`

The world demand for crude oil is estimated to have a

short-run price elasticity of 0.05. If the initial price of
oil were $100 per barrel, what would be the effect on
oil price and quantity of an embargo that curbed
world oil supply by 5 percent? (For this problem,
assume that the oil supply curve is completely
inelastic.)
`

Solution:
The quantity supplied to world market has gone down by 5%
i.e. % change in qty is 5%

Price Elasticity of Demand = % Change in Qty / % Change in Price

0.05 = 0.05/ % Change in Price
% Change in Price = 1

This means the price will change by 100%

Change in Price / Average Price =1

(P2-P1)/ ((P2+P1)/2) =1
(P2-P1) = (P2+P1)/2
2P2-2P1 = P2+P1
P2 = 3 P1
P2 = 3 x 100
= $300

Oil price will change to $300