Answer to Question #140088 in Economics of Enterprise for Rahul

Question

Calculate elasticities for the following cases with appropriate names. Identify what types
of goods they are, and comment on the value of the elasticity, i.e., elastic or inelastic:

a) A 10 percent increase in the price of cars reduces the quantity demanded for cars by 4
percent.

b) A 10 percent increase in the gasoline price reduces the demand for new cars by 4 percent.

c) A 10 percent increase in the income reduces the demand for used cars by 4 percent.

Answer 1

Solution

(A) price elasticity of demand =

%change in quantity demanded/ % change in price

So

Price elasticity of demand =$\frac{4}{10}$

$=0.4$

Value of elasticity <1

So it is Inelastic demand . in this case Cars are substitute goods.

(B)

Cross elasticity of demand

$=\frac{4}{10}\\=0.4$

And cross elasticity of demand is < 1

So it's Inelastic demand.

Gasoline and car are complementry goods because if gasoline will consumed low then car be also consumed low and vice versa.

(C)

Income elasticity of demand

$=\frac{4}{10}$

=0.4

0.4<1 so Income elasticity of demand is less then one so it's inelastic demand. It's substitution effect .