Activity Number 5: Elasticity of Demand and Supply

Deadline: December 17, 2021

Name: ____________________________ Course & Section: __________________

Critical-Thinking Questions
1) Transatlantic air travel in business class has an estimated elasticity of demand of
0.40 less than transatlantic air travel in economy class, which has an estimated price
elasticity of 0.62. Why do you think this is the case?

2) Use the information in the table below to identify the type of cross elasticity
relationship between products X and Y and whether demand is cross elastic or cross
inelastic in each of the following five cases, A to E.

Cases Percent Percent Substitutes or Cross Elastic or

change in change in complements Inelastic
price of Y demand of X
A 5 7 Substitute Cross Elastic
B -9 -6 Substitute Cross Inelastic
C 5 -5 Complements Cross Unit Elastic
D 3 0 Substitute Perfectly Inelastic
E -2 10 Complements Cross Elastic

Directions: Each of the questions or incomplete statements below is followed by five

suggested answers or completions. Select the one that is best in each case and write
the correct letter of your anwer in the space provided for.

__1. Cross-price elasticity measures whether:

A. goods are normal or inferior.
B. two goods are substitutes or complements.
C. demand is elastic or inelastic.
D. supply is steeper than demand or vice versa.
E. All of the above

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__2. Connie Mix is a consultant to Vidget Corp. He tells them that their product,
Vidgets, is an inferior good. He would make this claim if he believed that the product
had:
A. an income elasticity greater than zero.
B. an income elasticity less than zero.
C. a price elasticity of supply greater than one.
D. a price elasticity of supply less than one.
F. None of the above

__3. In January of 2010 the Philippines’ Post Office raised the price of mailing a first
class letter from 32 to 33 cents, an increase of about 3%. If the Post Office faces a
section of its demand curve that is elastic, one can predict that revenues will:
A. increase by more than 3%.
B. increase by 3%.
C. increase, but by less than 3%
D. decrease.
E. None of the above

__4. If demand is inelastic and price decreases then total revenue will
A. Rise
B. Fall
C. Remain constant
D. Equal one
E. None of the above

__5. A study raises student allowances from P150 to P165 per week. This leads to an
average increase from 8 to 10 coffees consumed per week from a sample of students.
This indicates that income elasticity is
A. Elastic with a coefficient of 3.4
B. inelastic with a coefficient of 1.8
C. Elastic with a coefficient of 2.5
D. inelastic with a coefficient of 0.4
E. None of the above

__6. If the price elasticity of demand coefficient equals 2, this means a 10 percent
increase in price will result in a 20 percent decrease in the quantity demanded.
A. True B. False C. Incomplete information D. Either A or B E. Neither a nor B

__7. If the managers of the bus system found that revenues increase when fares are
raised, they would conclude that price elasticity demand for subway service is
inelastic.
A.True B. False C. Incomplete information D. Either A or B E. Neither a nor B

__8. If the percentage change in the quantity demanded of a good is less than the
percentage change in price, price elasticity of demand is:
A. elastic.
B. inelastic.
C. perfectly inelastic.
D. unitary elastic.
E. None of the above

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__9. Suppose there is a 6 percent increase in the price of good X and a resulting 6
percent decrease in the quantity of X demanded. Price elasticity of demand for X is
A.0 B.1 C.6. D.36. E. None of the above

__10. .If a 6 percent increase in income results in a 10 percent increase in the quantity
demanded of pizza, then the income elasticity of demand for pizza is
A. negative and therefore pizza is an normal good.
B. negative and therefore pizza is a inferior good.
C. positive and therefore pizza is an inferior good.
D. positive and therefore pizza is a normal good.
E. None of the above

__11.The cross-price elasticity of demand can tell us whether goods are

A. normal or inferior. B.elastic or inelastic.
C.luxuries or necessities D.complements orsubstitutes E. None of the above

__12. The price of the Good B increases by 20% causing the 10% fall in the demand
for the Good A. What is the Cross Elasticity of Demand?
A. +0.5 B. -0.5 C. +2 D. -2 E. 0

__13. Which of the following goods would you expect to have the largest income
elasticity of demand?
A. rice. B. toothpaste. C. beer. D. stereo equipment. E. newspapers.

__14. The cross price elasticity between two products is found to be -1/2. From this
you know that the two products are:
A. normal. B. inferior. C. necessities. D. complements. E. substitutes.

__15. If the cross price elasticity between goods B and A is -2 and the price of good
B increases by 5%, the quantity demanded of good A will:
A. increase by 5%
B. increase by 10%
C. decrease by 2%
D. decrease by 5%
E. decrease by 10%

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 CASE STUDY
Zeke College Case Study

Peculiarities of Higher Education Demand

Before we examine some elasticity estimates, we need to consider some aspects

of higher education that make it a unique product. First, the process of buying higher
education involves multiple steps and decisions of both sellers and buyers.
Prospective students at selective colleges and universities must apply for admission
to their institutions of interest and, depending on their academic credentials, may not
be granted the privilege of purchasing the product.
Second, colleges and universities often offer price discounts to a large share of
their admitted applicants through financial aid. These discounts can be based on
measured ability to pay ("need," as at Zeke) or on the basis of perceived academic
"merit" (as at many other colleges). Subsidies and subsidized loans are offered by
federal and some state governments for purchase of this good as well. These
"financial aid" factors make it very difficult for someone studying the demand for
higher education to measure the appropriate "price."
Finally, a college education is purchased over a period of (more or less) four
years. While it is easiest to examine the demand decisions of new freshmen, the
"persistence" of these new students at the college over the remainder of their four-
year college career is equally important for the overall demand for the higher-
education product.

Approaches and Selected Results

All of these factors make estimation of the demand elasticities for colleges
difficult. Nonetheless, some investigators have attempted to try to put numbers on
some of the important elasticities.
One of the earliest studies by Perez and Mendoza (2015), estimated a price
elasticity of demand for higher education overall of -0.44 and an income elasticity
overall of 1.20.
A later study by Balive 2016) broke the results down by private and public
institutions, finding price elasticities of -1.06 for publics and -0.64 for privates and
income elasticities of 0.98 for publics and 1.70 for privates.
An early study of demand at the level of individual institutions was Kiel (2014)
at University of Echague campuses found a price elasticity of -0.85 and income
elasticity of 0.7.
More recently, in a study that summarizes a Zeke College senior thesis, Alvarez,
Devibar, and Cammayo (2019) (BPR) looked separately at the yield for full-paying
students and financial-aid students. For full-paying students, they found a price
elasticity of -0.76. For financial-aid students, BPR find a larger price elasticity of
-1.18. As suggested by these results, they find that an increase in tuition accompanied
by an equal increase in financial aid would lower quantity demanded.

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Instructions
Despite the empirical evidence to the contrary, college decision-makers often believe
that their price elasticity of demand is essentially zero. Respond to the following
questions and justify your answers using the case study above and lessons from class.

(1) Is higher education a necessity or luxury?

(2) Does it differ between private and public institutions?

(3) Would you expect the price elasticity of demand to be higher for financial-aid
students or for non-aid students considering income elasticity?

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