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 €40.00 to €34.00, weekly sales change from 1000 to 1180. Use the midpoint (arc) method to find the price elasticity of demand E.
P1 = €40.00P2 = €34.00Q1 = 1000Q2 = 1180
E =
2.Price elasticity of demandHard
The (inverse) demand for a product is P = 50 − 0.02Q, with P in euros. Find the price elasticity of demand E when 1 000 units are sold.
P = 50 − 0.02QQ = 1 000
E =
3.Economics conceptsMedium
Comparative advantage means a country should specialise in goods it can produce:
- AAt a lower opportunity cost than other countries
- BOnly for its own consumption
- CWith the most workers
- DMore cheaply in absolute terms than every other country
4.Economics conceptsHard
According to prospect theory (Kahneman and Tversky), people typically:
- AFeel losses more strongly than equal-sized gains
- BTreat losses and gains of the same size as equally important
- CAlways maximise expected monetary value
- DPrefer risk when facing gains of any size
3Solutions
1.Price elasticity of demand
Answer: E = −1.018
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
(1180 − 1000)/((1000 + 1180)/2) = 180/1090 = 0.1651
Relative change in price
(34 − 40)/((40 + 34)/2) = −6/37 = −0.1622
Elasticity
E = 0.1651/−0.1622 = −1.018
Answer
E = −1.018
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.
Price at this quantity
P = 50 − 0.02·1 000 = €30.00
Point elasticity
dQ/dP = −1/0.02 = −50
E = −50·30/1 000 = −1.5
Answer
E = −1.5
|E| > 1: demand is elastic.
3.Economics concepts
Answer: A · At a lower opportunity cost than other countries
Why this is the answer
Even a country that is less efficient at everything gains from trade by specialising where its opportunity cost is lowest.
Answer
A · At a lower opportunity cost than other countries
4.Economics concepts
Answer: A · Feel losses more strongly than equal-sized gains
Why this is the answer
The value function is steeper for losses than for gains and is measured relative to a reference point, explaining behaviour that expected utility theory struggles with.
Answer
A · Feel losses more strongly than equal-sized gains
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