Elasticity means "responsiveness." The elasticity of demand measures the responsiveness of the quantity demanded of a product to changes in any of the factors that affect demand. Analysts are interested in knowing how much the quantity demanded will rise or fall for a given change in price or income.

Price elasticity of demand is the percentage change in the quantity of a product demanded divided by the percentage change in the price causing the change in quantity. It indicates the degree of consumer response to variation in price. Specifically, it tells the analyst the percentage change in the quantity demanded for a good caused by a 1% increase in the price of that good.

The change in price is expressed as a percentage of the average price - the average of the initial and new price, and the change in the quantity demanded is expressed as a percentage of the average quantity demanded - the average of the initial and new quantity. Using the average price and average quantity, the same elasticity value is obtained regardless of whether the price rises or falls.

The measure is units-free because it is a ratio of two percentage changes and the percentages cancel each other out. Changing the units of measurement of price or quantity leave the elasticity value the same.

Because a change in price causes the quantity demanded to change in the opposite direction, this ratio is always negative, although economists always ignore the sign and simply use the absolute value. It is the magnitude, or absolute value, of the measure that reveals how responsive the quantity change has been to a price change.

Example 1

A Pizza Hut store can sell 50 pizzas per day at $7 each or 70 pizzas per day at $6 each. The price elasticity is: [(50 - 70)/60] / [(7 - 6) / 6.5] = -2.17.

Own-Price Elasticity of Demand

Demand can be inelastic, unit elastic, or elastic, and can range from zero to infinity. (Note: the negative sign is ignored.)

• If the elasticity coefficient is greater than 1, demand is elastic. A small price change leads to a large change in the quantity demanded. The more elastic the demand, the flatter the demand curve over any specific range. Demands for goods with many substitutes (e.g., juice) are relatively elastic. If the demand curve of a good is completely horizontal, the demand is perfectly elastic. Consumers will buy all of that good at the market price.
• When the elasticity coefficient is less than 1, demand is inelastic. The more inelastic the demand, the steeper the demand curve. Demands for goods with few substitutes (e.g., cigarettes) are relatively inelastic.
• When the elasticity coefficient is equal to 1, demand is said to be unitary elastic.

Because elasticity is a relative concept, the elasticity of a straight-line demand curve will differ at each point along the demand curve. Specifically, a straight-line demand curve is more elastic when price is high. Note that the elasticity is not the slope of the demand curve. Elasticity is used since it is independent of the units of measure.

Example 2

Refer to the graph below. Which of the following is true?

A. Areas C and E are smaller than area A, so demand must be elastic between $10 and $30.
B. Areas C and E are smaller than area A, so demand must be inelastic between $10 and $30.
C. Area F is smaller than areas B and C, so demand must be inelastic between $10 and $30.

Answer: C. Since at $30 the demand is unit elastic, at prices below $30 demand is inelastic. This is because when price rises from $10 to $30, the revenue gained is greater than the revenue lost.

The Factors that Influence the Elasticity of Demand

The elasticity of demand among products varies substantially. The determinants of price and income elasticity of demand are:

• The closeness of substitutes. The most important determinant is the availability of substitutes. The closer the substitutes for a good or service, the more elastic the demand for it.
  • Necessities, such as food or housing, generally have inelastic demand.
  • Luxuries, such as exotic vacations, generally have elastic demand.
  When good substitutes for a product are available, a price rise induces many consumers to switch to other products. For example, when the price of apples rises, many consumers simply switch to oranges or other fruits. However, when the price of gasoline rises, most consumers can only slightly cut back their consumption of gasoline, since there is no good substitute for gasoline.

• The proportion of income spent on the good. If expenditures on a product are quite small relative to a consumer's budget, the income effect will be small even if there is a substantial increase in the price of the product. This will make the demand less elastic. For example, if the price of matches triples, consumers would not bother to find substitutes, since they only spend a few bucks on matches each year.

