Solution Manual for Microeconomics 10th

Edition Colander 1259655504

9781259655500
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CHAPTER 6: DESCRIBING SUPPLY AND DEMAND:

ELASTICITIES

Questions and Exercises

1. ED = percentage change in quantity/percentage change in price=20/10 = 2. The

percentage change in quantity is greater than the percentage change in price, so
demand is elastic.

2. a. Price elasticity of demand if quantity is constant, is 0.

b. ED = percentage change in quantity demanded/percentage change in price = 0/5 =

0.

c. I would check to see if other things (besides price) remained constant.

3. The price elasticity of demand equals percentage change in quantity demanded

divided by the percentage change in price = (16,000/18,000)/(0.75/1.375) =
0.889/0.545 = 1.63.

4. Price elasticity of demand is equal to the percentage change in quantity demanded

divided by the percentage change in price. Pizzas went from $8 to $2 and quantity
from 1 to 100. The price elasticity of demand is (99/50.5)/(6/5) = 1.63.

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5. They both have the same elasticity. Any supply curve that goes through the origin
has an elasticity of 1.

6. The price elasticity of demand equals percentage change in quantity demanded

divided by the percentage change in price =

A to B: (20/30)/(5/22.50) = 0.667/0.222 = 33
G to H: (20/90)/(5/7.50) = 0.222/0.667 = 0.33

The price elasticity of supply equals percentage change in quantity supplied

divided by the percentage change in price =

E to F: (20/20)/(10/5) = 1/2 = 0.50

C to D: (20/70)/(10/30) = 0.286/0.333 = 0.86

7. a. Cars: The broader the category, the less elastic the demand.

b. Leisure travel: It is more of a luxury.

c. Rubber during the entire 20th century: There are more substitutes over a longer
period of time.

8. a. Peak hour travelers are likely to be commuters who have little choice but to go to
work and therefore have lower demand elasticity than those who ride buses during
off-peak hours, and are more likely using buses for errands or other more
discretionary activities.

b. Demand tends to be less elastic in the short run because there are fewer
substitutes. If fares rose enough, in the long run people could find alternative
modes of transportation – purchase a car, find someone to share rides with, etc.

c. Tolls are likely a much smaller portion of high-income commuter’s total income,
contributing to a less-elastic demand.

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9. a. The elasticity of demand for drinking is .28; the elasticity of binge drinking is .51.

b. Binge drinking is more elastic. One possible explanation is that binge drinking
(drinking 5 or more drinks at one occasion) is a larger percent of one’s income
and has a close substitute—drinking less. It is easier for students to decrease the
amount they drink rather than to quit altogether.
Source: “Alcohol Advertising and Alcohol Consumption by Adolescents,” NBER
Working Paper 9482.

10. a. 0.31 (40,000/260,000)/(20/40).

b. Since the demand is inelastic, it doesn’t make sense to lower the price because it
would reduce the total revenue.

c. It would make sense to lower the price as long as the demand for advertising is
elastic and the increased revenue more than compensates for the loss of revenue
due to circulation.

11. If the author is profit maximizing, he or she would prefer to raise the book’s price.
Raising prices when the demand is inelastic increases revenue. Because the
author’s cost is sunk cost, profit also rises.

12. a. Neither state is maximizing revenue. Maximum revenue is collected when

elasticity is one. Both are collecting less than the maximum revenue: in California
elasticity is less than one and in Massachusetts elasticity is greater than one.

b. You should recommend that Massachusetts lower its price and California raise its
price.

c. Massachusetts, because not only is it not collecting maximum revenue, it is also

charging a higher price than is optimal. It
could simultaneously lower price and
increase revenues, which would please both
those who buy vanity plates and the
treasury.

d. Elasticity of demand equals one at price P*

in the accompanying graph. California is
below E=1, at a price such as P1, where
demand is inelastic. So, you can see that
raising the price from prices below P* will
result in greater revenue gained (BC) than

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 lost (F). Massachusetts is at a price above P*, such as P0, where demand is elastic.
So you can see that lowering the price to P* will result in greater revenue gained
(CE) than lost (A).

13. The more elastic the supply or demand, the less revenue will come from a
tax. With elastic supply and demand, increasing tax rates can decrease quantity
supplied and quantity demanded enough to cause a decrease in tax revenue. With
inelastic supply and demand, quantity changes little, which means that revenue
from a tax is greater than it would be with an elastic supply or demand.

14. a. Total revenue = Price × Quantity. Total revenue rises from $10.2 billion to $13.3
billion.

b. Using the midpoint method of calculating elasticity, the price elasticity of demand
equals percentage change in quantity demanded divided by the percentage change
in price = (0.2/1.3)/(1/9) = 0.154/0.111 = 1.39.

c. It assumes other things constant, such as income, the price level, the quality of the
movies released, the amount of publicity for the movies, and the prices of other
entertainments. These are unlikely to remain constant.

