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# Managerial economics

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### Managerial economics

1. 1. Chapter 6—ElasticitiesTRUE/FALSE 1. If a small change in quantity demanded results from a huge change in price, then demand is said to be elastic. ANS: F PTS: 1 2. A segment of a demand curve has an elasticity less than 1 if the percentage change in quantity demanded is less than the percentage change in price that caused it. ANS: T PTS: 1 3. A perfectly elastic demand curve would be horizontal, but a perfectly inelastic demand curve would be vertical. ANS: T PTS: 1 4. Along a segment of a demand curve that is unit elastic, quantity demanded would change by 10 percent as a result of a 10 percent change in the price. ANS: T PTS: 1 5. Goods with close substitutes tend to have more elastic demands, while goods without close substitutes tend to have less elastic demands. ANS: T PTS: 1 6. We would expect that the elasticity of demand for Ford automobiles would be greater than the demand for insulin by diabetics. ANS: T PTS: 1 7. Based on the percentage of a person’s budget devoted to a particular item, you would expect that the elasticity of demand for salt would be greater than the elasticity of demand for attending a university. ANS: F PTS: 1 8. The short-run demand curve is generally more elastic than the long-run demand curve. ANS: F PTS: 1 9. Along a demand curve, if the price rises and total revenue falls as a result, then demand must be relatively elastic along that range of the demand curve. ANS: T PTS: 1 10. If demand is inelastic, the price and total revenue will move in opposite directions along the demand curve. ANS: F PTS: 1
2. 2. 11. A straight-line demand curve will have a constant elasticity of demand along its length. ANS: F PTS: 1 12. The price elasticity of supply measures the relative change in the quantity supplied that results from a change in price. ANS: T PTS: 1 13. When supply is relatively elastic, a 10 percent change in price will result in a greater than 10 percent change in quantity supplied. ANS: T PTS: 1 14. A perfectly elastic supply curve would be vertical, but a perfectly inelastic supply curve would be horizontal. ANS: F PTS: 1 15. Goods with a supply elasticity that is less than 1 are called relatively inelastic in supply. ANS: T PTS: 1 16. Unlike demand, supply tends to be more elastic in the long run than the short run. ANS: F PTS: 1 17. If demand has a lower elasticity than supply in the relevant region, the largest portion of a tax is paid by the producer. ANS: F PTS: 1 18. Who bears the burden of a tax has nothing to do with who actually pays the tax at the time of the purchase. ANS: T PTS: 1MULTIPLE CHOICE 1. Price elasticity of demand is defined as the ____ change in quantity demanded divided by the ____ change in price. a. total; percentage b. percentage; marginal c. marginal; percentage d. percentage; percentage e. total; total ANS: D PTS: 1 2. Demand is said to be ____ when the quantity demanded is not very responsive to changes in price. a. independent b. inelastic
3. 3. c. unit elastic d. elastic ANS: B PTS: 13. For a given decrease in price, the greater the elasticity of demand, the greater the resulting a. increase in quantity demanded. b. increase in demand. c. decrease in quantity demanded. d. decrease in demand. ANS: A PTS: 14. When demand is inelastic, a. price elasticity of demand is less than 1. b. consumers are not very responsive to changes in price. c. the percentage change in quantity demanded resulting from a price change is less than the percentage change in price. d. all of the above are correct. ANS: D PTS: 15. Which of the following will not tend to increase the elasticity of demand for a good? a. an increase in the availability of close substitutes b. an increase in the amount of time people have to adjust to a change in the price c. an increase in the proportion of income spent on the good d. All of the above will increase the elasticity of demand for a good. ANS: D PTS: 16. Which of the following would tend to have the most elastic demand curve? a. automobiles b. Chevrolet automobiles c. a and b would be the same d. none of the above ANS: B PTS: 17. Iron Mike’s steel mill finds that a 10 percent increase in its price leads to a 14 percent decrease in the quantity it is able to sell. The demand curve for the mill’s output is a. elastic. b. inelastic. c. unit elastic. d. perfectly elastic. ANS: A PTS: 18. Price elasticity of demand is said to be greater a. the shorter the period of time consumers have to adjust to price changes. b. the longer the period of time consumers have to adjust to price changes. c. when there are fewer available substitutes. d. when the elasticity of supply is greater. ANS: B PTS: 1
