CA FOUNDATION MATERIAL NO.

B12, BUSINESS ECONOMICS

(PART -3) 3.5 E_1 CHAPTER

INDEX
CH. NO. CHAPTER NAME PAGE NO.

1 ELASTICITY OF DEMAND 3.1 – 3.20

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3. ELASTICITY OF DEMAND

CHAPTER OVERVIEW

STARTING
SECTION TOPIC
PAGE NO.
1. THEORY FOR CLASSROOM DISCUSSION 3.1
2. MCQs FOR CLASSROOM DISCUSSION 3.8
3. MCQs FOR SELF PRACTICE – 1 3.12
4. MCQs FOR SELF PRACTICE – 2 3.17
5. SUMMARY 3.19
6. TEST YOUR KNOWLEDGE 3.19

SECTION 1: THEORY FOR CLASSROOM DISCUSSION

Elasticity of Demand

Types of Elasticity of Demand

Price Elasticity of Income Elasticity Cross Elasticity of Advertisement

Demand ( E p ) of Demand ( E1 ) Demand Elasticity of Demand

Types of Price E p Types of Ei Types of Ec

Measurement of E p Importance of Ei Importance of Ec

Determinants of E p
Importance of E p

TOPIC 1: INTRODUCTION
1) Alfred Marshall was the first economist to introduce the concept of elasticity of demand into economic theory.
2) Law of demand explains direction of change in demand but not degree of change in demand, for a
given change in price.
3) Law of demand is a qualitative statement and Elasticity of demand is a quantitative statement.
4) DEFINITION: Elasticity of demand is defined as the responsiveness of the quantity demanded of a
good to changes in one of the variables on which demand depends.
These variables are price of the commodity, prices of the related commodities, income of the
consumers, advertisement expenditure and other factors on which demand depends.
5) TYPES OF ELASTICITY OF DEMAND: Price elasticity, Cross elasticity, Income elasticity and
Advertisement elasticity of demand.
NOTE: The term “elasticity of demand”, unless and until otherwise mentioned, should be considered as
“price elasticity of demand”.

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TOPIC 2: PRICE ELASTICITY OF DEMAND

1) Price elasticity of demand measures the degree of responsiveness of quantity demanded of a product
for a change in its price, other things (consumer’s income, his tastes and prices of all other goods,
etc.) being equal.
2) It is the % change in demand to 1% change in price (in inverse relation).
3) Since price and quantity are inversely related to each other (with a few exceptions), price elasticity of
demand is negative.
4) Strictly speaking it lies between (-  to 0).
5) But for the sake of convenience negative sign is being ignored and only the numerical or absolute
value of price elasticity is considered and conclusions are drawn. i.e. 0  E d  

Change in quantity
 100
Percentage change in Quantity Demanded Original quantity
Ep = =
Percentage change in price Change in price
 100
Original price

Change in quantity Original price Δq p Δq p

=  =  = 
Original quantity Change in price q Δp Δp q

Where,
Ep = Price Elasticity of Demand, p = Original Price
q = Original quantity
p = Change in price
q = Change in quantity

ILLUSTRATION 1: The price of a commodity decreases from Rs.6 to Rs.4 and quantity demanded of the
good increases from 10 units to 15 units. Find the coefficient of price elasticity.

2.1: TYPES OR DEGREES OF PRICE ELASTICITY OF DEMAND

SHAPE OF TYPE OF
EP TYPES OF EP DEFINITION
DEMAND CURVE GOODS
Quantity demand will not respond for
Perfectly inelastic Essentials like
changes in price. Parallel to Y axis /
0 (or) completely lifesaving
(No change at all in the quantity Vertical.
Inelastic) drugs.
demanded when price changes)
% change in quantity demanded is
Necessities
Relatively inelastic / less than % change in price (Or)
<1 Steeper like food, fuel,
Inelastic Quantity demanded changes by a
etc.
smaller percentage than price
% change in quantity demanded = % Rectangular
change in price. hyperbola /
1 Unitary elastic Comforts
This will not exist in real life. Marshall Convex and
calls it as unit elastic. downwards
% change in quantity demanded is
Relatively elastic/ greater than % change in price (or)
>1 Slant (or) Flatter Luxuries
Elastic Quantity demanded changes by a
larger percentage than price
Buyers are prepared to buy all they
can obtain at some price and none at
Perfectly elastic Parallel to X axis /
 even slightly higher price. Imaginary
(or) Infinitely elastic) Horizontal
(small price reduction raises the
demand from zero to infinity)

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Y Y D Y Y Y
D

Ed=0
P1
P1 D
Ed<1 P1 Ed>1 Ed=
P Ed=1 P1 P
P2 D
P2 P2 D
P2

Price
Price
Price

Price
Price
D

Quantity Q X Quantity Q1 X Quantity Q1 Q2 X Quantity Q Q1 X

Q1 Q2 Quantity X Q2

2.2: METHODS OF MEASUREMENT OF PRICE ELASTICITY OF DEMAND

1. POINT METHOD
1) Point method was suggested by Alfred Marshall.
2) It is used to calculate elasticity at a point on the demand curve.
3) It is also known as Geometric Method.
4)

5) It uses the principles of derivatives to know the changes in price and demand.
dq p
6) Ep =  . Where dq/dp = Derivative of demand function (q) with respect to Price (P), p = Original
dp q
price, q = original quantity demand.

8) Elasticity will be different at different points on a demand curve.

FROM THE GRAPH: Given a straight line demand curve ‘tT’

Lower segment Cd
9) Ep = =
Upper segment CD

10) Elasticity at the midpoint ‘R’ = 1

11) At any point below the midpoint say ‘L’, Ep <1.
12) At any point above the midpoint say ‘S’, Ep >1.
13) Where a point touches x-axis ‘T’, its elasticity = 0.
Y

14) Where a point touches y-axis ‘t’, its elasticity =  D A

15) As we move downwards, elasticity will decrease. As we move upwards,

Price

C
elasticity will increase.
16) It is true for any demand curve - linear / non-linear.
17) If it is non-linear curve - draw a tangent to it at the given point then measure Quantity demanded d X
elasticity with the same formula.

2. PROPORTIONATE / PERCENTAGE METHOD

1) This method is also stated by Alfred Marshall.

Δq p Δq p
2) Also called flux / Ratio / Arithmetic Method, Ep =  = 
q Δp Δp q

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3. TOTAL OUTLAY / TOTAL EXPENDITURE METHOD

1) This method is also suggested by Marshall.

2) Total expenditure = Price x quantity purchased by the consumer.
3) Total Revenue = Price x quantity sold by the seller.
4) Total expenditure made on a good by consumer is equal to total revenue received by the seller.
5) The price elasticity and total revenue received (or total expenditure made) are closely related to each other.
6) It can only explain whether price elasticity is elastic (Ed<1) or inelastic (Ed >1) or unit elastic (Ed =1) but
not exact value.
7) Elasticity is measured by comparing total expenditure before and after change in price.
ELASTIC UNITARY ELASTIC INELASTIC
Price increase TR/ TE Decreases TR/TE remains same TR/TE Increases
Price decrease TR/TE Increases TR/TE remains same TR/TE Decreases
P Q TE P Q TE P Q TE
Numerical
90 40 360 70 60 420 50 80 400
example
80 50 400 60 70 420 40 90 360

4. ARC ELASTICITY METHOD

1) If changes in price & demand are very small – use point method.
2) When price change is somewhat larger – use Arc method
3) When price elasticity is to be found between two prices (or) two points on the demand curve (A and B)
the question arises which price and quantity should be taken as base.
4) To avoid confusion, mid-point method is used i.e. the
averages of the two prices and quantities are taken as (i.e.
original and new) base.
5) The arc elasticity can be found out by using the formula:
Change in Demand
(Original Demand + New Demand)/2
6) Ed = Change in Price
(Original Price + New Price)/2

q 2 − q1 p + p2 q −q p +p
=  1 (or) 1 2  1 2
p 2 − p1 q1 + q 2 q +q p −p
1 2 1 2

2.3: DETERMINANTS OF PRICE ELASTICITY OF DEMAND

1) Availability of substitutes: (Price of the substitute remaining constant)
a) If there are close or perfect substitutes with wide range of brands, then Ep > 1 (highly elastic).
Ex: Butter and margarine, cabbage and other green vegetables, Maruti Car and Santro or other
similar model cars, Coca Cola and Pepsi or any other similar cold drink, etc. are close substitutes
b) If there are No close substitutes, then Ep < 1 (inelastic).
Ex: Common salt and sugar
c) A product may have inelastic demand but a particular brand may have elastic demand.
Ex.1: Demand for petrol is inelastic (because no close substitutes) but demand for Indian Oil’s
petrol is elastic (because there are substitutes).
Ex.2: No substitutes for health care but there are substitutes for one doctor or hospital.
Ex.3: The demand for common salt is inelastic, but demand for Tata salt is elastic.