• The time elapsed since a price change. The more time consumers have to adjust to a price change, or the longer a good can be stored without losing its value, the more elastic the demand for that good. In general, when the price of a product increases, consumers will reduce their consumption by a larger amount in the long run than in the short-run. Therefore, the demand for most products will be more elastic in the long run than in the short run.

The price elasticity of demand tends to increase in the long run.

As changing market conditions raise or lower the price of a product, both consumers and producers will respond. However, their response will not be instantaneous, and it is likely to become larger over time. In general, when the price of a product increases, consumers will reduce their consumption by a larger amount in the long run than in the short run. Thus, the demand for most products will be more elastic in the long run than in the short run. This relationship between the elasticity coefficient and the length of the adjustment period is referred to as the second law of demand.

Impact on Total Expenditure

Consumers' total expenditure is the same as total revenues from the suppliers' point of view. One of the most important applications of price elasticity is determining how total consumer expenditure on a product changes when the price changes.

Total Revenues = Total Expenditures = Price x Quantity

According to the law of demand, price and quantity move in opposite directions. When the price changes, total revenue also changes. But a rise in price doesn't always increase total revenue. The change in total expenditures depends on whether the effect of the changes in price or the effect of the changes in quantity is greater.

• When demand is inelastic, a change in price will cause total expenditures to change in the same direction.
• When demand is elastic, a change in price will cause total expenditures to move in the opposite direction.
• When demand elasticity is unitary, total expenditures will remain unchanged as price changes.

Because of the relationship between price and quantity sold, a firm's total revenue can rise, fall or stay the same in response to a change in price. The outcome is determined by the price elasticity of demand. This conclusion is similar to that of total expenditures.

Note that firms attempt to maximize profit (total revenue minus total cost), not revenue.

Income Elasticity of Demand: Normal and Inferior Goods

Definition: The percentage change in the quantity of a product demanded divided by the percentage change in consumer income causing the change in quantity demanded.

Since increases in consumer income will increase the demand for most goods, income elasticity measures the responsiveness of a demand for a good to a change in income. Specifically, it tells the analyst the percentage change in the quantity demanded for a good caused by a 1% increase in consumer income.

Calculation:

The type of product is the primary determinant of income elasticity of demand.

• Most products have positive income elasticity; normal goods have positive income elasticity.
  • Necessities have low income elasticities (between 0 and 1); when income rises by 1%, the quantity demanded for necessities will increase by less than 1%.
  • Luxuries have high income elasticities (greater than 1).

• A few commodities (inferior goods) have negative income elasticity; as income expands, the demand for them will decline. Examples of inferior goods are margarine, junk food, etc.

Cross-Price Elasticity of Demand: Substitutes and Complements

The cross elasticity of demand is a measure of the responsiveness of demand for a good to a change in the price of a substitute or a complement, other factors remaining the same. The formula for calculating the cross elasticity is:

• The cross elasticity of demand for a substitute is positive.
• The cross elasticity of demand for a complement is negative.

The following figure shows the increase in the quantity of pizza demanded when the price of a burger (a substitute for pizza) rises. The figure also shows the decrease in the quantity of pizza demanded when the price of a soft drink (a complement of pizza) rises.

Practice Question 1

Refer to the graph below. Which of the following curves demonstrates a perfectly inelastic demand curve?

Correct Answer: C

A perfectly inelastic curve is vertical.

Practice Question 2

Measuring the price of gasoline in dollars, an economist calculates the price elasticity of demand to be 0.5. What would the price elasticity of demand be if the economist had chosen to measure the price of gasoline in pennies rather than dollars?

A. 0.5
B. 0.05
C. 0.005

Correct Answer: A

Elasticity is independent of units.

Practice Question 3

If consumers won't pay more than 59 cents for a pack of gum and at 59 cents they will buy an almost infinite amount, price elasticity of demand at 59 cents is ______.

A. inelastic
B. perfectly elastic
C. perfectly inelastic

Correct Answer: B

The response to an increase in price above 59 cents is enormous, thus demand is perfectly elastic.

