Principles of Economics

Calculation
 When you calculate:
 Price elasticity- quantity should change due to change
in price of the good only- income and prices of other
goods should be constant
 Cross price elasticity- quantity should change due to
change in price of another good only- income, price of
the good and price of any other good considered
should be constant
 Income elasticity- quantity should change due to
change in income only- price of the good and prices of
other goods should be constant
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Calculation
 When we say- find the arc elasticity (even if direction
of price or quantity change has been given)- we need
to use the mid point formula.

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1. The supply schedule for oranges is given below:

Price (Rs./dozen) Quantity Supplied (1000

dozen)
6 10
7 20
8 30
9 40
10 50

What is the arc price elasticity of supply for oranges

when the price increases from Rs. 7 to Rs. 8?

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 Solution:
 P1= 7, P2= 8, Q1= 20, Q2= 30
 ΔQ= 10, ΔP= 1
 eps= (10/1) x [(7+8)/(20+30)]
= 10 x (15/50) = 3 (elastic)

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2. Supply Function: Qs= 500P-1000
Calculate price elasticity of supply at a price of Rs. 10.

Answer: 1.25 (elastic)

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3. Given the demand schedule, what is the cross price
elasticity between good A and B?

Product A Product B

Price Quantity Price

Demanded
10 100 20

10 80 40

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 Solution:
 Cross price elasticity of demand= % change in demand
for good A/ % change in price of good B
 P1B= 20, P2B= 40, Q1A= 100, Q2A= 80
 ΔQA= -20, ΔPB= 20
 eAB= -(20/20) x [(20+40)/(100+80)]
= -60/180 = -0.33
(c0mplimentary goods)

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4. Compute income elasticity of demand using arc
elasticity of demand.

Price Quantity Consumer

demanded income
20 50 12000

30 40 12000

20 40 10000

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 Solution:
 Income elasticity of demand= % change in quantity
demanded/ % change in income
 We consider the case when income changes but price
is fixed
 I1= 12000, I2= 10000, Q1= 50, Q2= 40
 ΔQ= 10, ΔI= 2000
 ei= (10/2000) x [(12000+10000)/(50+40)]
= (10/2000) x (22000/90) = 11/9 = 1.22 (elastic)

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5. From the following table calculate price elasticity of
demand.

Price Quantity Consumer

demanded income
20 1000 30000

18 1200 24000

16 1450 26000

12 1600 30000

20 1200 32000

12 1600 31000

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 Solution:
 We consider the case when price changes but income
is fixed
 P1= 20, P2= 12, Q1= 1000, Q2= 1600
 ΔQ= 600, ΔP= -8
 ep= (600/8) x [(20+12)/(1000+1600)]
= -(600/8) x (32/2600) = -0.923
 (inelastic)

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6. Given the following schedule, find the cross price
elasticity of demand between X and Y.

Goods Before price change After price change

Price Quantity Price Quantity

(Rs./unit) (unit/ (Rs./unit) (unit/
month) month)
Y 5 60 4 80

X 2 25 2 15

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 Solution:
 Cross price elasticity of demand= % change in demand
for good X/ % change in price of good Y
 P1Y=5, P2Y= 4, Q1X= 25, Q2X= 15
 ΔQX= -10, ΔPY= -1
 exy= (-10/-1) x [5/25]
=2
(substitutes)

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7. The following is the demand schedule of goods X and Y.
Compute the cross elasticity of demand between X and Y.

Price Quantity Demanded

X Y X Y
3.5 2.5 400 550
4 3 450 600
4.5 3.5 425 700
4.5 4 450 650

Answer: 0.42
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8. In a year number of cars sold decreased by 20% during
the year, prices of cars increased by 5%, per capita
income declined by 2% and price of petrol increased
by 10%, income elasticity of demand for cars is
estimated to be +1.5 and cross price elasticity of petrol
and cars is estimated to be -0.30. Find:
a. The impact of decline in per capita income on
demand for cars.
b. The impact of increase in price of petrol on demand
for cars
c. If sales decline because of increase in petrol and
decrease in income are 3% and 3% respectively, what
is the price elasticity of demand for cars?

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a) ei= % ΔQ/% ΔI
 % ΔI= -2%
 ei= 1.5
 Therefore, % ΔQ= (-2 x 1.5)% = -3%
 Therefore, decrease in percapita income caused the
sales of cars to decline by 3%
b) exy= % ΔQx/% ΔPy
• ΔPy (petrol) = 10%
• exy= -0.30
• % ΔQx = 10 x -0.30 = -3
• Therefore, increase in price of petrol caused the sales
of car to decline by 3%

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c) Total decline in sales of cars= 20%
 Decline caused by decrease in per capita income and
increase in price of petrol= 3+3= 6%
 Therefore, 20-6= 14% decline in car sales is caused by
increase in price of cars
 ep= % ΔQ/ % ΔP= -14/5= -2.8

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9. Demand Function: Qd= 250000-35P
Find the price elasticity of demand between prices Rs.
2000 and Rs. 3000.

Answer: -0.538

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10. Demand Function: P=2000- 50Q
At what price the demand for the good is unitary elastic?

Solution:
P= 2000-50Q
Q= 40- 0.02P
Now, given, ep= (∂Q/ ∂P) x (P/Q) = -1
-0.02 x [P/ (40-0.02P)] = -1
0.02P= 40-0.02P
0.04P= 40
P= 40/0.04= 1000
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