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2) Nature of the need that a commodity satisfies:
a) Luxury goods - price elastic (Ep >1). E.g.: Television.
b) Necessities - price inelastic (Ep <1). E.g.: Food & Housing.
3) Possibility of postponement:
a) Possible to postpone the consumption - price elastic (Ep >1). E.g.: Luxuries
b) Consumption cannot be postponed - price inelastic (Ep <1). E.g.: Necessaries
4) Number of uses to which a commodity can be put:
a) More possible uses or multiple uses of a commodity, then Ep >1. E.g.: Milk, Electricity, etc.,
b) If a good can be used for limited no. of uses, then Ep <1.
5) Consumer habits:
a) Habitual consumer (they don’t care for change in price of the good), then Ep <1.
b) Not a habitual consumer, then Ep >1.
6) Price range:
a) Very high price (or) very low price, then Ep <1. E.g.: Veblen goods / Giffen goods
b) Middle range price / Moderate price, then Ep >1.
7) Position of a commodity in consumer’s budget:
a) If smaller proportion of income is spent on a good, then Ep <1. E.g: Common salt, matches,
buttons etc.
b) If greater proportion of income is spent on a good, then Ep >1. E.g.: House Rent, clothing etc.,
8) Time Period:
a) Short Period (i.e. adjustments are not possible with the change in price), then Ep <1.
b) Long Period (i.e. adjustments are possible with the change in price), then Ep >1.
In response to a higher petrol price:
i) In the short run one can make fewer trips by car.
ii) In long run not only one can make fewer trips, but can buy a car with smaller engine capacity
or a car with more mileage.
iii) Thus, demand for petrol falls more when one has made long term adjustment to higher prices.
9) Demand Distinction:
a) Tied demand for goods, inelastic (Ep<1). Eg: Printers and ink cartridges.
b) Demand is autonomous, elastic (Ep >1)

2.4: IMPORTANCE OF PRICE ELASTICITY OF DEMAND TO BUSINESS MANAGERS

Firms aim to maximise their profits and their pricing strategy is highly decisive in attaining their goals. Price
Elasticity of Demand helps them in the following ways:
1) To recognise the effect of a price change on their total sales and revenue.
2) To arrive at optimal pricing strategy.
3) In case of relatively elastic product - Firms lower the price to expand the volume of sales and result in
an increase in total revenue.
4) If demand for a good is elastic, a price increase will lead to a decline in total revenue (Fall in sales
would be more than proportionate).
5) If demand for a good is inelastic - firm may safely increase the price to increase its total revenue (Fall
in sales would be less than proportionate).

2.5: IMPORTANCE OF PRICE ELASTICITY OF DEMAND TO GOVERNMENTS

Knowledge of price elasticity of demand is important for governments in following ways:
1) To determine the prices of goods and services provided by them i.e. transport and telecommunication.

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2) To understand the responsiveness of demand to an increase in prices on account of additional taxes
and its effect on tax revenues.
3) EP explains why Government raises indirect taxes on goods having inelastic demand, like alcohol and
tobacco products.

TOPIC 3: INCOME ELASTICITY OF DEMAND

Income Elasticity of Demand is the degree of responsiveness of demand for a given change in income of the
consumer.
q
x 100 Ei = Income Elasticity of Demand
Percentage change in demand q Δq Y
Ei = = = x q = Change in Demand
Percentage change in income y ΔY q
x 100 y = Change in Income
y
y = Original Income
TYPES OF INCOME ELASTICITY OF DEMAND: q = Original Demand
1) Negative income elasticity (Ei < 0):
a) Goods having negative income elasticity are known as inferior goods.
b) Demand decreases with an increase in income and vice versa. Un this case income elasticity will
be < 0
c) The reason is that when income increases, consumers choose to consume superior substitutes.
Ex: Jowar, Bazra, Millets, etc.,
d) Income demand curve slopes downwards.
2) Zero income elasticity (Ei = 0):
a) Demand does not respond to changes in income.
b) Income demand curve will be parallel to y-axis.
c) It is completely income inelastic.
E.g.: Buttons, Match boxes, etc.,
3) Positive income elasticity (Ei > 0): If demand increases with an increase in income & vice-versa then
income elasticity will be positive or greater than zero. Goods having positive income elasticity are
known as superior or normal goods.
a) Income elasticity is positive and greater than one (Ei > 1): When the percentage change in quantity
demanded is greater than percentage change in income, then income elasticity of demand is >1.
If income elasticity coefficient is positive and >1 then it is luxury good. Such good bulks larger in
consumer’s expenditure as he becomes richer. Eg: Demand for T.V. sets, Cars, etc.
b) Income elasticity is positive and less than one (Ei < 1): If change in demand is less than
proportionate to change in income, income elasticity of demand is less than one. Such good is
either relatively less important in the consumer’s eye or a necessity (0 < Ei < 1).
c) Unitary income elasticity (Ei= 1):
(i) If the change in demand is proportionate to change in income then income elasticity is one.
(ii) Unitary income elasticity represents a useful dividing line.
VALUE OF
Ei
TERMINOLOGY TYPE OF GOOD

0 < Ei < 1 Low income

Necessity
elasticity
Ei > 1
High income
Luxury good
elasticity
Ei = 0
Zero income
Salt, Buttons, etc.
elasticity
Ei < 0 Negative income
Inferior good
elasticity
Ei = 1
Unitary income
Comforts
elasticity

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Relationship between income elasticity for a good and the proportion of income spent on it:
1) If the proportion of income spent on a good remains the same as income increases, then Ei = 1
2) If the proportion of income spent on a good increase as income increases, then Ei > 1
3) If the proportion of income spent on a good decrease as income rises, then Ei < 1

TOPIC 3.1: IMPORTANCE OF INCOME ELASTICITY OF DEMAND TO BUSINESS FIRMS

Knowledge of income elasticity of demand is useful for a business firm in the following ways:
1) To estimate future demand for its products.
2) It helps firms to predict the outcome of a business cycle on its market demand.
3) It enables the firm to carry out appropriate production planning and management.

TOPIC 4: CROSS ELASTICITY OF DEMAND

1) A change in the demand for one good in response to a change in the price of another good represents
cross elasticity of demand of the former good for the latter good.
2) It considers the effect of changes in relative prices within a market on the pattern of demand.
3) It is the ratio of % change in quantity demanded of X to a % change in price of related commodity Y.
4) Related goods can either be substitute goods or complementary goods.

% change in quantity demanded of X Ec= Cross Elasticity of Demand

EC = qx =Change in quantity demanded of x
% change in price of Y
py = Change in price of y
Δqx Δp y Δqx py
=  =  qx= Original Quantity demanded of x.
qx py Δp y qx py=Original Price of Y

Types of Cross Elasticity of Demand:

1) Positive: Exists in case of substitutes. Cross demand curve slopes upwards.
For example, when price of coffee increases, demand for tea also increases. Thus, cross elasticity of
demand for substitutes is positive.
2) Negative: Exists in case of complementary goods. Cross demand curve slopes downwards. Higher the
negative cross elasticity, higher will be the extent of complementarity. Ex: Milk and sugar.
3) Zero: If two goods are totally unrelated / independent, cross elasticity between them is zero.
For example, increase in price of car does not affect the demand for cloth.
4) Infinite: If two goods are perfect substitutes for each other, then cross elasticity = . Greater the cross
elasticity, the closer is the substitute.