Practice Question 4

If the price elasticity of demand is 0.3, then a 20% increase in price will ______ the quantity demanded by ______ %.

A. increase; 20.3
B. decrease; 6.0
C. decrease; 1.5

Correct Answer: B

The price elasticity of demand is E = %change in quantity/ % change in price. Since demand curves are downward-sloping, this is a negative number. Economists, however, use the absolute value of the % change in quantity.

Practice Question 5

Suppose that the initial price of pizza is $2 and the initial quantity demanded is 100 pizzas. If the price increases to $2.20 and the quantity demanded falls to 90, what is the price elasticity of demand (in absolute value)?

A. 10
B. 1
C. 1.10

Correct Answer: C

Based on the formula: [(100 - 90)/((100 + 90)/2)] / [(2 - 2.2)/((2 + 2.2)/2)] = 1.1.

Practice Question 6

For which of the following goods is the demand curve likely to be most elastic?

A. Health care
B. Cigarettes
C. A holiday trip to the Bahamas

Correct Answer: C

Necessities such as salt and health care have few alternatives. So, their demand curves are likely to be relatively inelastic. Cigarettes have few alternatives and, because of their addictive nature, the demand curve would be relatively inelastic. But there are sufficient alternatives to taking a luxurious holiday trip to the Bahamas (taking a trip to another destination, for example).

Practice Question 7

If you earn $80,000 a year and acquiring cable TV service costs you $150 per year, your demand for cable is likely to be ______.

A. inelastic
B. elastic
C. perfectly inelastic

Correct Answer: A

Your demand for cable is likely to be inelastic since it represents a relatively small proportion of your budget. It is not perfectly inelastic, however, since you will not purchase as much cable if the price changes enough.

Practice Question 8

You spend 50% of your budget on housing, 30% on food, and 20% on entertainment. Based only on this information, which would you expect to have the most elastic demand?

A. housing
B. food
C. entertainment

Correct Answer: A

The largest share of your budget is spent on housing. Thus, you would be likely to be most responsive to changes in the price of housing.

Practice Question 9

When people have very little time to respond to price changes, demand becomes ______.

A. more elastic
B. less elastic
C. Time does not affect the price elasticity of demand.

Correct Answer: B

If you have little time to respond to a price change, you will likely make the purchase you are in the habit of making. This suggests a less elastic demand curve.

Practice Question 10

In the short run, the price elasticity of demand for gasoline is estimated to be about 0.11. In the long run, studies suggest that it is about 0.9. How can you best explain this difference?

A. The supply of gasoline is likely to increase in the long run.
B. Consumers will have more income in the long run.
C. Consumers are more able to make different choices given more time to adapt.

Correct Answer: C

In the short run, it is difficult to make different choices about transportation. However, in the long run, consumers can adapt to changing gas prices in a number of ways, such as in the choice of a different car or a different place to live. Thus, elasticity increases dramatically in the long run (though it is still inelastic).

Practice Question 11

The cross elasticity of demand for a substitute is ______.

A. greater than zero
B. equal to one
C. less than zero

Correct Answer: A

Practice Question 12

Suppose the price of paper rises 10% and the quantity demanded falls 15%.

A. Is the price elasticity of demand for paper elastic, unit elastic, or inelastic?
B. Will revenue rise, decline, or stay the same with the given change in price?

Correct Answer: elastic; decline

Price elasticity of demand is 15%/10% = 1.5. Since 1.5 > 1, demand is elastic.
Total revenue will fall. This is because the percentage decrease in the quantity demanded (15%) exceeds the percentage increase in the price (10%).

Practice Question 13

Hal sells tennis shoes. Hal wants to increase his revenues, so he raises his prices. This strategy will only work if demand is ______.

A. unitary elastic
B. elastic
C. inelastic

Correct Answer: C

This strategy will only work if the demand for tennis shoes is relatively inelastic. In this case, Hal will not lose very many sales if the price increases.

