Reference no: EM133129125

List the three-price elasticity of demand classifications

Define: elasticity, price elasticity of demand, income elasticity of demand, and cross elasticity of demand

Price Elasticity of Demand

Price elasticity of demand formula:  ED= Q2 - Q1/(Q2 + Q1)/2  divided by P2 - P1/(P2 + P1)/2  (remember that price elasticity measures how the price change of a good effects the demand for that good)

Solve the following problem:  A local grocer charges $4 each for watermelons, and sold 200 that week.  The following week she raised the price to $6 each and only sold 75.  Provide your answer, and indicate if your number showed elasticity, unitary elasticity, or was inelastic.

Management Lesson - Price Elasticity of Demand and Profitability

The Total Revenue (TR) of a business is calculated:  Price (of a good or service) X Quantity (produced of a good or service), or TR=PXQ

Let's say that a business produces widgets, charging $2.00 per widget, and produces 100,000 widgets per month.  Its total monthly revenue (TR) is $200,000 ($2.00 X 100,000 widgets)

It calculates the demand elasticity for its product if it raises the price to $3.00, and as a result, only projects sales of 90,000 widgets. In other words, it estimates that when it raises its price, its monthly demand will fall to 90,000 widgets.  Using the price elasticity of demand formula the resulting answer is .26 (demand is inelastic or total revenue will not be reduced).  Even though it sells 10,000 less widgets, its TR increases from $200,000 per month to $270,000 per month (TR = $3.00 X 90,000 widgets).  Because it is produces 10,000 less widgets it can eliminate manpower, close down a production site etc., which all leads to additional increased profitability.  This increased profitability all began when the business calculated its price elasticity of demand.

Income Elasticity of Demand

 Income elasticity of demand formula: EY= Q2 - Q1/(Q2 + Q1)/2  divided by Y2 - Y1/(Y2 + Y1)/2 (remember that income elasticity measures how a change in income effects the demand for a good)

Solve the following problem: Bob makes $30,000 per year and eats at local eateries two nights a week.  When he received a raise, and now makes $40,000 per year, he increased his dining out to five nights per week.  Provide your answer, and indicate if your number showed elasticity, unitary elasticity, or was inelastic.