NO. VALUES OF E C NATURE OF GOODS

1) E C is positive Substitutes
2) E C is negative Complementary goods
3) EC = 0 Unrelated goods / Independent goods
4) EC =  Perfect Substitutes

TOPIC 4.1: IMPORTANCE CROSS ELASTICITY OF DEMAND TO BUSINESS FIRMS

Knowledge of Cross elasticity of demand is useful for a business firm in the following ways:
1) If cross elasticity to change in the price of substitutes is greater than one, the firm may lose by
increasing the prices and gain by reducing the prices of its products.
2) The firm can plan policies to safeguard against fluctuating prices of substitutes and complements.

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TOPIC 5: PROMOTIONAL ELASTICITY OF DEMAND (OR) ADVERTISEMENT ELASTICITY OF SALES

Advertisement Elasticity:
1) Advertisement elasticity of sales or Promotional elasticity of demand is the responsiveness of a good’s
demand to changes in firm’s spending on advertising.
2) The advertising elasticity of demand measures the percentage change in demand that occurs due to
one percent change in advertising expenditure.
3) It measures the effectiveness of an advertisement campaign in bringing about new sales.
4) It is typically positive. Higher the value of advertising elasticity greater will be the responsiveness of
demand to change in advertisement.
5) Advertisement elasticity varies between zero and infinity.
6) It is measured by using the following formula;
% Changein demand Qd /Qd
Ea = =
% changein spendingon advertising A/ A

Where,  Qd = Change in demand.

 A = Change in expenditure on advertisement.
Qd = Initial demand.
A = Initial expenditure on advertisement.

COEFFICIENT OF Ea INTERPRETATION
Ea = 0 Demand does not respond to increase in advertisement expenditure.
Change in demand is less than proportionate to change in advertisement
Ea>0 but < 1
expenditure.
Demand changes in the same proportion in which advertisement expenditure
Ea = 1
changes.
Ea> 1 Demand changes at a higher rate than change in advertisement expenditure.
The objective of advertisement and all other sales promotion activities by any firm is:
1. To shift the demand curve to the right.
2. To reduce the elasticity of demand.
3. To understand the effectiveness of advertising and in determining optimum level of advertisement
expenditure.
c) Income elasticity of demand
d) Advertisement elasticity of demand
SECTION 2: MCQs FOR CLASSROOM
MODEL 2: PRICE ELASTICITY OF DEMAND
DISCUSSION
3. Which is correct about price elasticity of
demand? (J 15)
MODEL 1: INTRODUCTION a) It has several degrees and natures
1. Elasticity of Demand explains the b) It is affected due to change in price of
responsiveness of demand for a change in other good
one of the ______ c) It is immeasurable concept
a) Demand equation b) Only quantity d) It is due to direction of change in price
c) Determinants of demand d) None 4. The price elasticity of demand for
2. It is ________ which is usually referred to as hamburger is (#)
elasticity of demand. (F) a) The change in the quantity demanded of
a) Price elasticity of demand hamburger when hamburger increases by 30
b) Cross elasticity of demand paise per rupee

