Managerial Economics -activity 2

ECO 610 Managerial Economics/Chapters 3 and 4/Makeup Residency

Residency Day-1 Activity-2

Name:

1. _____________________________________________

2. ______________________________________________

3. ______________________________________________

Specific Instructions:

1. As a group, complete the following problem in good form. Use APA throughout.

2. Only the names of group member present should be added

3. Due: Return it to me by email attachment no later than 5:00 PM on Friday, September 6.

Concepts:

1. Elasticity

2. Consumer Choice

Names

1. _____________________________________________

2. ______________________________________________

3. ______________________________________________

Specific Instructions:

1. As a group, complete the following problem in good form. Use APA throughout.

2. Only the names of group member present should be added

3. Due: Return it to me by email attachment no later than 5:00 PM on Friday, September 6.

Practice 1: Price Elasticity of Demand and Cross-Price Elasticity (Example)

In 2016, 160,000 electric vehicles (EVs) were sold in the United States.

(a) Suppose the average price of these cars was $37,000. Calculate price elasticity of demand if a $2000 tax credit caused an increase in sales by 10,000 EVs.

(b) Calculate cross-price elasticity if a 20% increase in the price of gasoline caused an increase in sales of EVs by 3000.

Feedback:

a. Price elasticity of demand = E = % change in quantity demanded ÷ % change in price

% change in quantity demanded = Change in quantity ÷ Average quantity = (q2 – q1) ÷ [(q1 + q2)/2]

% change in price = Change in price ÷ Average price = (p2 – p1) ÷ [(p1 + p2)/2]

Remember that for simplicity, E is typically expressed in absolute terms (without the minus sign). In other words, take the absolute value.

% change in quantity demanded = Change in quantity ÷ Average quantity = (170,000 – 160,000) ÷ [(160,000 + 170,000)/2] = |10,000 ÷ 165,000| = 0.061 or 6.1%

% change in price = Change in price ÷ Average price = ($35,000 – $37,000) ÷ [($37,000 + $35,000)/2] = |$2,000 ÷ $36,000| = 0.056 or 5.6%

E = % change in quantity demanded ÷ % change in price = 6.1% ÷ 5.6% = 1.1

b. Cross-price elasticity of demand = EX = % change in quantity demanded of good X ÷ % change in price of good Y

% change in quantity demanded = Change in quantity of good X ÷ Average quantity of good X = (qX2 – qX1) ÷ [(qX1 + qX2)/2]

% change in price = Change in price of good Y ÷ Average price of good Y = (pY2 – pY1) ÷ [(pY1 + pY2)/2]

Remember that the sign on a cross-price elasticity measure matters! If the cross-price elasticity is positive, the two goods are substitutes. If the cross-price elasticity is negative, the two goods are complementary.

% change in quantity demanded = Change in quantity of EVs ÷ Average quantity of EVs = (163,000 – 160,000) ÷ [(160,000 + 163,000)/2] = 3,000 ÷ 161,500 = 0.019 or 1.9%

% change in price of gasoline = 20%

EX = % change in quantity demanded of EVs ÷ % change in price of gasoline = 1.9% ÷ 20% = 0.1

Complete as a group

In 2016, 160,000 electric vehicles (EVs) were sold in the United States.

(a) Suppose the average price of these cars was $37,000. Calculate price elasticity of demand if a $5000 tax caused a decrease in sales by 10,000 EVs.

(b) Calculate cross-price elasticity if a 20% increase in the price of gasoline caused a decrease in sales of EVs by 3000.

Answers (show all your calculations in good form)

Practice 3

Suppose the accompanying graph depicts the demand for football tickets at Grand University.

(a) If current demand is represented as Demand 2 (D2), what is total revenue at the price of $24?

(b) If the price drops to $12, how many tickets would consumers purchase?

(c) What is total revenue at that point?

(d) If the team has a losing streak that shifts the demand curve and the price is still $24, at what point do we end up?

(e) What is total revenue at that point?

Practice 4

Suppose the following table reflects the total satisfaction derived from consumption of pizza slices and Pepsis. Assume that pizza costs $1 per slice and a large Pepsi costs $2. With $20 to spend, what consumption mix will maximize satisfaction?

Hint: We know we’ve reached maximum utility when we’ve satisfied the following rule:

Utility-maximizing rule:

MU x = MU y

Px Py

In this case, the optimal mix is achieved when marginal utility of pizza/price of pizza = marginal utility of Pepsi/price of Pepsi, constrained by the fact that we have only $20 to spend. The following table lays out the process of finding this optimal combination:

Practice 5:

A consumer downloads 4 movies and 3 apps per week. Suppose the price is $5 per movie and $3 per app, and the marginal utility this consumption level is 12 for a movie and 10 for an app.

(a) Calculate marginal utility per dollar.

(b) Is this optimal consumption?

(c) If not, how should they change their consumption to maximize?

Hint: Optimal consumption refers to the mix of output that maximizes total utility for the limited amount of income you have to spend. All goods included in the optimal consumption mix yield the same marginal utility per dollar. We know we’ve reached maximum utility when we’ve satisfied the following rule:

Utility-maximizing rule: MUX/PX = MUY/PY

Answers (Show all calculations):

1