Microeconomics: Business Elasticity Essay

Question:

Describe about the Microeconomics for Business Elasticity.

Answer:

2. Income elasticity for concert tickets

Initial weekly income = $ 1,500

Final weekly income = $ 1,800

Percentage change in income = [(1800-1500)/1500] * 100 = 20%

There has been an increase in the demand for concert tickets by 25%.

Hence, income elasticity = 25/20 = 1.25

Since the income elasticity is positive, hence concert ticket would be a normal good. The consumption of this good would increase with increasing income levels (Krugman & Wells, 2013).

Income elasticity for bus ride

Initial weekly income = $ 1,500

Final weekly income = $ 1,800

Percentage change in income = [(1800-1500)/1500] * 100 = 20%

There has been a decrease in the demand for bus ride by 6%.

Hence, income elasticity = -6/20 = -0.3

Since the income elasticity is negative, hence bus ride would be an inferior good. The consumption of this good would decrease with increasing income levels (Mankiw, 2014).

Price elasticity of demand for sushi

The formula for computation of PED or Price Elasticity of Demand of sushi is shown below.

PED for sushi = % change in sushi consumption/% change in sushi price

As per the given data, when there is a decrease in the price of sushi by 7%, the corresponding sushi demand increases by 3%.

Hence, PED for sushi = 3/(-7) = - 0.43

Cross price elasticity of wasabi with regards to sushi

The formula for cross price elasticity computation in the given case is shown below.

Cross price elasticity of wasabi = % change in demand for wasabi/% change in sushi price

As per the given data, when there is a decrease in the price of sushi by 7%, the corresponding wasabi demand increases by 5%.

Hence, cross price elasticity of wasabi = 5/(-7) = - 0.71

A negative cross price elasticity indicates that wasabi and sushi are complements. This is evident as due to price cut in sushi price, the demand of sushi goes up and demand for wasabi also increases (Pindyck & Rubinfeld, 2001).

Price elasticity of domestic bananas is given as -0.5

Also, it is known that there is a decrease in the demand of domestic banana by 5%

Hence, -0.5 = -5/% change in price of domestic banana

Solving the above, change in price of domestic banana -= 10%

Hence, the price of domestic bananas has increased by 10%.

Due to the increase in price of domestic bananas, the demand for imported bananas increases by 3%.

Hence, cross elasticity of imported bananas with respect to domestic bananas = 3/10 = 0.3


A positive value of cross elasticity indicates that domestic bananas and imported bananas are substitutes. Since the domestic bananas are getting expensive, hence the customers are switching to imported bananas which may be cheaper (Mankiw, 2014).

The production quota seeks to diminish the supply of the good. In the given case, the supply of rise is capped at 1500 bags a week. A production quota diagram indicating various surpluses and losses is as shown below (Krugman & Wells, 2013).

In the given, the actual equilibrium price (Po) is $ 16 per bag while the equilibrium quantity (Q0) would be 2,500 bags per week.

The quota is imposed at 1500 bags per week denoted by the quota line. Now there is a demand supply mismatch.

Also, Pd = $ 20 since at this price, the demand is 1500 bags per week.

Besides, Ps = $ 12 since at this price, the supply is 1500 bags per week.

Due to higher demand, the market price would increase from $ 16 to $ 20 per bag.

Change in consumer surplus due to quota = -(a+c)

Change in producer surplus due to quota = (a+b+e) –(b+d+e) = a-d

Change in deadweight loss = c+ d

Area of a = (20-16)*1500 = $ 6,000

Ares of c = 0.5*(20-16)*(2500-1500) = $ 2,000

Area of d= 0.5*(16-12)*(2500-1500) = $ 2,000

Hence, change in consumer surplus = -(6000+2000) = - $ 8,000 per week

Change in producer surplus = (6000-2000) = $ 4,000 per week

Change in deadweight loss = 2000 + 2000 = $ 4,000 per week

Based on the given demand and supply data of wheat given, it is apparent that the market equilibrium price should be $ 250 but the government has fixed the floor price at $ 300 as represented in the graph below.

Clearly, there is a surplus of supply at this price level. The impact of this floor price on the various surpluses and loss in the domestic wheat market is captured in the following figure.

The graph above clearly indicates that the consumer surplus has taken a dip from the earlier area of ACG to ADOG. This is turn has led to incremental deadweight loss in the form of COD. Also, the producer surplus has taken a dip from the earlier area of ECG to the new area of EBOG. This is turn has led to incremental deadweight loss in the form of COB. The change in deadweight loss as a result of the floor price introduced by the government is equivalent of the sum total of COB and COD which is equivalent to the area of triangle CBD. (Nicholson & Snyder, 2011).

Thus, consumer surplus change due to floor price = Area of figure COD = 0.5*OD*CO = 0.5*50*(1000000-800000) = $ 5,000,000 or $ 5 million

Thus, producer surplus change due to floor price = Area of figure COB = 0.5*OB*CO = 0.5*(250-200)*(1000000-800000) = $ 5,000,000 or $ 5 million

Incremental variation in the deadweight loss due to floor price = Area of figure COD + Area of figure COB = 5000000 + 5000000 = $ 10 million

References

Krugman, P & Wells, G 2013, Microeconomics, 3rd eds. Worth Publishers, London

Mankiw, G 2014, Microeconomics, 6th eds., Worth Publishers, London

Nicholson, W & Snyder, C 2011, Fundamentals of Microeconomics, 11 th eds., Cengage Learning, New York

Pindyck, R & Rubinfeld, D 2001, Microeconomics, 5th eds., Prentice-Hall Publications, London

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