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b) The percentage increase in the quantity
demanded of hamburger when the price of
hamburger falls by 1 percent per rupee
c) The increase in the demand for hamburger
when the price of hamburger falls by 10
percent per rupee
d) The decrease in the quantity demanded of
hamburger when the price of hamburger falls
by 1 percent per rupee
5. If the elasticity of A and B is 2 and 4
respectively, comment and compare on
elasticity of A and B. (F)
a) The demand for B is more elastic than that
of A in response to price change.
b) The demand for A is more elastic than that
of B in response to price change.
c) Either a or b d) None of the above
2.1: TYPES (DEGREES) OF PRICE
ELASTICITY OF DEMAND
6. If regardless of changes in its price, the
quantity demanded of a good remains
unchanged, then the demand curve for the
good will be: (€)
a) Horizontal b) vertical
c) Positively sloped d) None
7. When percentage change in quantity
demanded is more than the percentage
change in price then demand curve is:
a) Flatter b) Steeper
c) Rectangular d) Horizontal
8. When percentage change in quantity
demanded is less than the percentage
change in price then demand curve is:
a) Flatter b) Steeper
c) Rectangular d) Horizontal
9. Identify the coefficient of price-elasticity of
demand when the percentage increase in the
quantity of a good demanded is smaller than
the percentage fall in its price: (€)
a) Equal to one b) Greater than one
c) Smaller than one d) Zero
10. If electricity demand is inelastic, and
electricity charges increase, which of the
following is likely to occur? (MQB) (€)
a) Quantity demanded will fall by a relatively
large amount
b) Quantity demanded will fall by a relatively
small amount
c) Quantity demanded will rise in the short
run, but fall in the long run
d) Quantity demanded will fall in the short
run, but rise in the long run
11. Suppose the demand for meals at a medium-
priced restaurant is elastic. If the
management of the restaurant is considering
raising prices, it can expect a relatively
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a) Large fall in quantity demanded (MQB) (€)
b) Large fall in demand
c) Small fall in quantity demanded
d) Small fall in demand
2.2: MEASUREMENT OF PRICE ELASTICITY
OF DEMAND
12. Point elasticity is useful for which of the
following situations? (€)
a) The bookstore is considering doubling the
price of notebooks
b) A restaurant is considering lowering the price
of its most expensive dishes by 50 percent
c) An auto producer is interested in
determining the response of consumers to the
price of cars being lowered by Rs.100
d) None of the above
13. ____ is the product of price quantity ratio at a
particular point on the demand curve and the
reciprocal of the slope of the demand line. (F)
a) Arc elasticity b) Total outlay method
c) Point elasticity d) Percentage method
14. Under Point method, as the price increases
the value of elasticity of demand will ___
a) Increase b) decrease
c) doesn’t change d) can’t be said
15. If the price of air-conditioner increases from
Rs 30,000 to Rs 30,010 and resultant
change in demand is negligible, we use the
measure of ______ to measure elasticity. (€)
a) Point elasticity b) prefect elasticity
c) perfect inelasticity d) price inelasticity
16. If a point on a demand curve of any
commodity lies on X Axis then price elasticity
of demand of that commodity at that point will
be: (MQB)
a) Infinite b) More than zero
c) Less than zero d) Zero
17. An increase in price will result in an increase
in total revenue if: (€)
a) The percentage change in quantity
demanded is less than the percentage change
in price
b) The percentage change in quantity
demanded in greater than the percentage
change in price
c) The consumer is operating along a linear
demand curve at a point at which the price is
very high and the quantity demanded is very
low d) Demand is elastic
18. If the railways are making losses on
passenger traffic they should lower their
fares. The suggested remedy would only
work if the demand for rail travel had a price
elasticity of ___ (MQB)
a) Zero b) > zero but < one
c) One d) > one
3.9
 MASTER MINDS
19. Given the following four possibilities, which
one results in an increase in total consumer
expenditure? (€)
a) Demand is unitary elastic and price falls
b) Demand is elastic and price rises.
c) Demand is inelastic and price falls.
d) Demand is inelastic and price rises
20. If the demand for cheap editions of books is
elastic, a fall in price will:
a) Raise the total outlay
b) Decrease the total outlay
c) Keep total outlay constant
d) Cause the total outlay to change frequently
20
21. Given the demand function q = where
p
p = price of product and q = quantity of
product, the elasticity of demand at p= 10
would be _____
a) 0 b) -1 c) -2 d) 
22. An FMCG company decided to increase the
price of its shampoo sachet from Re.1 to
Rs.1.5. The demand equation for the firm is
Q = 30,00,000 - 5,00,000 P. Find the arc
price elasticity for the shampoo sachet.
a) 1.26 b) -0.26 c) -0.56 d) -0. 16
23. What is the new quantity demanded when
price elasticity is 1 and price changes from
Rs.15 to Rs.10 and the original quantity
demanded was 10 units? (MQB)
a) 15 units b) 20 units c) 8 units d) 12 units
24. When the price of a commodity increases
from Rs.8 to Rs.9 then the demand
decreases by 10%. The price Elasticity of
demand is____ (J 15)
a) 0.8 b) 0.9 c) 1 d) 1.1
25. 5-rupee increase in price of commodity X
causes quantity to decrease by 20 units.
Elasticity of demand is ___
a) 5 b) 20 c) 4
d) Nothing can be concluded
2.3: DETERMINANTS OF PRICE ELASTICITY
OF DEMAND
26. Governments are inclined to raise the indirect
taxes on those goods that have a ___ demand,
like alcohol and tobacco products (F)
a) Relatively elastic b) Relatively inelastic
c) Perfectly elastic d) Unitary elastic
27. Demand for petrol is inelastic and demand
for Indian oil petrol is _____.
a) Also inelastic b) Has no substitutes
c) Elastic d) Less than 1
28. Demand for a good will tend to be more
inelastic if it exhibits which of the following
characteristics? (€)
a) The good has many substitutes
CH.3 –ELASTICITY OF DEMAND3.5E
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b) The good is a luxury (as opposed to a
necessity)
c) The good is a small part of the consumer’s
income
d) There is a great deal of time for the
consumer to adjust to the change in prices.
29. If the elasticity of demand for a commodity is
perfectly inelastic then which of the following
is incorrect? (MQB)
a) The commodity must be essential to those
who purchase it.
b) The commodity must have many substitutes.
c) The commodity will be purchased
regardless of increase in its price.
d) The elasticity of demand for this
commodity must equal zero.
30. Which of the following goods is likely to have
perfectly inelastic demand?
a) Car b) Salt c) Cabbage d) Sugar
31. The demand for a commodity of a habitual
consumer is ______ (N 19)
a) elastic b) Inelastic
c) perfect elastic d) unit elastic
32. Identity the factor which generally keeps the
price - elasticity of demand for a good low:
(MQB) (€) (Au 07)
a) Variety of uses for that goods
b) Its low price
c) Close substitutes for that good
d) High proportion of the consumer’s income
spent on it.
2.4: IMPORTANCE OF DETERMINANTS OF
PRICE ELASTICITY OF DEMAND TO
BUSNIESS FIRMS
33. If demand were relatively inelastic, the firm
may ____ . (F)
a) Decrease the price and thereby increase
its total revenue
b) Increase the price and thereby increase its
total revenue
c) The fall in sales would be less than
proportionate d) Both (b) and (c)
2.5: IMPORTANCE OF DETERMINANTS OF
PRICE ELASTICITY OF DEMAND TO
GOVERNMENT
34. Government will impose higher tax on goods
which are ____
a) relatively inelastic b) relatively elastic
b) perfectly elastic c) unit elastic
MODEL 3: INCOME ELASTICITY OF DEMAND
35. If a good is luxury, its income elasticity of
demand is: (N 19)(J 10) (MQB) (€)
a) Positive and less than 1.
b) Negative but greater than -1.
c) Positive and greater than 1 d) Zero.
3.10
 MASTER MINDS
36. In the case of an inferior commodity the
income- elasticity of demand is _
(N 06) (€) (MQB)
a) Positive b) Unitary
c) Negative d) infinity
37. When income increases the money spent on
necessaries of life may not increase in the
same proportion, This means (€)
a) Income elasticity of demand is zero
b) Income elasticity of demand is one
c) Income elasticity of demand is greater than
one
d) Income elasticity of demand is less than one
38. As income increases, the consumer will go on
for superior goods and consequently the
demand for inferior goods will fall. This means:
(J 14) ($) (€)
a) Income elasticity of demand less than one
b) Negative income elasticity of demand
c) Zero income elasticity of demand
d) Unitary income elasticity of demand
39. The quantity purchased will remain constant
irrespective of the change in income. This is
known as ____ (€)
a) Negative income elasticity of demand
b) Income elasticity of demand less than one
c) Zero income elasticity of demand
d) Income elasticity of demand is greater
than one
40. If the proportion of income spent on a good
increase as income increases, then the
income elasticity for the good is __ (F)
a) Equal to one b) Greater than one
c) Less than one d) Zero
41. If the proportion of income spent on a good
decrease as income rises, then income
elasticity for the good is ___ (A 19, MTP-2)
a) equal to one b) greater than one
c) less than one d) Zero
42. Suppose a consumer’s income increases
from Rs 30,000 to Rs 36,000. As a result, the
consumer increases her purchases of
compact discs (CDs) from 25 CDs to 30 CDs.
What is the consumer’s income elasticity of
demand for CDs? (Use Arc Method) (€)
a) 0.5 b) 1.0 c) 1.5 d) 2.0
43. Suppose income of the residents of locality
increases by 50% and the quantity of gel pens
demanded increases by 20%. What is income
elasticity of demand for gel pen? (MQB)
a) 0.4 b) 0.6 c) 1.25 d) 1.50
44. If consumers always spend 15 percent of
their income on food, then the income
elasticity of demand for food is ___ (MQB)
a) 1.50. b) 1.15. c) 1.00 d) 0.15.
CA FOUNDATIONBUSINESS ECONOMICS 3.5E
WWW.MASTERMINDSINDIA.COM 98851 25025 / 26
MODEL 3.1: IMPORTANCE OF INCOME
ELASTICITY OF DEMAND
45. Knowledge of Income elasticity of demand is
useful for a business in _______
a) Estimate future demand for its products
b) Effect of business cycles n its market
demand c) Both a and b d) none
MODEL 4: CROSS ELASTICITY OF DEMAND
46. In order to assess the effect of a change in
price of one product on the demand for other
products, which type of elasticity, is often
used by the firms?
a) Cross elasticity b) Income elasticity
c) Price elasticity d) Both b) and c)
47. Cross elasticity of demand in Monopoly
market is: (J 08)
a) Elastic b) Zero c) Infinite d) One
48. If 2 commodities are totally unrelated, cross
elasticity of demand will be_ (MQB)
a) 0 b)  c) > 1 d) 1
49. When the numerical value of cross elasticity
between two goods is very high, it means (€)
a) The goods are perfect complements and
therefore have to be used together.
b) The goods are perfect substitutes and can
be used with ease in place of one another.
c) There is a high degree of substitutability
between the two goods.
d) The goods are neutral and therefore
cannot be considered as substitutes.
50. The cross elasticity between personal
computers and soft wares is: (€)
a) positive b) negative.
c) zero d) one.
51. If the quantity demanded of mutton increases
by5% when the price of chicken increases
by20%, the cross-price elasticity of demand
between mutton and chicken is (D 14)(MQB) (€)
a) -0.25 b) 0.25 c) -4 d) 4
52. If the price of petrol rises by 25% and demand
for car falls by 40% then, cross elasticity
between petrol and car is: (MQB)
a) -1.6 b) 1.6 c) -2.6 d) 2.6
53. In case of perfect substitutes, Cross elasticity
of demand is__ (D 09, 15, MQB)
a) 0 b)  c) > 1 d) < 1
(54-57): A shopkeeper sells gel pen at Rs.10 per
pen. At this price he can sell 120 pens per month.
After some time, he raises the price to Rs.15 per
pen. Following the price rise: (MQB)
 Only 60 pens were sold every month.
 The number of refills bought went down from
200 to 150.
3.11
 MASTER MINDS No.1 for CA/CMA & MEC/CEC
 The number of ink pen customers bought
went up from 90 to 180 per month SECTION 3: MCQs FOR SELF PRACTICE - 1
Note: Since ICAI using arc method to
calculate cross elasticity of demand, we have MODEL 1: INTRODUCTION
to follow the same. 1. The concept of elasticity of demand was
54. The price elasticity of demand when gel stated by _____. (MQB)
pen’s price increases from Rs.10 per pen to a) Stigler b) Stonier & Hague
Rs.15 per pen is equal to: c) Alfred Marshall d) Adam smith
a) 2.5 b) 1.0 c) 1.66 d) 2.66
2. Elasticity of demand explains ______ (F)
55. The cross elasticity of monthly demand for a) Direction of change in demand
refills when the price of gel pen increases b) Degree of change in demand
from Rs.10 to Rs.15 is equal to: c) both (a) & (b) d) None
a) -0.71 b) +0.25 c) -0.19 d) +0.38
3. How many types of elasticity of demand are
56. The cross elasticity of monthly demand for ink
pen when the price of gel increases from there?
Rs.10 to Rs.15 is equal to: a) One b) Two c) Three d) Four
a) +1.66 b) -1.05 c) -2.09 d) +2.09 MODEL 2: PRICE ELASTICITY OF DEMAND
57. What can be said about the price elasticity of
4. Price elasticity of demand is defined as
demand for gel pen?
Change in quality demanded
a) It is perfectly elastic b) It is unit elastic a) (MQB)
c) It is elastic d) It is inelastic Change in Price
58. Which of the following statement is incorrect? Proportionate change in quantity demanded
b)
(F) Change in price
a) Higher the negative cross elasticity, Change in quality demanded
higher will be the extent of complementarity c)
Proportionate Change in Price
b) Greater the cross elasticity, the closer is
the substitute
Proportionate change in quantity demanded
c) If cross elasticity to change in the price d)
of substitutes is greater than one, the firm Proportionate change in price
may lose by increasing the prices and gain 5. The price elasticity of demand is_____ (F)
by reducing the prices of his products. a) % change in price due to 1% change in
d) If cross elasticity is infinite then the demand
goods are independent b) % change in demand due to 1% change in
price
4.1: IMPORTANCE OF CROSS ELASTICITY
c) % change in demand due 1% change in
OF DEMAND
price of related goods
59. A firm can maximize its profits by reducing d) % change in demand due to 1% change in
the prices, if the cross elasticity of demand income of consumer
for its goods is ___ 6. For the sake convenience the numeric or
a) greater than one b) less than one absolute value of price elasticity is
c) equal to one d) none considered to be (F)
a) 0 ≤ Ed ≤ ∞ b) -∞ ≤ Ed ≤ 0
MODEL 5: ADVERTISEMENT ELASTICITY OF c) ∞ ≤ Ed ≤ 0 d) 0 ≥ Ed ≥ ∞
DEMAND
7. The responsiveness of demand to the
60. _______ is the responsiveness of a good’s changes in price is measured by _____
demand to changes in firm’s spending on a) Law of demand b) Law of supply
advertising. (F) c) Equilibrium price
a) Advertisement elasticity of sales d) Price elasticity of demand
b) Promotional elasticity of demand 8. The minus sign in elasticity of demand
c) Seasonal elasticity of demand indicates:
d) Either (a) or (b) a) Inverse relationship between price and
61. The objective of advertisement and all other quantity demanded.
sales promotion activities by any firm is: (F) b) Inverse relationship between income and
a) To shift the demand curve to the right quantity demanded.
b) To reduce the elasticity of demand c) Direct relationship between price and
c) Both (a) and (b) d) None quantity demanded d) None of above

