Answer to Question #300574 in Microeconomics for Pinyasa

Question

Combine Harvestor Company, one of the main large scale farm machinery in the world, has hired you as an expert to advise them on the pricing policy for their Combine harvesters. One of the things the company would like to know is how much a 10 percent increase in price is likely to reduce their sales. What would you need to know to help the company with this problem? Explain why the facts are important.

Answer 1

What would you need to know to help the company with this problem? Explain why the facts are important.

I need to know the elasticity of their services. Elasticity is a term used in economics to describe how the aggregate quantity demanded of a good or service changes in response to price changes in that good or service.

If the quantity demand for a product changes more than proportionately when the price changes, the product is said to be elastic. In contrast, a product is said to be inelastic if its quantity demand varies very little as its price fluctuates.

To advise the company, we will dwell on the concept of price elasticity of demand. The price elasticity of demand is a measurement of how a product's consumption changes in response to price changes.

In mathematic terms, it's as follows:

Price Demand Elasticity = $\frac{Percentage\ Change\ in\ Demanded\ Quantity}{Price\,Change\, in\, Percentage}$

We will calculate the price demand to see if it is elastic or inelastic. If the price demand is elastic, an increase in price by 10% will reduce the demand which will reduce the sales, when sales reduce, we may advise the company to discard the idea if the 10% increase will not compensate for the reduced sales or get optimal profit. Also, we will check if the service is inelastic. If the increase in price will not or will minimally reduce the number of sales, then we will advise the company to increase the cost by 10% because they will earn an optimal profit.