15. a. Liquor producers would not support a tax on beer because the cross-price
elasticity between beer and hard liquor is negative (beer and liquor are
complements). The beer tax would also reduce liquor consumption.

b. Wine producers would support a tax on beer because the cross-price elasticity
between beer and wine is positive. The beer tax would increase wine consumption
(beer and wine are substitutes).

16. Normal goods are goods whose consumption increases with an increase in
income. For a normal good, income elasticity > 0. Normal goods are divided in to
luxuries and necessities. Luxuries are goods that have an income elasticity > 1.
Necessities are goods that have an income elasticity that is positive but < 1.
Inferior goods are goods whose consumption decreases when income increases.
For an inferior good, income elasticity < 0.

a. Vodka: normal and luxury (except in Russia). Individuals tend to drink more hard
liquor as their income rises. (It depends on the type: Absolut vodka is more of a
luxury than store brands.)

b. Table salt: normal and necessity. It is a small portion of people’s income, and its
consumption doesn’t increase much with income.

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 c. Furniture: Normal and luxury. Everyone needs some furniture, but as income
goes up, people buy much more and much nicer furniture (elasticity is positive
and greater than 1 in the short run).

d. Perfume: normal and luxury (depends on the type). The rich blow money on
perfume; the rest of us get by with toilet water (a less concentrated form of
perfume), or we smell a bit.

e. Beer: normal. Income elasticity is positive but less than one.

f. Sugar: normal and necessity. It is not used significantly more by rich than by
poor.

17. a. They are complements to the extent that one puts carrots in salads. They are
substitutes to the extent that a person wants a vegetable and is choosing between
the two.

b. Negative. They are complements.

c. Positive. They are close substitutes.

d. Close to zero. They are at best distant substitutes, otherwise unrelated.

18. a. Cross-price elasticity of demand = (percent change in demand)/(percent change in

price of a related good) = -1/15 = -0.07.

b. Hot dogs and ketchup are complements because the cross-price elasticity of
demand is negative.

c. The demand for hot dogs would have to rise.

19. a. Income elasticity of demand = (percent change in demand)/ (percent change in

income) = 10/20 = 0.50

b. Income elasticity of demand = (percent change in demand)/ (percent change in

income) =

= (3/17.5)/(10,000/35,000) = (0.171)/(0.286) = 0.60

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20. In the short-run there tend to be fewer substitutes, so demand is fairly inelastic. In
the long-run there are more substitutes, so demand is more elastic.

21. If supply interests the price axis it will be elastic. If the supply curve intersects the
quantity axis it will be inelastic. This means that a shift in demand would have a
greater effect on the change in equilibrium quantity on the supply curve that
intersects with the price axis. (The answer to this question requires reading the
Added Dimension box ”Geometric Tricks for Estimating Price Elasticity.”)

22. a. The supply curve shifts to the right, causing the equilibrium quantity to increase.
Since the price remains nearly constant and quantity changes enormously, the
demand curve is very elastic.

b. The supply curve shifts to the right, causing the equilibrium price to fall. Since
equilibrium quantity did not change, demand is perfectly inelastic.

c. The supply curve shifts to the left, causing the equilibrium price to rise. Since
equilibrium quantity changes very little, demand is inelastic.

Questions from Alternative Perspectives

1. Austrian

a. There is no hard and fast rule about how to distinguish the short from the long
run. A good off-the-cuff answer would be that the long run is a period of time
in which sufficient substitutes for the good arise. The question then becomes:
What is a sufficient number of substitutes?

b. The concepts have far less meaning; all individual decisions are made as
forward looking decisions, and such forward looking decisions do not fit
nicely into the time frames in the models. The elasticity measure is more an
exercise for students than an actual number that firms use.

2. Feminist

a. This likely happens because white men are perceived by car salespeople (generally
men) as having greater bargaining power and more information about costs and the
market than women or blacks. These highly stereotypical representations reflect
cultural bias and may explain why women prefer to buy automobiles for a fixed
price online rather than to bargain at dealerships.

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b. To the extent that the perceived elasticities are accurate, differences in
elasticities would facilitate car dealerships’ practice of differing sales tactics
by race and gender. Men's demand curve would be more elastic; men would
be less likely to buy the car unless the price is kept low, and thus there might
be an economic foundation to the discrimination. Regardless of the reasons for
the differences, the actions represent a type of racial and gender
discrimination. The fact that discrimination is grounded in economic realities
doesn't change that. It does, however, make the actions more difficult to
prevent.

3. Religious

a. It may be a useful distinction, but it integrates positive and normative issues, and
mainstream economists generally attempt to avoid such issues. Many religions
incorporate stewardship of the earth and low consumption. For these religions this
distinction is important to using resources wisely.

b. Yes, it would fundamentally change the nature of economic analysis. For example, it
would decrease the focus on GDP and focus much more on the distribution of that
GDP. It would also lead to economists explicitly recognizing the normative aspects
of economics are more than they do now.

c. Mainstream economists would argue that it does not, because normative

issues can be added later; some religious economists would argue that it does
because the normative issues are generally not added later. The bias is that
elasticities are given, not pliable or potentially impacted by calls toward
virtuous behavior.

