ECON520QUIZ_2Fall2010AnswerKey

ECON520QUIZ_2Fall2010AnswerKey - University of Illinois At...

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University of Illinois At Chicago Microeconomics for Business Decisions (ECON520) Quiz #2 (Fall 2010) Answer Key 1. (4 pts.) The cross-price elasticity of demand between two products that are complements will be: A. Positive B. Negative C. Zero D. Positive or negative, depending on the strength of the relationship. An elasticity measure captures the magnitude of a change in one of the demand factors with respect to its effect on demand, it doesn’t change the expected relationship: a change in the price of a complementary product or service is inversely related to the change in demand for the other complementary good or service – some consumers view the overall price as a combination of the complements, causing demand to fall when the price of a complement increases, and demand to increase as the price of a complement falls. 2. (4 pts.) For most consumer goods, price elasticity of demand is: A. Negative only when price decreases B. Negative regardless of the direction of the price change C. Positive only when price decreases D. Positive regardless of the direction of the price change Price and demand are inversely related. In the case of falling prices, some consumers of other similar products or services may substitute toward the new, lower priced alternative, while other consumers may now be able to afford it – both behaviors increasing demand. In the case of rising prices, some consumers may substitute away from the new, higher priced product and toward the now, relatively lower priced alternative, while other consumers may now be unable able to afford it – both behaviors decreasing demand.
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ECON520 Quiz #2 Answer Key (Fall 2010) – Page 2 3. (8 pts.) If managers of funeral homes discover that the price elasticity of demand for caskets (i.e. coffins) is - 0.55, to increase revenue the funeral homes should increase prices. Indicate whether you believe the statement is true or false , and then briefly explain your answer. 4pts. TRUE 4pts. A price elasticity value of -0.55 implies inelastic demand. If demand is inelastic, the % decrease in Q D is less than the % increase in P: the revenue gained from a higher price is greater than the revenue lost from fewer casket (i.e. coffin) sales. As a result, revenue increases in response to the price increase. See the Arlington Stallions calculation exercise as a numerical example (e.g., in the inelastic price range of the demand schedule, say between $50 and $100 a ticket [E P = -0.43], an increase in ticket price from $50 to $100 increases revenue from tickets sales from $4,000,000 per game to $6,000,000 per game). 4. (8 pts.) Local cable companies recently increased the price of basic services. While prices have increased 10%, the cable company reports only an 8% increase in revenue . This remark suggests the demand for basic cable service is elastic.
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ECON520QUIZ_2Fall2010AnswerKey - University of Illinois At...

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