Microeconomics Canadian 1st Edition Hubbard Solutions Manual

Microeconomics Canadian 1st Edition
Hubbard Solutions Manual

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CHAPTER 6 | Elasticity: The Responsiveness
of Demand and Supply
Brief Chapter Summary and Learning Objectives
6.1 The Price Elasticity of Demand and Its Measurement (pages 162–168)
Define price elasticity of demand and understand how to measure it.
 Price elasticity of demand is a measure of the responsiveness of the quantity demanded to

a change in price.
6.2 The Determinants of the Price Elasticity of Demand (pages 168–171)

Understand the determinants of the price elasticity of demand.
 The key determinants of the price elasticity of demand for a good are: the availability of
close substitutes, the passage of time, whether the good is a necessity or a luxury, the
definition of the market, and the share of the good in a consumer’s budget.
6.3 The Relationship between Price Elasticity of Demand and Total Revenue
(pages 171–175)
Understand the relationship between the price elasticity of demand and total revenue.
 When demand is inelastic, price and total revenue move in the same direction. When
demand is elastic, price and total revenue move inversely.
6.4 Other Demand Elasticities (pages 175–177)

Define cross-price elasticity of demand and income elasticity of demand and understand
their determinants and how they are measured.
 Two other demand elasticities are important: the cross-price elasticity of demand
measures the responsiveness of the quantity demanded of one good to a change in the
price of another good; the income elasticity of demand measures the responsiveness of
the quantity demanded of a good to a change in income.
6.5 Using Elasticity to Analyze the Disappearing Family Farm

(pages 178–180)
Use price elasticity and income elasticity to analyze economic issues.
 Elasticity can help us understand many economic issues, including why the family farm
has become an endangered species and the effects of raising the federal government’s tax
on gasoline.
©2015 Pearson Canada Inc.

92 CHAPTER 6 | Elasticity: The Responsiveness of Demand and Supply
6.6 The Price Elasticity of Supply and Its Measurement (pages 180–184)
Define price elasticity of supply and understand its main determinants and how it is
measured.
 The price elasticity of supply measures the responsiveness of the quantity supplied to a
change in price.
Key Terms
Cross-price elasticity of demand, p. 175. The Perfectly inelastic demand, p. 166. The case
percentage change in quantity demanded of one where the quantity demanded is completely
good divided by the percentage change in the unresponsive to price, and the price elasticity of
price of another good. demand equals zero.
Elastic demand, p. 163. Demand is elastic when Price elasticity of demand, p. 162. The
the percentage change in quantity demanded is responsiveness of the quantity demanded to a
greater than the percentage change in price, so change in price, measured by dividing the
the price elasticity is greater than 1 in absolute percentage change in the quantity demanded of a
value. product by the percentage change in the
product’s price.
Elasticity, p. 162. A measure of how much one
economic variable responds to changes in Price elasticity of supply, p. 180. The
another economic variable. responsiveness of the quantity supplied to a
change in price, measured by dividing the
Income elasticity of demand, p. 176. A percentage change in the quantity supplied of a
measure of the responsiveness of quantity product by the percentage change in the product’s
demanded to changes in income, measured by price.
the percentage change in quantity demanded
divided by the percentage change in income. Total revenue, p. 171. The total amount of
funds received by a seller of a good or service,
Inelastic demand, p. 163. Demand is inelastic calculated by multiplying price per unit by the
when the percentage change in quantity number of units sold.
demanded is less than the percentage change in
price, so the price elasticity is less than 1 in Unit-elastic demand, p. 163. Demand is unit
absolute value. elastic when the percentage change in quantity
demanded is equal to the percentage change in
Perfectly elastic demand, p. 166. The case price, so the price elasticity is equal to 1 in
where the quantity demanded is infinitely absolute value.
responsive to price, and the price elasticity of
demand equals infinity.
Chapter Outline
Do People Respond to Changes in the Price of Gasoline?
During the summer of 2005, when the price of gasoline soared close to $1.23 per litre as a result of
Hurricane Katrina, consumers responded by buying less than they had bought a year earlier when the
price was lower. Consumers found many ways to cut back on the quantity of gasoline they purchased,
including moving closer to their work places and buying more fuel-efficient automobiles.

