Price elasticity of demand
- Price elasticity (midpoint)
- E = (ΔQ/Q̄)/(ΔP/P̄)
- Elastic / inelastic
- |E| > 1 elastic, |E| < 1 inelastic
- Revenue
- TR = P·Q
Microeconomics: cram pack
Formula sheets, the key method steps for every topic and 4 practice problems, with full solutions at the back.
1Formulas and methods
2Practice problems
1.Price elasticity of demandMedium
When the price of a ticket changes from €12.00 to €22.00, weekly sales change from 1000 to 330. Use the midpoint (arc) method to find the price elasticity of demand E.
P1 = €12.00P2 = €22.00Q1 = 1000Q2 = 330
E =
2.Price elasticity of demandHard
The demand for a product is Q = 600 − 10P, with P in euros. At which price P is the price elasticity of demand equal to −4?
Q = 600 − 10PE = −4
P = €
3.Economics conceptsMedium
If the ECB raises its main interest rate, the most likely short-term effect is:
- AA fall in the value of the euro
- BAn immediate rise in GDP
- CHigher borrowing and spending, which adds to inflationary pressure
- DLower borrowing and spending, reducing inflationary pressure
4.Economics conceptsHard
A Giffen good is one where:
- AQuantity demanded rises when its price rises, because a strong income effect outweighs the substitution effect
- BDemand rises with income, like most goods
- CDemand rises because the good is a status symbol
- DThe price never changes
3Solutions
1.Price elasticity of demand
Answer: E = −1.713
Price elasticity of demand measures how strongly the quantity demanded reacts to price: E = (% change in quantity)/(% change in price). It is negative for normal goods. |E| > 1 is elastic (revenue falls when price rises), |E| < 1 is inelastic.
Relative change in quantity
(330 − 1000)/((1000 + 330)/2) = −670/665 = −1.008
Relative change in price
(22 − 12)/((12 + 22)/2) = 10/17 = 0.5882
Elasticity
E = −1.008/0.5882 = −1.713
Answer
E = −1.713
2.Price elasticity of demand
Answer: P = 48 €
Price elasticity of demand measures how strongly the quantity demanded reacts to price: E = (% change in quantity)/(% change in price). It is negative for normal goods. |E| > 1 is elastic (revenue falls when price rises), |E| < 1 is inelastic.
Elasticity as a function of price
E = −10P/(600 − 10P)
Solve for P
−10P = −4·(600 − 10P)
P·(−10 − 40) = −2400 → P = €48.00
Answer
P = €48.00
Check: Q = 120, E = −10·48/120 = −4.
3.Economics concepts
Answer: D · Lower borrowing and spending, reducing inflationary pressure
Why this is the answer
Higher rates make credit more expensive and saving more attractive, reducing demand and inflation; they also tend to strengthen the currency.
Answer
D · Lower borrowing and spending, reducing inflationary pressure
4.Economics concepts
Answer: A · Quantity demanded rises when its price rises, because a strong income effect outweighs the substitution effect
Why this is the answer
For a Giffen good the income effect of a price rise (feeling poorer, buying more of the cheap staple) dominates the substitution effect, so demand slopes upward.
Answer
A · Quantity demanded rises when its price rises, because a strong income effect outweighs the substitution effect
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