Elasticity - Seminar Guide (PDF)

Elasticity – Seminar Guide Seminar 4 – Questions Complete the following questions during the tutorial session in class: Price Elasticity of Demand 1. If the demand for a certain product is said to be inelastic it means:- a) a small increase in price will lead to a big drop in the...

Elasticity – Seminar Guide Seminar 4 – Questions Complete the following questions during the tutorial session in class: Price Elasticity of Demand 1. If the demand for a certain product is said to be inelastic it means:- a) a small increase in price will lead to a big drop in the amount demanded b) a small increase in price will lead to a small rise in the amount demanded c) consumers are rather insensitive to price changes. d) large changes in price have only a small effect on demand. Hint: more than one is correct c and d 2. What are the most important factors affecting the elasticity of demand for a product? Substitutes, luxuries or necessities, time 3. Which will be more elastic: the demand for Cadbury's Fruit 'n Nut or the demand for chocolate generally? Explain your reasoning. Cadbury’s Fruit’n Nut, it has more substitutes 4. Consider the estimates of the price elasticity of demand for certain foods shown in the following table. Explain why the demand for fruit juice is more elastic than that for milk. How do you explain the difference between the elasticity of demand for chicken and that for other poultry? Estimates of the price elasticity of demand for certain foods Bread -0.09 Milk -0.19 Sugar -0.09 Fresh potatoes -0.21 Other fresh vegetables -0.27 Fruit juices -0.80 Cheese -1.20 Carcass meat -1.37 Other meat and meat products -0.49 of which: bacon and ham -0.70 chicken (not free range) -0.13 other poultry -0.85 frozen convenience meat and meat products -0.94 1  Elasticity – Seminar Guide Source: Annual report of the National Food Survey Committee MAFF 1989 Table 5.2 These estimates are derived from survey data for the period 1984 to 1989 Fruit juices have more substitutes Milk is a necessity Chicken does not have any close substitutes. 5. On the Friday of each week a petrol-filling station cuts the price of petrol from 140p to 133p per litre. Sales on Fridays rise to 12 000 litres per day, which compares with an average of 10 000 litres per day during the rest of the week. Use this information to calculate the price elasticity of demand facing the filling station. Give two reasons why this estimate may not be valid. (6 marks) Answer %∆Q= (12000-10000)/10000x100= +20% %∆P= (133-140)/140x100=-5% PED = %∆Q/%∆P PED = 20/-5 PED=- 4 People get paid on Friday, they might need petrol for the weekend etc Income Elasticity of demand 6. What in economics is meant by an "inferior good"? State which of the following goods you would expect to be normal and which inferior: standard white loaves croissants remould tyres Earl Grey tea Tesco’s baked beans McDonalds’ hamburgers coffee rice package holidays to Spain 7. The following statements relate to the term inferior good as used in economics. Choose the two that are correct. a) If your income goes up you will buy less of the good in question. b) The term "inferior good" is a subjective term. It means the person speaking doesn't like the good in question. c) An inferior good is a good of low quality d) If the good in question has a negative income elasticity of demand it is termed inferior. e) The good in question will have a negative price elasticity of demand. 8. Some of the estimates of income elasticity shown below are negative? What does this imply? 2  Elasticity – Seminar Guide Estimates of the income elasticity of demand for certain foods (1989) milk -0.40 margarine -0.25 potatoes -0.48 sugar and preserves -0.54 bread -0.25 cakes and biscuits 0.02 tea -0.56 instant coffee 0.23 cheese 0.19 of which: natural 0.22 processed -0.12 fruit juices 0.94 yoghurt 0.58 fresh vegetables 0.35 Price and Income elasticity – one or the other or both 9. Recently sales of natural gas have risen despite an increase in its price. Does this mean that the demand curve for natural gas is upward sloping? How else could you explain the phenomenon? 10. Why do shops have January sales? Demand in January is more elastic 11. Suppose the price elasticity of demand for petrol is estimated to be -0.1 and the income elasticity is estimated to be +1.2 State whether the following statements are true or false:- a) a tax on petrol will not have much effect on consumption true b) a tax on petrol will raise lots of revenue because demand is inelastic true c) a rise in incomes of 10% will lead to an increase in the amount of petrol bought of more than 10 percent. true d) the price and quality of public transport, and the presence or absence of cycleways, will affect the elasticity of demand for petrol true 3  Elasticity – Seminar Guide Cross-price elasticity of demand 12. State whether you would expect the cross-price elasticity of demand between the following goods to be positive, negative or zero, and explain why. a) margarine and butter b) petrol and motor vehicles c) coffee and cocoa d) motor cycles and motor cycle helmets e) CD players and CDs f) coal and gas g) holidays in Ireland and holidays in Scotland Substitutes – positive Complements – negative 13. Assume the cross-price elasticity of demand for white grapes with respect to black grapes is +2. If the price of black grapes falls by 8% what will happen to the demand for white grapes? It will decrease by 16% 4  Elasticity – Seminar Guide Elasticity of Supply The elasticity of supply is defined as:- percentage increase in quantity supplied percentage increase in price 14. The following table shows the output of an agricultural commodity over a ten year period together with the price output price (£/tonne) 1980 100 16 1990 300 32 Based on this data work out the coefficient for the elasticity of supply. Which of the following statements are true: a) The supply of this commodity seems to be inelastic. False b) The percentage increase in output is more than the percentage increase in price. Therefore supply is said to be elastic. True c) We would expect supply to be elastic since it is easier for farmers to switch from growing one crop to another than it is for industry to switch from producing one manufactured product to another. True %∆Q= +200% %∆P= =100% PES = %∆Q/%∆P PES = 200/100 PED=+2 5