4. 4. 9. If recent sharp increases in the price of insulin have had only a small effect on the amount of insulin purchased, then the demand for insulin is a. elastic. b. inelastic. c. unit elastic. d. perfectly elastic. ANS: B PTS: 110. The price-elasticity-of-demand coefficient for herbal tea is estimated to be equal to 0.5. It is expected, therefore, that a 10 percent decrease in price would lead to ____ in the quantity of herbal tea demanded. a. a 5 percent decrease b. a 5 percent increase c. a 10 percent decrease d. a 10 percent increase e. a 0.5 percent increase ANS: B PTS: 111. The long-run demand curve for gasoline is likely to be a. more elastic than the short-run demand curve for gasoline. b. more inelastic than the short-run demand curve for gasoline. c. the same as the short-run demand curve for gasoline. d. more inelastic than the short-run supply of gasoline. ANS: A PTS: 112. Demand curves for goods tend to become more inelastic a. when more good substitutes for the good are available. b. when the good makes up a larger portion of a person’s income. c. when people have less time to adapt to a given price change. d. when any of the above is true. e. in none of the above situations. ANS: C PTS: 113. When the local symphony recently raised the ticket price for its summer concerts in the park, the symphony was surprised to see that its total revenue had actually decreased. The reason was that the elasticity of demand for tickets was a. unit elastic. b. unit inelastic. c. inelastic. d. elastic. ANS: D PTS: 114. For a given increase in price, the greater the elasticity of supply, the greater the resulting a. decrease in quantity supplied. b. decrease in supply. c. increase in quantity supplied. d. increase in supply. ANS: C PTS: 1
5. 5. 15. If the demand for gasoline is highly inelastic and the supply is highly elastic, and then a tax is imposed on gasoline, it will be paid a. largely by the sellers of gasoline. b. largely by the buyers of gasoline. c. equally by the sellers and buyers of gasoline. d. by the government. ANS: B PTS: 116. An increase in demand will increase the price but not the quantity sold in a market if a. supply is perfectly elastic. b. supply is perfectly inelastic. c. supply is relatively elastic. d. supply is relatively inelastic. ANS: B PTS: 117. A straight-line demand curve would a. have the same elasticity along its entire length. b. have a higher elasticity of demand near its top than near its bottom. c. have a lower elasticity of demand near its bottom than near its top. d. be relatively inelastic at high prices, but relatively elastic at low prices. ANS: B PTS: 118. The longer the time horizon, a permanent increase in demand will tend to increase the quantity traded ____, and increases the price ____. a. more; more b. more; less c. less; more d. less; less ANS: A PTS: 119. If you observed that price increased 20% when the quantity traded increased by 10%, then a. the elasticity of demand is 2.0. b. the elasticity of demand is 0.5. c. the elasticity of supply is 2.0. d. the elasticity of supply is 0.5. ANS: B PTS: 120. If the cross-price elasticity of demand between two goods is negative, we know that a. they are substitutes. b. they are complements. c. they are both inferior goods. d. they are both normal goods. ANS: A PTS: 121. If the income elasticity of demand for good A is 0.5 and the income elasticity of demand for good B is 1.5, then a. both A and B are normal goods. b. both A and B are inferior goods. c. A is a normal good, but B is an inferior good. d. A is an inferior good, but B is a normal good.
6. 6. ANS: A PTS: 1 22. If good X has a negative cross-price elasticity of demand with good Y and good X also has a negative income elasticity of demand, then a. X is a substitute for Y, and X is a normal good. b. X is a substitute for Y, and X is an inferior good. c. X is a complement for Y, and X is a normal good. d. X is a complement for Y, and X is an inferior good. ANS: B PTS: 1PROBLEM 1. The San Francisco Giants want to boost revenues from ticket sales next season. You are hired as an economic consultant and asked to advise the Giants whether to raise or lower ticket prices next year. If the elasticity of demand for Giants game tickets is estimated to be -1.6, what would you advise? If the elasticity of demand equals -0.4? ANS: If the elasticity of demand is estimated to equal -1.6, then demand is relatively elastic. A decrease in ticket prices would increase the quantity of tickets demanded sufficiently to increase the overall revenue from ticket sales. If the elasticity of demand is estimated to equal -0.4, then demand is relatively inelastic. In this case, an increase in ticket prices would boost the revenue from ticket sales. PTS: 1 2. How might your elasticity of demand for copying and binding services vary if your work presentation is next week versus in two hours? ANS: Demand would be relatively more inelastic if your work presentation is in two hours, as opposed to next week. If your presentation needs to be copied and bound within two hours, fewer alternatives are available to you. The quantity of copying and binding services which you demand will be less sensitive to changes in price than if you had all week to search for better prices. PTS: 1 3. For each of the following pairs, identify which one is likely to exhibit more elastic demand: a. shampoo; Paul Mitchell Shampoo b. air travel prompted by an illness in the family; vacation air travel c. paper clips; an apartment rental d. prescription heart medication; generic aspirin ANS: a) Demand for Paul Mitchell Shampoo is likely more elastic than is demand for shampoo in general. There are more substitutes available for a particular brand of shampoo than there are substitutes for shampoo generally. b) The urgent need to travel quickly and on short notice to visit an ill family member makes demand relatively more inelastic than for that of vacation air travel. c) Elasticity of demand is likely much greater for apartment rentals. The rent on an apartment comprises a much larger portion of ones annual budget than do paperclips. d) More substitutes are generally available for generic aspirin than for prescription heart medication. Therefore, the elasticity of demand for generic aspirin will be greater than
