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GE273: Microeconomics

Week 4 Analysis 1

Part 1: Using the midpoint method, calculate and interpret the price elasticity of demand for the following situation:

a. When the price of oranges increases from P1 $1.00 per pound to P2 $1.50 per pound, quantity demanded falls from Q1 500 pounds to Q2 400 pounds. Calculate the price elasticity of demand.

b. Is the demand for oranges price elastic, inelastic, or unit elastic? Explain.

c. Calculate total revenue before and after the price change. How does that relate to the elasticity interpretation?

A. 500+400=900/2=450

1.50+1.00=2.50/2=1.25

400-500=-100/450X100=-22.22%

1.50-100=0.50/1.25X100=40%

Price elasticity of demand=-0.5%

B. Because the elasticity is less than 1 in absolute value, this is inelastic

C. Total revenue P1=$500 P2=$600

Part II. Given the following information, calculate the income elasticity of demand using the midpoint formula.

a. Nancy's income increases from P1 $20,000 to P2 $30,000 and her consumption of spaghetti changes from Q1 10 pounds per month to Q2 2 pounds per month. Calculate the income elasticity of demand.

b. Interpret the result.

A. 2+10=12/2=6

20,000+30,000=50,000/2=25,000

2-10=-8/6X100=-133%

30,000-20,000=10,000/25,000X100=40%

Price elasticity of demand=-3.325%

B. Because demand decreased when income increased Spaghetti is considered an inferior good.

Part III. Given the following information, calculate the cross-price elasticity of demand.

a. The quantity of Pepsi purchased rises by 15% when the price of Coca-Cola rises by 30%. Calculate the cross-price elasticity.

b. Interpret the result.

30/15=2% the cross-price elasticity is 2% deeming these two products as substitutes. The similarity is that they are both top brand preferred soda.