CH.3 –ELASTICITY OF DEMAND3.5E 3.12

 MASTER MINDS WWW.MASTERMINDSINDIA.COM 98851 25025 / 26
2.1: TYPES (DEGREES) OF PRICE 17. What is the elasticity between midpoint &
ELASTICITY OF DEMAND upper extreme point of a straight line
continuous demand curve? (D 13)
9. When price falls by 5% and demand increases a) Infinite b) Zero c) >1 d) <1
by 6%, then elasticity of demand is: (J 11)
a) Elastic b) Inelastic 18. Point elasticity is the product of ___ (F)
c) Unitary elastic d) Zero a) Price quantity ratio at a particular point on
the demand curve and the slope of the
10. When price remains constant and quantity demand line.
demanded changes, then the elasticity of b) Price quantity ratio between two points on
demand will be: (D 08) the demand curve and the reciprocal of the
a) Vertical to X axis b) Horizontal to X axis slope of the demand line.
c) Either (a) or (b) d) None of these c) Price quantity ratio at a particular point on
11. If 20% fall in price of commodity brings 40% the demand curve and the reciprocal of the
increase in its demand, then the demand for slope of the demand line.
commodity will be treated as (J 12) d) Price quantity ratio between two points on
a) inelastic b) elastic the demand curve and the slope of the
c) Highly elastic d) Perfectly elastic demand line.
12. The horizontal demand curve parallel to x- 19. Which of the following is correct? (J 19)
axis implies that the elasticity of demand is a) Elasticity on lower segment of demand
a) Zero b) Infinite (J 15) (MQB) curve is greater than unity
c) Equal to one b) Elasticity on upper segment of demand
d) Greater than zero but less than infinity curve is lesser than unity
c) Elasticity at the middle of demand curve is
13. If regardless of changes in its price, the equal to unity
quantity demanded of a good remains d) Elasticity decreases as one move from
unchanged, then the price elasticity value is (€) lower part of demand curve to upper part.
a) =1 b) 0
c) greater than 1 d) less than 1 20. Price elasticity of demand under Point
method is measured using the formula:
14. If the demand curve is parallel to Y axis. q1 − q 0p + p0 dq P
Then the nature of elasticity is _____ a)  1 b) 
a) Perfectly elastic b) Perfectly Inelastic p1 − p 0 q1 − q 0 dp q
c) Elastic d) Highly Elastic q P
c)  d) None
15. If demand curve is linear and parallel to X p q
axis. What will be the nature of elasticity?
(D 08, J 09) 21. A decrease in price will result in an increase
in total revenue if: (€)
a) Perfectly elastic b) Inelastic
c) Elastic d) Highly Elastic a) The percentage change in quantity
demanded is less than the percentage
16. Match the following (F) change in price.
b) The percentage change in quantity
a) For a given 10% change in price, 1. e > 1 demanded in greater than the percentage
demand changes by 0 % change in price
c) Demand is inelastic
b) For a given 10% change in price, 2. e = 1
demand changes by 5 % d) The consumer is operating along a linear
demand curve at a point at which the price is
c) For a given 10% change in 3. e < 1 very low and the quantity demanded is very high
price, demand changes by 10%
22. If the demand for a good is elastic, an
d) For a given 10% change in price, 4. e = 0 increase in its price will cause the total
demand changes by 20% expenditure of the consumers of the good to
a) Increase b) Decrease (MQB)
Codes (a) (b) (c) (d) c) Remain the same d) None of the above
a) 3 1 2 4 b) 4 3 2 1
c) 1 2 3 4 d) 2 3 1 4 23. If with a change in price there is no change in
total outlay then demand will be:
2.2: MEASUREMENT OF PRICE ELASTICITY a) Less elastic b) More elastic
OF DEMAND c) Unitary elastic d) Perfectly Inelastic

