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 €25.00 to €19.00, weekly sales change from 1000 to 1190. Use the midpoint (arc) method to find the price elasticity of demand E.
P1 = €25.00P2 = €19.00Q1 = 1000Q2 = 1190
E =
2.Price elasticity of demandHard
The demand for a product is Q = 400 − 5P, with P in euros. Find the price elasticity of demand E at a price of €48.
Q = 400 − 5PP = €48
E =
3.Economics conceptsMedium
A sharp rise in world oil prices leading to higher inflation is an example of:
- ADeflation
- BDisinflation
- CDemand-pull inflation
- DCost-push inflation
4.Economics conceptsHard
The Fisher effect predicts that, in the long run, a permanent 2 percentage point rise in expected inflation will:
- AHave no effect on nominal interest rates, so real interest rates fall by about 2 points
- BLower nominal interest rates by about 2 points
- CRaise real interest rates by about 2 points
- DRaise nominal interest rates by about 2 points, leaving real rates unchanged
3Solutions
1.Price elasticity of demand
Answer: E = −0.6362
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
(1190 − 1000)/((1000 + 1190)/2) = 190/1095 = 0.1735
Relative change in price
(19 − 25)/((25 + 19)/2) = −6/22 = −0.2727
Elasticity
E = 0.1735/−0.2727 = −0.6362
Answer
E = −0.6362
2.Price elasticity of demand
Answer: E = −1.5
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.
Quantity at this price
Q = 400 − 5·48 = 160
Point elasticity
dQ/dP = −5
E = (dQ/dP)·P/Q = −5·48/160 = −1.5
Answer
E = −1.5
|E| > 1: demand is elastic.
3.Economics concepts
Answer: D · Cost-push inflation
Why this is the answer
Higher input costs shift aggregate supply to the left, raising prices and possibly lowering output; demand-pull inflation comes from excess aggregate demand.
Answer
D · Cost-push inflation
4.Economics concepts
Answer: D · Raise nominal interest rates by about 2 points, leaving real rates unchanged
Why this is the answer
Lenders demand compensation for expected inflation, so nominal rates move one-for-one with it in the long run while the real rate is set by real factors.
Answer
D · Raise nominal interest rates by about 2 points, leaving real rates unchanged
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