Costs and Marks
Question 1: (a) Suppose the income elasticity of demand for pre-recorded music compact disks is +5 and the income elasticity of demand for a cabinet maker’s work is +0.5. Compare the impact on pre-recorded music compact disks and the cabinet maker’s work of a recession that reduces consumer incomes by 10 per cent. (2 marks)
(b) How might you determine whether the pre-recorded music compact discs and MP3 music players are in competition with each other? (2 marks) (c) Interpret the following Income Elasticities of Demand (YED) values for the following and state if the good is normal or inferior; (3 marks total, 1.5 marks per part) YED= +0.7
YED= -3.4
(d) Interpret the following Cross-Price Elasticities of Demand (XED) and explain the relationship between these goods. (3 marks total, 1.5 marks per part)
XED= + 0.75
XED= -2.5
Answer
(a)Definition of income elasticity of demand is percentage change in quantity demanded,divided by percentage change in income. Conditions: Elasticity coefficient possibilities EI>0 OR Ei<0, terminology is to identify normal good or inferior good.
Since income elasticity of demand for CD is +5,which >1 it should be a normal product. While income elasticity of demand for cabinet is +0.5 which <1 ,but >0,it should be a normal good as well.
During a recession, income reduce, so the Demand for CD reduce ,if demand of CD reduce by 50%, then the demand for cabinet reduce 5%.CD might be considered as a luxury good, and cabinet still is a necessity good during the recession.
(b)Definition of cross-elasticity of demand is percentage change in quantity demanded of one good,divided by percentage change in price of another good. Conditions: Elasticity coefficient possibilities Ec>0 or Ec<0. Terminology is to identify complements or substitutes goods.
Assume the CD and MP3 music player are substitute goods. An increase demand of one good, cause an decrease demand for the other good. This means when
(b) How might you determine whether the pre-recorded music compact discs and MP3 music players are in competition with each other? (2 marks) (c) Interpret the following Income Elasticities of Demand (YED) values for the following and state if the good is normal or inferior; (3 marks total, 1.5 marks per part) YED= +0.7
YED= -3.4
(d) Interpret the following Cross-Price Elasticities of Demand (XED) and explain the relationship between these goods. (3 marks total, 1.5 marks per part)
XED= + 0.75
XED= -2.5
Answer
(a)Definition of income elasticity of demand is percentage change in quantity demanded,divided by percentage change in income. Conditions: Elasticity coefficient possibilities EI>0 OR Ei<0, terminology is to identify normal good or inferior good.
Since income elasticity of demand for CD is +5,which >1 it should be a normal product. While income elasticity of demand for cabinet is +0.5 which <1 ,but >0,it should be a normal good as well.
During a recession, income reduce, so the Demand for CD reduce ,if demand of CD reduce by 50%, then the demand for cabinet reduce 5%.CD might be considered as a luxury good, and cabinet still is a necessity good during the recession.
(b)Definition of cross-elasticity of demand is percentage change in quantity demanded of one good,divided by percentage change in price of another good. Conditions: Elasticity coefficient possibilities Ec>0 or Ec<0. Terminology is to identify complements or substitutes goods.
Assume the CD and MP3 music player are substitute goods. An increase demand of one good, cause an decrease demand for the other good. This means when