4. Institutionalist

a. It suggests that there are few job alternatives.

b. It suggests that while the supply/demand discussion presented in the book

makes it look as if the minimum wage will cause problems, a more nuanced
view of the problem suggests that these problems may be quite small, and that
there may well be a role for the minimum wage in policy.

5. Post-Keynesian

The fact that price elasticities are constantly changing over time and are also
very difficult to measure means that managers rarely use elasticities to
determine prices. It is much more likely that managers use a "mark-up"
strategy in which they set price at some level above production costs.

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 Depending upon a firm's degree of market power, the firm might also
manipulate its prices to increase its markup.

6. Radical

a. Elasticities reflect power, and one’s bargaining power is related to elasticity.. When
one group has more elastic supply or demand they hold disproportionate bargaining
power over the other group. For example, if employers have an elastic demand for
labor and workers have an inelastic supply of labor, the employers will have more
power to determine wages because workers will not change the quantity of labor they
supply by very much when wages fall. If there are social or political forces that
discourage using such power to reduce wages, employers might use their power to
deny health benefits or provide less vacation time for workers.

b. This is a normative question for which mainstream economics provides little

guidance. Radical economists believe that something should be done.

Issues to Ponder
1. Keep in mind that the definition of elasticity is percent change in quantity divided
by percent change in price. We want to show that elasticity of supply is less than
one. Elasticity of supply can be written as (% change in Q/ % change in P), or
(change in Q/Q)/(change in P/P). Arranging terms, we have: (change in Q/change
in P)X(P/Q). Since (change in Q/change in P) = 1/slope, this can be rewritten as
(1/slope)(P/Q). The slope of a line crossing the quantity axis is given by P/(Q-a),
where a is the quantity supplied at zero price (a > 0). Substituting into the
equation for the elasticity, we have {1/[P/(Q-a)]}(P/Q)=(Q-a)/Q= Q/Q-a/Q=1-
a/Q=E. Since a>0 and Q>0, a/Q >0 and 1-a/Q <1 so that E<1 and the curves are
inelastic.

2. a. Using standard reasoning, we would answer that firms decreased the size of the
coffee cans to hide price increases from consumers. However, in reality people
often react differently to changes in the size of packages compared to the
equivalent change in price.

b. Examples include candy bars, soap, and canned tuna fish.

3. In real life elasticities are difficult to measure. A 1% rise in price would probably
be swamped by other effects.

4. a. Since the price falls by .60/3.30 (about 18%) the price elasticity would be
approximately one.

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 b. Elasticity would be about the same (one), since price per ounce decreases by
nearly 18% from $0.24 to $0.20.

5. a. A price rise of 10 percent will reduce fuel consumption anywhere from 4 to 8.5
percent. Quantity demanded would range from 9.85 to 9.6 million gallons.

b. This suggests that there are other forces besides price at work here; making
adjustments to higher prices is much easier than making adjustments to lower
prices. This may be due to learning the true cost of substitutes when those
substitutes are consumed. One can imagine a scenario in which a price hike
significantly changes driving behavior—commuters may switch to ride sharing or
public transportation, to which there may be perceived social barriers (costs).
Once those barriers are overcome and the perceived costs are lowered after those
alternatives are used, a larger decline in the price of gasoline is required to induce
those who switched to return to driving their own cars.

6. To the degree that colleges are trying to get as much revenue as possible, they will
keep raising tuition until the demand is no longer inelastic. Colleges don’t raise
their tuition by more than what they currently do because they are not profit-
maximizers, and because social pressures such as student protests would result if
they raised tuition too much.

7. a. Supply-side measures shift the supply curve to the

left, raising the price of drugs and reducing
quantity demanded as shown in the accompanying
graph.

b. If the demand for drugs is inelastic, a reduction in

supply will increase total revenue going to the
drug industry. Since less is being produced, total
cost also decreases so that total profit also
increases.

c. Demand-side measures shift the demand curve to

the left, reducing the demand of drugs and reducing
equilibrium quantity. Total revenue to the drug
industry declines.

d. Profits will fall since there is a decrease in demand.

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8. If demand is elastic, reducing price will increase revenue, which is good, but it
will also increase costs (since you’ll be producing more), which is bad. The sum
of these two effects is not clear.

9. More eager students will agree to go to a school even if they don’t get much
financial aid. That is, they have an inelastic demand to attend the school. If the
school has some way of determining that—for example, did they agree to early
acceptance, they can take advantage of that information and offer them less
financial aid (the student’s effective tuition rises). Whether this practice is
justified is a difficult normative issue, with many alternative views.

10. If there were only two goods in the world (assuming no saving), the goods must
be substitutes because if a person doesn’t consume one, he or she would have to
consume the other.

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