Practice Question 14

When demand is elastic, a decrease in price will ______

A. increase a firm's total revenue and decrease quantity demanded.
B. increase a firm's total revenue and increase quantity demanded.
C. decrease a firm's total revenue and increase quantity demanded.

Correct Answer: B

Lower price leads to higher quantity demanded, and an elastic demand curve results in higher revenue when price decreases.

Practice Question 15

Factors that influence the elasticity of demand include all of the following except for ______.

I. resource substitution possibilities
II. closeness of substitutes
III. time elapsed since a price change
IV. proportion of income spent on the good

Correct Answer: I only

Practice Question 16

If the price of good X triples and the demand for good Y decreases, then ______

A. X and Y are substitutes.
B. X and Y are inferior goods.
C. X and Y are complements.
D. X and Y are abnormal goods.

Correct Answer: C

In this case, the cross elasticity of demand between goods X and Y are negative. This indicates that the goods are complements.

Practice Question 17

Which of the following linked products is an example of substitute goods?

A. Tires, automobiles
B. Fruit juice, soft drinks
C. Compact discs, record players
D. Cigarettes, beer

Correct Answer: B

Fruit juice and soft drinks are substitute goods while the others are complementary goods.

Practice Question 18

At price = $5, the elasticity of good X is -1. This means ______.

A. when price equals $5, a 1% rise in price would result in a fall in quantity demanded of 1%.
B. that the price will most likely become $4 next.
C. the demand is inelastic, as the elasticity is less than zero.

Correct Answer: A

Practice Question 19

On a linear demand curve, maximum total expenditure occurs when demand is ______.

A. elastic
B. unit-elastic
C. inelastic

Correct Answer: B

Practice Question 20

At price = $5, the income elasticity of good X is 0.5. This means ______

A. 0.5% of income is being spent on good X.
B. whenever income rises by 1%, the quantity demanded at price = $5 would rise by 0.5%.
C. if income rises, 0.5% of the increase would be spent on good X.

Correct Answer: B

Practice Question 21

Which one would have the highest income elasticity?

A. Gasoline
B. Potatoes
C. Vacation in Hawaii

Correct Answer: C

Luxuries typically have high income elasticities.

Practice Question 22

Compute the approximate elasticity of demand from the following data.

A. 0.87
B. 1.14
C. 1.5

Correct Answer: B

Elasticity = [(11.5-13.5)/12.5]/[(23 -20)/21.5) = (2/12.5)/(3/21.5) = .16/.14 = 1.14

Practice Question 23

If a $100 drop in the price of a $10,000 car resulted in an increase in the quantity of cars purchased from 100 to 110 and a $100 drop in the price of a $1000 vacation rental resulted in an increase in the quantity of weekly vacation homes rented from 100 to 110, the price elasticity of demand is ______.

A. greater for the car
B. less for the car
C. the same for both the car and the vacation rental

Correct Answer: A

The percentage rise in quantity was the same for both the car and the vacation rental, but the percentage rise in price was greater for the vacation rental. Its elasticity of demand is smaller than that of the car.

Practice Question 24

As the manager of a ski resort, you want to increase the number of lift tickets sold by 8%. Your staff economist has determined that the price elasticity of demand for lift tickets is 2. To increase sales by the desired amount, you should decrease the price of a lift ticket by ______.

A. 4%
B. 8%
C. 16%

Correct Answer: A

Price elasticity of demand = % change in quantity/ % change in price = 8/x = 2. Solve for x.

Practice Question 25

Refer to the graph below. Elasticity is smallest at which point?

A. A
B. C
C. D

Correct Answer: A

Quantity changes the least for point A with the same change in price and thus has the least elasticity.

Practice Question 26

Elizabeth Savoca estimated that for every 1% increase in tuition costs at college, 2.4% fewer students applied to that college. This indicates that the elasticity of applying to college is ______.

A. inelastic
B. elastic
C. unitary elastic

Correct Answer: B

Elasticity = 2.4/1 = 2.4. Elastic points have elasticities greater than one.

