity of demand is -0.5, what is likely to happen to the incentive to sell cocaine? Drawing a graph may help you answer this question. 16) Three Guys Named Al, a moving company, is run by Al Ike Money, Al B. Careful and Al B. D. Brains. Currently, Three Guys is the only moving company in town. The company is contemplating a price hike. Currently, they charge $30 per hour, but Al Ike Money thinks they could charge $40. Al B. Careful disagrees, saying it will hurt the business. Al B. D. Brains has calculated the price elasticity of demand for their moving service in the range from $30 to $40 and found it to be 1.5. a) Should they do as Al Ike Money suggests and raise the price? Base your recommendation on the likely impact to the company’s total revenue. Will it go up or go down? Why? b) As stated earlier, currently Three Guys is the only moving company in town. Al B. D. Brains reads in the paper that several new movers are planning to set up shop in town within the next year. Twelve months from now, is the demand for Three Guys’ services likely to be more elastic, less elastic, or the same? 17) If a 6 percent increase in income leads to a 4 percent increase in quantity demanded for audio books the income elasticity of demand is __________.

ECON 1011 Prof. Foster ©I. R. Foster 8 18) Are the DVDs in the diagram below luxury goods? Show your calculations . 19) Using the information in the table below, calculate the income elasticity of demand for good X and characterize the good. Use the midpoint formula. Quantities Purchased Income Prices Good X Good Y $30,000 Px = $6, Py = $3 2 20 50,000 Px = $6, Py = $4 5 10 20) Complete the table below: Good or service Income Elasticity Normal or Inferior Good? If normal, type of normal good Potatoes 0.5 Pinto beans - 0.1 Recreation 1.42 21) The cross-price elasticity between Gillette razors and a related good is -3.4. What happens to the demand for the related good if the price of Gillette razors falls by 10 percent? 22) When the price of tortilla chips rises by 10 percent, the quantity of tortilla chips sold falls by 4 percent, and the sale of dips (such as salsa) fall by 8 percent. What is the cross-price elasticity? How are they related?

ECON 1011 Prof. Foster ©I. R. Foster 9 23) When the price of Starbucks coffee increased by 8 percent, the quantity demanded of Peets coffee increased by 10 percent. Calculate the cross price elasticity of demand between Starbucks coffee and Peets coffee. What is the relationship between the two products? 24) If the price of Good A falls by 20%, causing the quantity demanded for Good B to increase by 15%, the cross-price elasticity of demand between Good A and Good B is _________ and they are substitutes/unrelated/complements . Fill-in-the-blank and circle the right answer . 25 ) Ruben’s sells fish tacos near two university campuses – YSU and ZSU. Currently, the price of a Bottom Feeder Taco is $1.50 and daily sales at each campus is 55 tacos. a) A price increase to $1.80 reduces daily sales to 40 tacos on the YSU campus. Calculate the price elasticity of demand for Bottom Feeder Tacos at YSU using the midpoint formula. b) The students at ZSU are very similar to those at YSU except their incomes are 20% higher. When Bottom Feeder Tacos are priced at $1.80, daily sales at the ZSU store are 51 tacos. Calculate the income elasticity of demand for Bottom Feeder Tacos using the midpoint formula. Are Bottom Feeder Tacos a normal good?

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