CA FOUNDATIONBUSINESS ECONOMICS 3.5E 3.13

 MASTER MINDS No.1 for CA/CMA & MEC/CEC
24. If the demand for a good is inelastic, an increase quantity demanded increases from 3,000
in its price will cause the total expenditure of the plate-settings to 5,000 plate-settings, what is
consumers of the good to: (€) the price elasticity of demand for silverware?
a) remain the same. b) increase. (Use Arc elasticity Method) (€)(MQB)
c) decrease. d) any of these. a) 0.8 b) 1.0 c) 1.25 d) 1.50
25. If the airlines are making losses on 35. The prices of a commodity were increased
passenger traffic they should lower their from Rs.4 to Rs.6. As a result demand
fares. The suggested remedy would only decreased from 15 units to 10 units.
work if the demand for air travel had a price What is the price elasticity? (D 08, J 09)
elasticity of _____ (MQB) a) 0.66 b) 5.00 c) -1.5 d) 2.00
a) Zero
b) Greater than zero but less than one. 36. What is the price elasticity of demand when,
c) One d) Greater than one price changes from Rs.10 to Rs.12 and
correspondingly demand changes from 6
26. When as a result of increase in price of a units to 4 units? (Proportionate) (MQB)
good, total expenditure made on the good a) 0.833 b) 1.6 c) 2.2 d) 1.833
increases, price elasticity of demand is __
a) Elastic b) inelastic ($) 37. Suppose price of fashionable Shirts rises from
c) High d) Can’t be determined. Rs.400 per piece to Rs.700 per piece. The
Shopping Mall manager observes that the rise
27. If the price is decreased from Rs.10 to Rs.8 of
in price causes demand for shirts to fall from
a commodity but the quantity demanded
500 shirts per week to 300 shirts per week.
remains the same price elasticity is ___ (D 09)
What is the price elasticity of demand for shirts?
a) 1 b) 0 c)  d) None
(Use Mid Point Method) (MQB)
28. As a result of fall in the price of salt from Rs.3 a) 0.916 b) 1.5 c) 1 d) 1.667
per kg to Rs.2.50 per kg, the quantity
demanded increases from l000 kgs to 1005 38. If the local ice-cream shop raises the price of a
kgs. Calculate the price elasticity of demand. ice cream cup from Rs.10 per cup to Rs.15 per
a) 0.027 b) 0.037 c) 3.7 d) 2.7 cup, and quantity demanded falls from 500
cups per day to 300 cups per day, the price
29. Pick out correct formula for arc elasticity of elasticity of demand for ice-cream cup is:(MQB)
demand a) 1 b) 2.5 c) 2 d) 1.25
q2 − q1 p1 + p 2 q1 + q2 q1 + p 2
a)  b)  39. A business firm recently decreased price by 50
p 2 − p1 q1 + q2 p1 − p 2 q1 + q2
% assuming no other change and if elasticity of
q1 − q2
c)  100 d) None demand is unitary, total revenue will __
p1 + p 2 a) Double b) Increase by 50%
c) Remain unchanged d) Decrease by 50%
30. What will be the price elasticity if original
price is Rs = 5, original quantity is 8 units and 40. If lowering of fares reduces railway’s
changed price is Rs = 6 changed quantity is revenues and increasing of fares increases,
4 units? (D 12) them the demand for rail travel has a price
a) 2.5 b) 2.0 c) 1.5 d) 1.0 elasticity of _____ (MQB)
31. If price of burgers rises by 20% and then a) Zero
demand falls by 25%, then demand for b) Greater than zero but less than one
burgers is______ (€) c) One d) Greater than one
a) Elastic b) Inelastic 41. If as a result of 20 percent fall in the ticket
c) Unitary elastic d) Perfectly elastic fares the demand for ‘watching movie, in the
32. Given Q = 50+4P Find elasticity demand cinema hall increases by 10 percent, then
when P = Rs 25 elasticity of demand is_______. (MQB)
a) 0.50 b) 0.55 c) 0.66 d) 0.77 a) Zero
b) Greater than zero but less than one
33. If the price of ‘X’ rises by 10 per cent and the c) One d) Greater than zero
quantity demanded falls by 10 per cent, ‘X’ has:
a) Inelastic demand (MQB) 2.3: DETERMINANTS OF PRICE ELASTICITY
b) Unit elastic demand OF DEMAND
c) Zero elastic demand
42. Goods which have close or perfect
d) Elastic demand
substitutes have highly__ demand curve.
34. Suppose a department store has a sale on its a) Sloping b) Straight
silverware. If the price of a plate-setting is c) Elastic d) Inelastic
reduced from Rs.300 to Rs.200 and the
CH.3 –ELASTICITY OF DEMAND3.5E 3.14
 MASTER MINDS WWW.MASTERMINDSINDIA.COM 98851 25025 / 26
43. When people have very little time to respond 52. Knowledge of price elasticity of demand is
to price changes, demand becomes: important for the government to ____
a) Less elastic b) More elastic a) impose taxes
c) Unitary elastic b) fixing price of goods and services
d) Time does not affect the price elasticity of b) both a & b c) none
demand
MODEL 3: INCOME ELASTICITY OF DEMAND
44. The price elasticity of demand for addictive
products like cigarettes and alcohol would be 53. A necessity is defined as a good having:
a) Greater than 1 b) Less than 1 a) A positive income elasticity of demand.
c) Infinity d) One b) A negative income elasticity of demand.
c) An income elasticity of demand between
45. Goods that are very expensive or cheap zero and 1. (MQB-$)
have ______ demand d) An income elasticity of more than 1.
a) Elastic b) Inelastic
c) Perfectly elastic d) Perfectly Inelastic 54. The income elasticity of tomatoes is 0.25, it
means tomatoes are: (€)
46. Demand for which of the following products a) inferior goods. b) luxury goods.
is/are relatively inelastic? c) normal goods. d) can’t say.
a) Water b) Electricity
c) Movie tickets d) Both a and b 55. If income of a person increases by 10% and
his demand for goods increases by 30%,
47. The demand of water is said to be inelastic income elasticity will be____ (J 10)
because it is a___ a) Equal to one b) Less than one
a) Necessity b) Luxury c) More than one d) None
c) Habitual good d) All of these
56. Which of the following formula is used to
48. If the consumption of a good can be measure income elasticity of demand?
postponed, then the value of elasticity of that Y Y Y Y
a)  b) 
good is ____. Y Q Q Q
a) greater than 1 b) less than 1 Q Y Q Y
c) equal to one d) zero c)  d) 
Y Q Y Q
49. If the demand for two goods are tied with
each other, then the value of elasticity is 57. Calculate Income-elasticity for the household
a) greater than 1 b) less than 1 when the income of a household rises by 10%
c) equal to one d) zero the demand for T.V. rises by 20%
(M 19, MTP -1)
50. Goods having low share in the consumer’s a) + .5 b) - .5 c) + 2 d) - 2
Budget are _____
a) Less Elastic b) Unit 58. If income elasticity for the household for good
c) More Elastic d) Zero Elastic A is 2 then it is a: (MQB)
a) Necessity item b) inferior goods
2.4: IMPORTANCE OF DETERMINANTS OF c) Luxurious item d) Comfortable item
PRICE ELASTICITY OF DEMAND TO
BUSNIESS FIRMS 59. Calculate Income-elasticity for a household
when the income of this household rises by
51. The demand for a firm’s product is relatively 5% and the demand for buttons does not
elastic, the managers need to recognize that, change at all. (MQB)
a) Lowering the price would expand the a) Infinity b) 1 c) 5 d) Zero
volume of sales and result in an increase in
total revenue. (F) 60. If the income elasticity is greater than one the
b) Rising the price would expand the volume commodity is: (MQB)
of sales and result in an increase in total a) Necessity b) Luxury
revenue c) Inferior goods d) None of these
c) A price increase will lead to a decline in 61. Positive income elasticity implies that as
total revenue as fall in sales would be more income rises, demand for the commodity
than proportionate d) Both (a) and (c) a) Rises b) Falls (MQB)
2.5: IMPORTANCE OF DETERMINANTS OF c) Remains unchanged
PRICE ELASTICITY OF DEMAND TO d) Becomes zero
GOVERNMENT

