Chapter 3

Question 1

Consumer demand theory

Answer 1

Utility maximization by individual consumers subject to a budget constraint

Question 2

Substitution effect

Answer 2

A raise in price causes the consumer to purchase a good of something similar.
- hotdog price up, hamburger demand up

Question 3

Income effect

Answer 3

A raise in income means you are more likely to spend more money on a good, or less likely to buy inferior goods

Question 4

What are price elasticities

Answer 4

They measure the percentage change in one variable associated with a 1% change in another

Question 5

Price Elasticity*

Answer 5

*

Question 6

Point Price Elasticity*

Answer 6

*

Question 7

Describe price elasticity of demand

Answer 7

Ed=O : perfectly inelastic
0<infinity : elastic
|Ed|=infinity : perfectly inelastic

Question 8

Impact of price increase on revenue - elasticity

Answer 8

Perfectly inelastic : increase
Inelastic : increase
Unit elastic : no change
Elastic : decrease
Perfectly elastic : decrease

Question 9

Price elasticity of demand and marginal revenue*

Answer 9

MR = dTR/dQ = d(P*Q)/dQ

= P(1+ 1/Eq,d)

Question 10

Price elasticity of demand and marginal revenue

Answer 10

Perfectly inelastic: undefined
Inelastic: negative
Unit elastic: zero
Elastic: Positive, but less than P
Perfectly elastic: P

Question 11

What factors might impact a products elasticity of demand?

Answer 11

Availability of substitutes, percentage of budget, product positioning, and period of adjustment

Question 12

Cross price elasticity

Answer 12

The % change in quantity demanded associated with a 1% increase in the price of a substitute or complement good, with all other factors held constant

Question 13

“Point” cross price elasticity*

Answer 13

E(Qd,Ps) = (dQd/dPs) * (Ps/Qd)

Question 14

Income elasticity of demand

Answer 14

The % change in quantity demanded associated with a 1% increase in income, all other factors held constant.

Question 15

“Point” income elasticity of demand*

Answer 15

E(Qd,Y) = (dQd/Y) * (Y/Qd)

Question 16

Product characteristics income elasticity of demand

Answer 16

E(Q,Y) > 1 : normal good (POSITIVE ELASTICITY)
E(D,Y) < 1 : inferior good (NEGATIVE ELASTICITY)
0 < E(D,Y) < 1 : ordinary good
1 < E(Q,Y) : Luxury

If highly income elastic, its demands more sensitive to business cycle (i.e.. furniture, vacations, blueberries)