CHAPTER 6 | Elasticity: The Responsiveness of Demand and Supply 93
The Price Elasticity of Demand and Its Measurement (pages 162–168)

6.1 Learning Objective: Define price elasticity of demand and understand how to measure it.
Elasticity is a measure of how much one economic variable responds to changes in another economic
variable. The price elasticity of demand is the responsiveness of the quantity demanded to a change in
price, measured by dividing the percentage change in the quantity demanded of a product by the
percentage change in the product’s price.
A. Measuring the Price Elasticity of Demand

The slope of the demand curve is not used to measure elasticity because the measurement of slope is
sensitive to the units chosen for quantity and price.
Price elasticity of demand = Percentage change in quantity demanded .

Percentage change in price
The price elasticity of demand is always negative. Because we are usually interested in the relative size of
elasticities, we often compare their absolute values.
B. Elastic Demand and Inelastic Demand

Elastic demand is when the percentage change in quantity demanded is greater than the percentage
change in price, so the price elasticity is greater than 1 in absolute value.
Inelastic demand is when the percentage change in quantity demanded is less than the percentage change
in price, so the price elasticity is less than 1 in absolute value.
Unit-elastic demand refers to when the percentage change in quantity demanded is equal to the
percentage change in price, so the price elasticity is equal to 1 in absolute value.
C. An Example of Computing Price Elasticities

In calculating the price elasticity between two points on a demand curve, we run into a problem because
we get a different value for price increases than for price decreases.
D. The Midpoint Formula

We can use the midpoint formula to ensure that we have only one value for the price elasticity of demand
between the same two points on a demand curve. The midpoint formula uses the average of the initial and
final quantities and the average of the initial and final prices. If Q1 and P1 are the initial quantity and price
and Q2 and P2 are the final quantity and price, then the midpoint formula is:
Price elasticity of= (Q 2 − Q1) ( P 2 − P1) .

demand ÷
 Q1 + Q 2   P1 + P 2 
   
 2   2 
E. When Demand Curves Intersect, the Flatter Curve Is More Elastic

When two demand curves intersect, the one with the smaller slope (in absolute value) is more elastic, and
the one with the larger slope (in absolute value) is less elastic.
F. Polar Cases of Perfectly Elastic and Perfectly Inelastic Demand

If a demand curve is a vertical line, then it is perfectly inelastic. Perfectly inelastic demand is the case
where the quantity demanded is completely unresponsive to price, and the price elasticity of demand

equals zero. If a demand curve is a horizontal line, then it is perfectly elastic. Perfectly elastic demand is
the case where the quantity demanded is infinitely responsive to price, and the price elasticity of demand
equals infinity.
Teaching Tips
After illustrating a perfectly inelastic demand curve, ask your students to suggest examples. They may
mention cigarettes, gasoline, or other goods that have relatively inelastic, but not perfectly inelastic,
demands. Ask whether the quantity demanded of the products they suggest would change if the price
were not only higher but lower as well. Even students who claim they would not buy less gasoline if the
price rose are unlikely to argue that they would not buy more gasoline at lower prices. This discussion
will help your students understand that very few products actually have perfectly inelastic demand curves.
Within reasonable price changes, the demand for certain drugs, such as insulin, may be perfectly inelastic.
The number of injections per day is insensitive to price changes. You don’t need to spend much time
discussing perfectly elastic demand. It should be sufficient to make a brief reference to perfect
competition, a topic covered in Chapter 12.

Extra Making
the Rewriting the Formula
Connection
Your understanding of elasticity (E) may be increased by rewriting the elasticity formula. To make this
explanation easier to follow, assume that we are interested in measuring the price elasticity of a linear
demand curve. The elasticity formula in the textbook is:
E .
Both “2”s can be dropped from this equation. Recall that (Q2 − Q1) = ΔQ and (P2 − P1) = ΔP. Substituting,
we have:
∆Q ΔP
E = ÷ .
(Q1 + Q2) (P1 + P2)
Because the elasticity equation divides one fraction by another fraction, you can rewrite this expression
by multiplying the numerator by the inverse, or reciprocal, of the denominator. The associative property
of multiplication allows us to divide ΔQ by ΔP and (P1 + P2) by (Q1 + Q2). Therefore:
E = ∆Q × P1 + P 2 .
∆P Q1 + Q 2
Because the slope of a linear or straight line demand curve is constant and can be written as ΔP/ΔQ, the
elasticity formula can now be written as:
E = (1/slope) × P1 + P 2 .
Q1 + Q 2
Writing the elasticity formula this way makes it clear that the slope is not the same as the elasticity of a
demand curve. Along a linear demand curve, the slope will have a constant value but the elasticity will
not. The formula highlights this and also can be used to make another important point. Because the law
of demand tells us that high prices are associated with relatively low values of quantity demanded (and
vice versa), the absolute values for elasticity will be high at high prices (demand is elastic) and
relatively low at low prices (demand is inelastic). This result can easily be shown by substituting in
actual price and quantity values for a given demand curve into the rewritten formula and observing the
change in the ratio of (P1 + P2) to (Q1 + Q2) as price is decreased.

