Question

Suppose that a seller decreases price for his/her good by 5 percent. Discuss how total revenue
changes when:
i.∈d=0.5
ii.∈d=1
iii.∈d=1.5

Answer 1

1. $\epsilon d=0.5$ , this indicates low responsiveness to changes in prices because demand is inelastic. 5% drop in price will not have any impact on total revenue. The quantity demanded changes much slower than change in price.
2. $\epsilon d=1$ , this indicates that demand is unitary elastic. In this case the 5% decrease in price will result in a 5% increase in quantity sold hence raising the total revenue by the same proportion.
3. $\epsilon d=1.5$, this indicates high responsiveness to change in price because demand is elastic. 5% decrease in price will result in more than 5% increase in the quantity sold, thus the total revenue will be raised by a much higher percentage.