CA FOUNDATIONBUSINESS ECONOMICS 3.5E 3.15

 MASTER MINDS
62. The income of a household rises by 20
percent, the demand for computer rises by
50% this means computer a/an: (MQB)
a) Inferior good b) Luxury good
c) Necessity d) None of these
63. The luxury goods like jewellery and
fancy articles will have (€)
a) Low income elasticity of demand
b) High income elasticity of demand
c) Zero income elasticity of demand
d) None of the above
64. In case of______ goods income elasticity of
demand will be greater than zero.
a) Giffen b) superior
c) inferior d) none
65. When change in income leads to no change
in demand, income elasticity of demand is:
a) Positive b) Negative
c) Zero d) None
66. If maize has -0.30 as income elasticity of
demand, then maize will be considered as __
(J 19)
a) Necessity b) Inferior good
c) Superior good d) None
67. If income of a household rises by 35% and
demand rises by 10% then the value of
income elasticity of demand is___
a) + 0.28 normal good
b) + 0.33 inferior good
c) 3 d) 1
3.1: IMPORTANCE OF INCOME ELASTICITY
OF DEMAND
68. If the firm manufactures luxury goods and the
income of the consumers increases then the
demand for these goods
a) Income elastic
b) Income inelastic
c) Unitary Income elastic d) none
MODEL 4: CROSS ELASTICITY OF DEMAND
69. Cross elasticity demand means
a) responsiveness of demand for one
substitute commodity due to change in the
price of another substitute commodity.
b) responsiveness of demand due to
changes in income
c) responsiveness of demand due to
changes in government policies
d) none of the above
70. Which of the following statements about
cross elasticity is true?
a) It is always negative
b) It is always positive
c) It can be either positive or negative
CH.3 –ELASTICITY OF DEMAND3.5E
No.1 for CA/CMA & MEC/CEC
d) It always lies between 0 and 1
71. The cross elasticity of monthly demand for
ink pen when the price of gel pen increases
by 25% and demand for ink pen increases by
50% is equal to: (MQB)
a) + 2.00 b) - 2.00 c) -2.09 d) +2.09
72. If two goods are substitutes like tea and
coffee, then the cross elasticity is: (MQB)
a) Negative b) Zero
c) Positive d) Less than one
73. The coefficient of cross elasticity of demand
between X and Y is 3, which implies that
goods X and Y are
a) Complementary b) substitutes
c) inferior goods d) normal goods
74. Cross elasticity of demand between petrol
and automobiles is ______
a) negative b) zero c) high d) infinite
75. Which of the following examples doesn’t
have negative cross elasticity?
a) car and petrol
b) electricity and electrical gadgets
c) olive oil and sunflower oil
d) printer and ink cartridges
76. A 10% increase in price of Tea, results in 8%
increase in the demand for coffee. The cross
elasticity of Demand is _ (D 12)
a) 0.8 b) 1.25 c) 1.5 d) 1.8
77. When cola companies coke and pepsi,
introduced colas in mini bottles at a low price,
the demand for tea and coffee is small tea
stalls declined drastically. The cross elasticity
between the colas and tea/coffee is
a)–ve b) +ve c) 0 d) infinite
78. The formula ΔQ x Py represents:
EC = 
ΔPy Q x
a) Income elasticity of supply.
b) Point elasticity of demand.
c) Cross elasticity of demand.
d) Arc elasticity of demand.
(79-84): In Econoville, there is one grocery shop,
Ecoconvenience. It used to sell fresh milk at Rs.20
per litre, at which price 400 litres of milk were sold
per month. After some time, the price was raised to
Rs.30 per litre. Following the price rise: ¨Only 200
litres of milk was sold every month. The number of
boxes of cereal customers bought went down from
280 to 240.
The number of packets of powdered milk
customers bought went up from 90 to 220 per
month. Now answer Questions. (MQB)
3.16
 MASTER MINDS
NOTE: Since ICAI using arc method to calculate
cross elasticity of demand, we have to follow the
same method.
79. The price elasticity of demand when fresh
milk’s price increases from Rs. 20 per litre to
Rs 30 per litre is equal to:
a) 2.5 b) 1.0 c) 1.66 d) 2 .66
80. The cross elasticity of monthly demand for
cereal when the price of fresh milk increases
from Rs 20 to Rs.30 is equal to:
a) - 0.38 b)+ 0.25 c) - 0.19 d) + 0.38
81. The cross elasticity of monthly demand for
powdered milk when the price of fresh milk
increases from Rs.20 to Rs.30 per litre is
equal to:
a) + 1.05 b) -1.05 c) -2.09 d) + 2.09
82. What can be said about the price elasticity of
demand for fresh milk?
a) It is perfectly elastic b) It is elastic
c) It is perfectly inelastic d) It is inelastic
83. Suppose income of the residents of Ecoville
increases by 50% and the quantity of fresh
milk demanded increases by 30%. What is
income elasticity of demand for fresh milk?
a) 0.5 b) 0.6 c) 1.25 d) 1.50
84. We can say that fresh milk in economic
sense is a/an:
a) Luxury good b) inferior good
c) Normal good d) Nothing can be said
85. If the quantity of good X demanded increases
from 8 to 12 in response to an increase in the
price of good Y from Rs 23 to Rs 27, the cross
elasticity of demand for X with respect to the
price of Y is approximately: (MQB)
a) 0.35 and X and Y are complements.
b) 0.35 and X and Y are substitutes.
c) 2.5 and X and Y are complements.
d) 2.875 and X and Y are substitutes
MODEL 4.1: IMPORTANCE OF CROSS
ELASTICITY OF DEMAND
86. A firm may earn profits by increasing the
prices, if the cross elasticity of demand for its
goods is ___
a) greater than one b) less than one
c) equal to one d) none
MODEL5: ADVERTISEMENT ELASTICITY OF DEMAND
87. ____ measures the effectiveness of an
advertisement campaign in bringing about
new sales. (F)
a) Advertising elasticity b) Cross elasticity
c) Income elasticity
d) Elasticity of demand
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88. Promotional elasticity of demand is the
responsiveness of a good’s demand to
changes in ____ (F)
a) Price of the product
b) Income of the consumer
c) Price of the substitutes
d) Firm’s spending on advertising.
89. Which of the following statement is incorrect?
a) Advertising elasticity of demand is typically
positive (F)
b) Lower the value of advertising elasticity
lower will be the responsiveness of demand
to change in advertisement.
c) Advertisement elasticity varies between
minus infinity to zero d) None of the above
SECTION 4: MCQs FOR SELF PRACTICE - 2
MODEL 1: INTRODUCTION
1. Elasticity of demand is:
a) Qualitative Statement
b) Directional Statement
c) Quantitative Statement d) None
2. Which of the following about price elasticity
of demand is correct? (€)
a) Price elasticity of demand is a measure of
how much the quantity demanded of a good
responds to a change in the price of that good
b) Price elasticity of demand is computed as
the percentage change in quantity demanded
divided by percentage in price
c) Price elasticity of demand in the long run
would be different from that of the short run
d) All of the above
3. Strictly speaking price elasticity of demand
lies between _____ and _____
a) -  and 0 b) -1 and 1
c) Always > 1 d) we can't say
MODEL 2: PRICE ELASTICITY OF DEMAND
NIL
2.1: TYPES (DEGREES) OF PRICE
ELASTICITY OF DEMAND
4. When the price elasticity of demand is zero,
the slope of the demand curve will be ____
a) Horizontal b) Vertical (J 12)
c) Sloping downwards d) Negatively Sloped
5. When the demand curve is a rectangular
hyperbola, it represents
a) Unitary elastic demand
b) Perfectly elastic demand
c) Perfectly inelastic demand
d) Relatively elastic demand
3.17
 MASTER MINDS No.1 for CA/CMA & MEC/CEC
2.2: MEASUREMENT OF PRICE ELASTICITY changes from 20 units to 15 units and the
OF DEMAND new price is Rs.10? (MQB)
a) Rs.15 b) Rs.18 c) Rs.20 d) Rs.8
6. The concept of _______ is used for
measuring price elasticity where the change 16. Suppose the price of movies seen at a
in price is infinitesimal. (F) theater rises from Rs.120 per person to
a) Arc elasticity b) Total outlay method Rs.200 per person. The theater manager
c) Point elasticity d) Percentage method observes that the rise in price causes
attendance at a given movie to fall from 300
7. In case of a straight line demand curve persons to 200 persons. Calculate price
meeting the two axes, the price elasticity of elasticity of demand. (Use Arc elasticity
demand at the mid – point of the line would be Method) (N 06, J 09) (€)
(J 19)(MQB) (N 07) (€) a) 0.5 b) 0.8 c) 1.0 d) 1.2
a) 0 b) 1 c) 1.5 d) 2
2.3: DETERMINANTS OF PRICE ELASTICITY
8. In case of straight-line demand curve OF DEMAND
meeting two axis, the price elasticity of
demand at the point where the curve meets 17. Demand for a good will tend to be more
y-axis would be___. (M 19, MTP-1)(J 10) elastic if it exhibits which of the following
a) Zero b) Greater than one characteristics? (€)
c) Less than one d) Infinity a) It represents a small part of the
consumer’s income
9. If R point bisects the demand curve in two b) The good has many substitutes available
equal parts, then elasticity at R equals to — c) It is a necessity (as opposed to a luxury)
(MQB) d) There is little time for the consumer to
a) Zero b) Five c) Two d) One adjust to the price change