Practice Question 27

Paul spends $100 per month on books whether their price rises or falls. His price elasticity of demand for books is (in absolute value) ______.

A. 0
B. 1
C. infinity

Correct Answer: B

His spending does not change with price. That means that if price rises, he buys fewer books, but still spends $100; if price falls, he buys more books, but still spends $100. A 1% change in price leads to a 1% change in quantity demanded, the definition of unitary elasticity.

Practice Question 28

If the price of tickets to Disney World increases from $30 to $33 and as a result attendance falls by 5 percent, the demand for the tickets is ______.

A. inelastic
B. indeterminate
C. elastic

Correct Answer: A

The percentage change in price is: (33-30)/[(30+33)/2] = 9.5%. Since the percentage change in demand was 5 percent, demand is characterized as inelastic; the percentage change in price was greater than the subsequent percentage change in demand.

Practice Question 29

The quantity demanded of a product goes from 100 to 110 units when the price goes from $50 to $25. What is the price elasticity?

A. -0.40
B. -0.25
C. -0.20

Correct Answer: C

(100-110)/(110+100) / (50-25)/(50+25) = -0.14. Price elasticity equals the percentage change in quantity over the percentage change in price. These calculations are based on the arc elasticity formula. Using percentages calculated as ((100-110)/100)/(50-25)/50), the elasticity would be -.20 (-10%/50%). (The CFA exam questions have often used this latter approach).

Practice Question 30

A recent increase in the supply of oranges caused their price to drop from $5 to $2.50 per bushel and quantity demanded to rise from 10,000 bushels to 20,000 bushels. This indicates that the price elasticity of demand for oranges in this price range is ______.

A. -2
B. -0.5
C. -1

Correct Answer: C

Price elasticity is found by solving the following equation:

Percent change in quantity demanded/Percent change in price: [(10,000-20,000)/(20,000+10,000)] / [(5-2.50)/(5+2.5)] = -1

Practice Question 31

If the long-run elasticity of demand for residential electricity is unitary, the short-run demand is likely to be ______.

A. about the same as the long-run elasticity
B. inelastic
C. elastic

Correct Answer: B

In the long run, price elasticity for a good tends to increase. This is because over time consumers are able to discover substitutes for the good and thus switch their consumption elsewhere under a price increase. If, in the long run, the price elasticity for electricity is unitary, it is likely that the price elasticity in the short run was inelastic.

Practice Question 32

The price elasticity of demand for a product tends to be small (less elastic) when ______

A. people spend a large fraction of their income on the product.
B. the good is broadly defined.
C. there are many good substitutes for the product.

Correct Answer: B

When a good is broadly defined, such as "soft drinks," the elasticity of demand is small because all of the good substitutes have been included under the definition of the good. The fewer the substitutes and the smaller the portion of income spent on the good, the less elastic demand is likely to be.

Practice Question 33

As the price of a normal product drops, demand ______

A. becomes more elastic.
B. becomes more inelastic.
C. can become either more or less elastic depending on other factors.

Correct Answer: B

Elasticity falls as you move down along a linear demand curve.

Practice Question 34

Studies indicate that the demand for fresh tomatoes is much more elastic than the demand for salt. These findings reflect that ______

A. it takes longer for consumers to adjust to a change in the price of salt than to a change in the price of tomatoes.
B. more good substitutes exist for fresh tomatoes than for salt.
C. tomatoes are a necessity while salt is a luxury.

Correct Answer: B

The presence of substitutes for a good raises the elasticity of the good. This is because under a price increase for tomatoes, consumers will switch to other vegetables that are now relatively lower priced. There are few good substitutes for salt and therefore the price elasticity of salt is much lower than that of tomatoes.

Practice Question 35

The passage of time usually ______

A. causes the price elasticity of demand for a good to increase.
B. causes the price elasticity of demand for a good to decrease.
C. has a completely unpredictable effect on the price elasticity of demand for a good.

Correct Answer: A

Price elasticity of demand usually increases with time because it often takes time to make the adjustments needed to change spending plans. Consider the time it would take to make all the adjustments you would want to make if the price of gasoline tripled!

