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The document contains 4 questions regarding demand and supply analysis. Q1 calculates price elasticity of demand for a white water rafting company and determines that demand is elastic. It recommends the company not raise prices as doing so would decrease total revenue. Q2 analyzes how a fall in gasoline prices and rise in consumer incomes would shift the demand and supply curves for bus rides, decreasing the equilibrium price and quantity. Q3 identifies the deadweight loss from imposing a price floor on a market, calculating it as the area of a specific triangle. Q4 analyzes the effects of 4 scenarios on the demand and supply curves and equilibrium of the chocolate ice cream market, determining how each would shift curves

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134 views

Solution - Assignment PDF

The document contains 4 questions regarding demand and supply analysis. Q1 calculates price elasticity of demand for a white water rafting company and determines that demand is elastic. It recommends the company not raise prices as doing so would decrease total revenue. Q2 analyzes how a fall in gasoline prices and rise in consumer incomes would shift the demand and supply curves for bus rides, decreasing the equilibrium price and quantity. Q3 identifies the deadweight loss from imposing a price floor on a market, calculating it as the area of a specific triangle. Q4 analyzes the effects of 4 scenarios on the demand and supply curves and equilibrium of the chocolate ice cream market, determining how each would shift curves

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Q b
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© © All Rights Reserved
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Download as PDF, TXT or read online on Scribd
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Q1. A white-water rafting company wishes to raise their rates from Rs. 75 to Rs.

80 per
person. He is afraid that in doing this, the number of customers will decrease from 100 to
90 per week.
a) What is the elasticity of demand?
b) Should the company raise the price?

a. Price Elasticity of demand = Change in Demand (ΔD/original Demand)

Change in Price (ΔP/original Price P)

Here, Original price= Rs 75 New Price = Rs 80


Δ P = 80 – 75 = Rs 5
Original demand = 100 New Demand = 90
ΔD = 90 – 100 = -10

Elasticity of demand = -10/100 = - 1.5

5/75
b.
Now analyzing the elasticity | -1.5| = 1.5 which is greater than 1, therefore it is an elastic
demand, that is a small change in price will bring large change in demand.

In this case the Total revenue will be demand quantity dependent. (i.e if demand quantity
decreases Total revenue will decrease). Customer demand is decreasing from 100 to 90
per week, therefore Total Revenue will decrease.

After change in price and its effect of demand the company will be at a loss of Rs 300
[(75 *100)7500–(90*80)7200)] Therefore, the company should not raise the price.

Q2. The price of gasoline falls and consumer incomes generally increase. In the market
for bus rides, we should expect to see a curve or curves shift. How will the demand curve
and supply curve shifts in the market for bus rides?

Answer: Price of Gasoline fall and consumer income increase will make consumers to
opt for own cars over taking a bus ride.
The changes observed will be:
1. Demand Curve
Shift towards left
(D to D1)

2. There will be no
shift in Supply
curve

3. Equilibrium price
and Equilibrium
quantity of Bus
rides will
decrease (P0 to
P1) and (Q0 to
Q1)

Q3. Consider the demand and supply diagram below.

If a price floor of Rs. 20 is


introduced, then which area will
represent the deadweight loss?
Calculate its value.

Answer:

In the given graph, Price is constant at 10 rs for any quantity of supply


If the Floor Price is raised to 20 Rs the representation of graph will be:
The shaded region (b, d and e) will be the dead weight loss and region a & c will be
included in producer surplus.
Dead weight loss = Area of triangle formed by b, d and e
= ½ * Base * height
= ½* (20-10)* 30-10) = 100 Rs

Q4. A survey indicated that chocolate is Americans’ favorite ice cream


flavor. For each of the following, indicate the possible effects on demand,
supply, or both as well as equilibrium price and quantity of chocolate ice
cream.
a. A severe drought in the Midwest causes dairy farmers to reduce the number of milk-
producing cattle in their herds by a third. These dairy farmers supply cream that is used to
manufacture chocolate ice cream.
b. A new report by the American Medical Association reveals that chocolate does, in fact,
have significant health benefits.
c. The discovery of cheaper synthetic vanilla flavouring lowers the price of vanilla ice
cream.
d. New technology for mixing and freezing ice cream lowers manufacturers’ costs of
producing chocolate ice cream

Answer:

a. Supply of input material reduces so


supply of chocolate icecream will
decrease
-The supply curve will make
a left shift (S to S1)
-New Equilibrium Price will
increase (P to P1), and
quantity will
decrease (Q to Q1)
b. Taste or customer preference for
chocolate will increase as the
report states health benefits from
icecream so demand will
increase.
-Demand Curve will shift
towards right (D to
D1)
-New equilibrium price
and quantity will increase

c. Vanilla icecream is a substitute to chocolate, so decrease in price of


vanilla icecream will decrease demand of chocolate ice cream
Due to the cheap synthetic vanilla, supply of vanilla icecream
will increase leading to a curve shift towards right. This will result in
decrease in equilibrium price and increase in equilibrium quantiy

Effect on Market of Chocolate icecream(due to substitution effect of


vanilla icecream):
- Demand curve shift towards left (D4 to D5)- decrease in demand
- Equilibrium point shifts from (E4 to E5)
- New equilibrium Price and quantity of Chocolate icecream will
decrease.
d. New technology will lead to increase in supply of chocolate ice
cream.

Effect on Curve:
-Supply curve shift
towards right (S to S1)

-Equilibrium price will


decrease (P to P1) and
quantity will increase
(Q to Q1)

Q5. Show in a diagram the effect on the demand curve, the supply curve, the
equilibrium price, and the equilibrium quantity of each of the following
events.
a. The market for newspapers in your town
Case 1: The salaries of journalists go up.
Case 2: There is a big news event in your town, which is reported in the
newspapers.
b. The market for the Mankiw economics textbook
Case 1: Your professor makes it required reading for all of his or her
students.
Case 2: Printing costs for textbooks are lowered by the use of synthetic
paper.

Answer:
Market of Newspaper:
Case1: The salaries of Journalist go
up, so the price of input to the
newspaper market will increase.
This will lead to a decrease in
supply of newspaper.

- The supply curve shifts to


left (S to S1)
- Equilibrium shifts from E to E1
- Equilibrium price increases (P to P1) and quantity decreases (Q to Q1)

Case 2: There is a big news event in your town, which is reported in the
newspapers. Then due to customer preference the demand for the newspaper
will increase.

- Demand curve shifts to


the right (D to D1)
- Equilibrium moves
from E to E1
- Equilibrium Price (P to
P1) and Quantity (Q to
Q1) increases

b. The market for the Mankiw economics textbook


Case 1: Your professor makes it required reading for all of his or her
students. Due to preference of customers the demand for the book will
increase.
- The demand curve shifts
to right (D to D1)
- Equilibrium moves from E
to E1
- Equilibrium price increase
(P to P1) and quantity
increase (Q to Q1)
Case 2: Printing costs for textbooks are lowered by the use of synthetic
paper. Since the input price is decreasing so the supply will increase.

- Supply curve shifts to


right (S to S1)
- Equilibrium moves
from E to E1
- Equilibrium price
decreases (P to P1) and
equilibrium quantity
increases (Q to Q1)

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