10. For a commodity with a unitary elastic 18. Demand for electricity is elastic because:
demand curve if the price of the commodity a) It is very expensive (J 10) (MQB)
rises, then the consumer’s total expenditure of b) It has number of close substitutes
this commodity would: (F 08) c) It has alternative uses d) None
a) Increase b) Decrease
c) Remain constant MODEL 3: INCOME ELASTICITY OF DEMAND
d) Either increase or decrease 19. Normal good have _____ (MQB) (D 11)
11. Even though there is change in price, if there a) Zero income elasticity
is no change in total expenditure, then the b) Negative income elasticity.
Elasticity of Demand is __ (D 12) c) Positive income elasticity
a) 0 b) 1 c) >1 d) <1 d) Fluctuating income elasticity

12. If the local pizzeria raises the price of a 20. If with increase in income, there is an increase
medium pizza from Rs.60 to Rs.100 and in demand, income elasticity is said to be:
quantity demanded falls from 700 pizzas a a) Positive b) Negative
night to 100 pizzas a night, the price elasticity c) Zero d) None of these
of demand for pizzas is: (€) (MQB) 21. Suppose potatoes have (-).0.4 as income
a) 0.67 b) 1.5 c) 2.0 d) 3.0 elasticity. We can say from the data given that:
13. A consumer spends Rs.80 on purchasing a a) Potatoes are inferior goods. (€)
commodity when its price is Re.1 per unit and b) Potatoes are superior goods.
spends Rs.96 when the price is Rs.2 per unit. c) Potatoes are necessities.
Calculate the price elasticity of demand. (D 09) d) There is a need to increase the income of
a) 0.6 b) 0.3 c) 0.4 d) 0.5 consumers so that they can purchase potatoes

14. A decline in the price of X by Rs.2 causes an
increase of 10 units in demand which goes
up to 60 units. The new price is Rs.18
Calculate the price elasticity of demand. ($)
a) 1.26 b) 1.72 c) 4 .28 d) 3
15. What is the original price of a commodity
when price elasticity is 0.71 and demand
22. If the proportion of income spent on a good
remains the same as income increases, then
income elasticity for the good is______. (F)
a) Equal to one b) Greater than one
c) Less than one d) Zero
23. Amit, whose monthly income is Rs.2,000,
consumes 4 kgs of sweets per month. When
his income increased to Rs.2,400, his sweet

CH.3 –ELASTICITY OF DEMAND3.5E 3.18

 MASTER MINDS
consumption also increased to 5 kgs.
Determine the income elasticity of sweets.
a) 1 b) 0.5 c) 1.5 d) 1.25
MODEL 4: CROSS ELASTICITY OF DEMAND
24. Which of the following is incorrect?
a) The cross elasticity of demand for two
substitutes is positive. (MQB)
b) The income elasticity of demand is the
percentage change in quantity demanded of
a good due to a change in the price of a
substitute.
c) The cross elasticity of demand for two
complements is negative.
d) The price elasticity of demand is always
negative, except for Giffen goods.
25. The cross elasticity between Rye bread and
Whole Wheat bread is expected to be: (€)
a) positive b) negative
c) zero d) can’t say
26. The cross elasticity between Bread and
DVDs is: (€)
a) positive b) negative. c) zero d) one.
27. The price of 1kg of sugar is Rs 50. At this
price 10 kg is demanded. If the price of Tea
falls from Rs 30 to rs 25 per kg, the
consumption of sugar rises from 10 kg to 12
kg. Find out the cross price elasticity and
comment on its value.
MODEL 5: ADVERTISEMENT ELASTICITY OF
DEMAND
28. The objective of advertisement and all other
sales promotion activities by any firm is: (F)
a) To shift the demand curve to the right
b) To reduce the elasticity of demand
c) Both (a) and (b) d) None
SECTION 5: SUMMARY
1. Elasticity of demand refers to the degree of
sensitiveness or responsiveness of
demand to a change in any one of its
determinants. Elasticity of demand is
classified mainly into four kinds. They are
price elasticity of demand, income elasticity
of demand, advertisement elasticity and
cross elasticity of demand.
2. Price elasticity of demand refers to the
percentage change in quantity demanded of a
commodity as a result of a percentage change
in price of that commodity. Because demand
curve slopes downwards and to the right, the
sign of price elasticity is negative. We normally
ignore the sign of elasticity and concentrate on
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the coeficient. Greater the absolute coeficient,
greater is the price elasticity.
3. In point elasticity, we measure elasticity at
a given point on a demand curve. When
the price change is somewhat larger or
when price elasticity is to be found
between two prices or two points on the
demand curve, we use arc elasticity
4. Income elasticity of demand is the
percentage change in quantity demanded
of a commodity as a result of a percentage
change in income of the consumer. Goods
and services are classified as luxuries,
normal or inferior, depending on the
responsiveness of spending on a product
relative to percentage change in income.
5. The cross elasticity of demand is the
percentage change in the quantity
demanded of commodity X as a result of a
percentage change in the price of some
related commodity Y. Products can be
substitutes, and their cross elasticity is
then positive; cross elasticity is negative for
products that are complements.
6. Advertisement elasticity of sales or promotional
elasticity of demand measures the
responsiveness of a good’s demand to
changes in the firm’s spending on advertising.
SECTION 6: TEST YOUR KNOWLEDGE
1. If a 1% change in price leads to 2% change in
quantity demanded of good A and 4% change
in quantity demanded of good B, then we get
elasticity of A and B as 2 and 4 respectively.
Comment and compare on elasticity of A & B.
2. “While the goods between which cross
elasticity is positive can be called substitutes,
the goods between which cross elasticity is
negative are not always complementary”.
NUMERICAL PROBLEMS ON PRICE ELASTICITY
3. The price of a commodity decreases from 6
to 4 and quantity demanded of the good
increases from 10 units to 15 units. Find the
coefficient of price elasticity.
4. A 5% fall in the price of a good leads to a
15% rise in its demand. Determine the
elasticity and comment on its value.
5. The price of a good decreases from 100 to
60 per unit. If the price elasticity of demand
for it is 1.5 and the original quantity
demanded is 30 units, calculate the new
quantity demanded.
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 MASTER MINDS No.1 for CA/CMA & MEC/CEC

NUMERICAL PROBLEMS ON INCOME ELASTICITY NUMERICAL PROBLEMS ON CROSS ELASTICITY

6. The income of a household rises by 10%, the
demand for wheat rises by 5%.
7. The income of a household rises by 10%, the
demand for T.V. rises by 20%.
8. The income of a household rises by 5%, the
demand for bajra falls by 2%.
9. The income of a household rises by 7%, the
demand for commodity X rises by 7%.
10. The income of a household rises by 5%, the
demand for buttons does not change at all.
11. The price of 1kg of tea is 30. At this price 5kg
of tea is demanded. If the price of coffee rises
from 25 to 35 per kg, the quantity demanded of
tea rises from 5kg to 8kg. Find out the cross
price elasticity of tea.
12. The price of 1 kg of sugar is 50. At this price
10 kg is demanded. If the price of tea falls
from 30 to 25
13. per kg, the consumption of sugar rises from
10 kg to 12 kg. Find out the cross price
elasticity and comment on its value.

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CH.3 –ELASTICITY OF DEMAND3.5E 3.20