Practice Question 36

The current price of wheat is $1.00 per bushel and the price elasticity of demand for wheat is known to be 0.50. A bad harvest causes the supply of wheat to decrease, and as a result, the price of wheat rises by 20%. What will be the percentage change in the quantity of wheat demanded and will farm revenues rise or fall?

A. 10%; rise
B. 20%; fall
C. 10%; fall

Correct Answer: A

Elasticity of demand = (percentage change in quantity)/(percentage change in price). Thus, since elasticity is known to be 0.5, a 20% change in price must result in a 10% change in quantity demanded. Since demand is inelastic, a rise in price will cause total revenues to increase.

Practice Question 37

In which of the following cases will the total expenditures on a product increase?

A. Market price falls and demand elasticity is -0.7.
B. Market price falls and demand elasticity is -1.7.
C. Market price increases and demand elasticity is -1.3.

Correct Answer: B

Total expenditure rises when a price decrease occurs in the market for an elastic good. An elastic good under a price decrease is represented by the good with a price elasticity coefficient greater than one, or -1.7.

Practice Question 38

An increase in the price of computer diskettes leads to an increase in total expenditures on the diskettes. Which of the following is true for this price change?

A. The demand for computer diskettes is inelastic.
B. The demand for computer diskettes is elastic.
C. Computer diskettes are an inferior good.

Correct Answer: A

Inelastic demand is characterized by the following: the percentage increase in price is responded to with a fall in demand. The fall in demand, however, is smaller, in percentage terms, than the increase in price. Thus, a price rise for an inelastic product will result in an increase in total expenditure as the price increase exceeds the fall in demand in percentage terms.

Practice Question 39

If a 10 percent decline in airfares leads to a 5 percent increase in total expenditures on air travel, the price elasticity of demand for air travel in this range must be ______.

A. 0.5
B. elastic
C. inelastic

Correct Answer: B

Since a price decline led to an increase in total expenditures on air travel, the demand for air travel must be elastic. This is because elastic demand implies that a 10 percent decline in price will lead to a greater than 10 percent increase in demand. Thus, under elastic demand and a price decline, total expenditures are expected to rise.

Practice Question 40

If the quantity of Snapple's drinks demanded falls from 4.0 million to 3.0 million as the price of Nantucket Nectar's drinks fall from $2.70 to $2.50, Snapple's drinks and Nantucket Nectar's drinks are ______.

A. substitutes
B. complements
C. luxuries

Correct Answer: A

Since the cross price elasticity of demand for Snapple's drinks and Nantucket Nectar's drinks is positive, they are substitutes.

Practice Question 41

Which of these ratios is (are) always negative?

I. The price elasticity of demand
II. The cross elasticity of demand for a complement
III. The income elasticity of demand for an inferior good
IV. The price elasticity of supply

A. I only
B. I, II and III
C. I and II

Correct Answer: B

The price elasticity of supply is always positive.

Practice Question 42

The prices of petroleum products, including gasoline and fuel oil, decline sharply. Which of the following will most likely result from the lower prices of petroleum products?

A. An increase in demand for home insulation products.
B. An increase in demand for products that are heavy users of gasoline.
C. An increase in demand for smaller, more efficient automobiles.

Correct Answer: B

A decline in the price of gas will increase the demand for goods used in conjunction with gasoline, such as automobiles.

Practice Question 43

An increase in the price of a complement for product A would ______.

A. shift demand for product A outwards
B. shift demand for product A inwards
C. shift supply for product A outwards

Correct Answer: B

Remember that complements are purchased together.

Practice Question 44

The price decreases from $2,000 to $1,800. Quantity demanded per year increases from 5000 to 6000 units. Which of the following is correct?

A. The price elasticity of demand is -2.
B. Income elasticity is + 0.5.
C. The good is inferior.

Correct Answer: A

The percentage change in demand is +20%; the percentage change in price is -10%, so the price elasticity of demand is -2.