7. 7. for that of heart medicine. PTS: 14. If the elasticity of demand for hamburgers equals -1.5 and the quantity demanded equals 40,000, predict what will happen to the quantity demanded of hamburgers when the price increases by 10 percent? If the price falls by 5 percent, what will happen? ANS: If the price increases by 10%, quantity demanded will fall by 15% when the elasticity of demand for hamburgers equals -1.5. Hamburger sales will decline by approximately 6,000 (15% of 40,000). If the price of hamburgers decreases by 5%, then quantity demanded will increase by approximately 3,000 hamburgers (7.5% of 40,000). PTS: 15. Evaluate the following statement: “Along a downward-sloping linear demand curve, the slope and therefore the elasticity of demand are both ‘constant.’” ANS: The statement is only partially correct. Along a downward-sloping linear demand curve, the slope is indeed constant. However, elasticity of demand varies along a downward-sloping demand curve, decreasing as you move down to the right along the demand curve. PTS: 16. If the midpoint on a straight-line demand curve is at a price of \$7, what can we say about the elasticity of demand for a price change from \$12 to \$10? What about from \$6 to \$4? ANS: The demand is relatively elastic at prices above the midpoint of a straight-line demand curve and relatively inelastic below the midpoint, so it is relatively elastic for a price change from \$12 to \$8 but relatively inelastic for a price change from \$6 to \$4. PTS: 17. A movie production company faces a linear demand curve for its film, and it seeks to maximize total revenue from the film’s distribution. At what level should the price be set? Where is demand elastic, inelastic, or unit elastic? Explain. ANS: If a price is chosen along the elastic portion of a downward-sloping linear demand curve, reductions in price will increase total revenue. If a price is chosen along the inelastic portion of a downward-sloping linear demand curve, increases in price will boost total revenue. A firm seeking to maximize total revenue should reduce price until it is no longer operating on the elastic portion of the demand curve and increase price until it is out of the inelastic range. That leaves the unit elastic point along a linear demand curve. The price that corresponds to the unit elastic point is the price at which total revenue is maximized.
8. 8. PTS: 1 8. Isabella always spends \$50 on red roses each month and simply adjusts the quantity she purchases as the price changes. What can you say about Isabella’s elasticity of demand for roses? ANS: Demand is unit elastic if Isabella always spends the same dollar amount on roses, regardless of the price. PTS: 1 9. If taxi fares in a city rise, what will happen to the total revenue received by taxi operators? If the fares charged for subway rides, a substitute for taxi rides, do not change, what will happen to the total revenue earned by the subway as a result? ANS: An increase in taxi fares will result in a movement up along the demand curve for taxi rides. That will result in a decrease in the total revenue if demand is relatively elastic, but it will result in an increase in their total revenue if demand is relatively inelastic. However, the increase in taxi fares will increase the demand for subway rides (a substitute), which will increase the total revenue of the subway at the given price. PTS: 110. Indicate whether a pair of products are substitutes, complements, or neither based upon the following estimates for the cross-price elasticity of demand: a. 0.5 b. -0.5 ANS: a) substitutes b) complements Note: Do not confuse the elasticity of demand, where the dividing line between elastic and inelastic is an elasticity of demand equal to minus 1, with cross elasticity of demand, where the dividing line between substitutes and complements is a cross elasticity of demand of zero. PTS: 1
9. 9. 11. If both supply curves and demand curves are more elastic in the long run than in the short run, how does the incidence of a tax change from the short run to the long run as a result? What happens to the revenue raised from a given tax over time, ceteris paribus? ANS: Relative inelasticities of supply and demand determine the incidence of a tax. If the difference between the short-run and long-run elasticity was greater on one side of the market than the other, the long-run incidence could be dramatically different than the short-run incidence. For example, if supply was very inelastic in the short run but very elastic in the long run, suppliers could bear most of the short-run burden of a tax, but very little of the burden in the long run. Since the greater long-run elasticities of supply and demand lead to larger reductions in the quantity exchanged, the revenue from a given tax would tend to decrease over time, other things being equal. PTS: 1