Practice Question 45

If the price elasticity of demand is unit, then a fall in price ______.

A. reduces revenue.
B. leaves revenue unchanged.
C. increases revenue.

Correct Answer: B

This means the percentage change in quantity demanded equals the percentage change in price, so price changes will not alter the revenue.

Practice Question 46

If the cross elasticity of demand is -2, ______

A. the products are substitutes and demand is cross-price elastic.
B. the products are substitutes and demand is cross-price inelastic.
C. the products are complements and demand is cross-price elastic.

Correct Answer: C

This means that, for example, a 10% increase in the price of one product reduces the quantity demanded of another product by 20%; the products are complements and the cross-price elasticity is elastic (because the effect on quantity demanded is greater than the change in price in percentage).

Practice Question 47

Income elasticity is +2 and income increases by 20%. Sales were 5000 units. What will they be now?

A. 3000
B. 5500
C. 7000

Correct Answer: C

A percentage increase in income will lead to an increase in quantity demanded that is twice as great; this means sales will increase by 40%, to 7000 units.

Practice Question 48

The price elasticity of demand is a negative number. This means ______

A. demand is price elastic.
B. the demand curve is downward-sloping.
C. an increase in income will reduce the quantity demanded.

Correct Answer: B

This means that an increase in price leads to a fall in quantity demanded; the demand curve is downward-sloping. We cannot tell how responsive the quantity demanded from this, only that price and quantity demanded are inversely related.

Practice Question 49

Price increases from 10 to 12 dollars and the price elasticity of demand is -0.5. The quantity demanded was 500 units. What will it be now?

A. 450
B. 500
C. 550

Correct Answer: A

Any given percentage fall in price leads to an increase in quantity demanded that is half as much; a 20% price increase will reduce the quantity demanded by 10%. This means the quantity demanded will be 450 units.

Practice Question 50

If demand is price inelastic, ______

A. an increase in price must raise profits.
B. an increase in price increases revenue.
C. a decrease in price reduces sales.

Correct Answer: B

If demand is price inelastic, the percentage change in quantity demanded is less than the percentage change in price; this means a price increase will increase revenue.

Practice Question 51

Suppose the quantity of x is measured on the horizontal axis. If the income consumption curve is vertical, then the income elasticity of demand for x is ______.

A. 0
B. 1
C. -1

Correct Answer: A

Practice Question 52

The cross elasticity of demand for a complementary product would most likely be ______.

A. positive
B. negative
C. zero

Correct Answer: B

The cross elasticity of demand is negative for a complement and positive for a substitute.

Practice Question 53

The cross elasticity of demand for a substitute product would most likely be ______.

A. zero
B. positive
C. negative

Correct Answer: B

The cross elasticity of demand is negative for a complement and positive for a substitute.

Practice Question 54

If a price cut for a product increases total revenue, demand is best described as ______.

A. elastic
B. inelastic
C. unit elastic

Correct Answer: A

A product's demand is elastic if demand increases by a greater percentage than the percentage price cut when prices are cut. For example, if a 1 percent price cut increases the quantity sold by more than 1 percent, total revenue increases and demand is said to be elastic.

Practice Question 55

A company determines that the quantity demanded of a product increases by 5% when price is reduced by 10%. The product's price elasticity of demand is best described as ______.

A. elastic
B. inelastic
C. perfectly elastic

Correct Answer: B

When the price elasticity of demand is between 0 and 1, the good is said to have an inelastic demand. In this case, the price elasticity of demand is calculated as 5% / 10% = 0.5.

Practice Question 56

For most goods and services, the long-run demand is ______ the short-run demand.

A. more elastic than
B. less elastic than
C. the same elasticity as

Correct Answer: A

This is because it takes time for consumers to react to price changes.

Practice Question 57

Goods with ______ income elasticity are called ______ goods.

A. positive; inferior
B. negative; normal
C. positive; normal

Correct Answer: C

Goods with negative income elasticity are called inferior goods.