The Determinants of the Price Elasticity of Demand (pages 168–171)

6.2 Learning Objective: Understand the determinants of the price elasticity of demand.
A. There are Five Determinants of the Price Elasticities of Demand

1. Availability of Close Substitutes
The availability of substitutes is the most important determinant of the price elasticity of demand.
In general, if a product has more substitutes available, it will have a more elastic demand. If a
product has fewer substitutes available, it will have a less elastic demand.
2. Passage of Time
Another determinant of elasticity is the passage of time. The more time that passes, the more
elastic the demand for a product becomes.
3. Luxuries versus Necessities

A third determinant is whether the product is a necessity or a luxury. The demand curve for a
luxury is more elastic than the demand curve for a necessity.
4. Definition of the Market

A fourth determinant is the definition of the market. The more narrowly we define a market, the
more elastic demand will be.
5. Share of a Good in a Consumer’s Budget

The final determinant is the share of the good in a consumers’ budget. In general, the demand for
a good will be more elastic the larger the share of the good in the average consumer’s budget.
B. Some Estimated Price Elasticities of Demand

Looking at estimated short-run elasticities of demand, it is important to remember that estimates of the
price elasticity of different goods vary depending on the data used and the time period over which the
estimates were made.
Teaching Tips
It is useful to emphasize two points. First, each of the five determinants of the price elasticity of demand
should be considered separately from the others. A product that consumes a small part of a consumer’s
budget (this suggests demand would be relatively inelastic) may have several good substitutes (this
suggests demand would be relatively elastic). Second, changes in the market price of any product will
result in different values for price elasticity. Estimates of the price elasticity of demand use market prices
for products at a particular time. Different market prices would result in different elasticity estimates.
Extra Solved Problem 6.2
Paying Extra for the Chocolate You Want

Around Halloween, it is common to see boxes containing a mixture of 50 or 90 mini chocolate bars for sale.
Nestlé sells boxes with KitKat, Coffee Crisp, and Smarties for $6 or $7 (depending on where you shop). At
the same time, boxes containing only Smarties will often sell for more than the mixed box.

a. What are the key determinants of the price elasticity of demand Halloween candies?
b. Why would Nestle charge more for a box containing a single type of candy than for mixed
packages?
Solving the Problem

Step 1: Review the chapter material.
This problem is about the determinants of the price elasticity of demand, so you may want to
review the section “The Determinants of the Price Elasticity of Demand,” which begins on
page 168 of the textbook.
Step 2: What are the key determinants of the price elasticity of demand for Halloween
candy?
The key determinants are the availability of close substitutes (candy and chocolate produced
by Hershey, Mars, etc.) and what people plan to do with the candy.
Step 3: Explain the price difference.
People buying candy to hand out at Halloween are less likely to be interested in handing out
just one kind (as kids often have different tastes). People who buy candy expecting to eat
most or all of it themselves are much more likely to care about the type of candy they buy.
The more you care about having something specific, the lower your price elasticity. As a
result, Nestlé is able to charge more for boxes containing a single variety of candy than for
mixed packs.
6.3 The Relationship between Price Elasticity of Demand and Total Revenue
(pages 171–175)
Learning Objective: Understand the relationship between the price elasticity of demand
and total revenue.
A firm is interested in price elasticity because it allows the firm to calculate how changes in price will
affect its total revenue. Total revenue is the total amount of funds received by a seller of a good or
service, calculated by multiplying the price per unit by the number of units sold. When demand is
inelastic, price and total revenue move in the same direction: An increase in price raises total revenue, and
a decrease in price reduces total revenue. When demand is elastic, price and total revenue move inversely:
An increase in price reduces total revenue, and a decrease in price raises total revenue. A less common
possibility is that demand is unit elastic. In that case, a change in price is exactly offset by a proportional
change in quantity demanded, leaving revenue unaffected.
A. Elasticity and Revenue with a Linear Demand Curve

Along most demand curves, including linear demand curves, elasticity is not constant at every point.
When the price is high and the quantity demanded is low, demand is elastic. When the price is low and
the quantity demanded is high, demand is inelastic.
B. Estimating Price Elasticity of Demand

To estimate the price elasticity of demand, economists need to know the demand curve for a product. To
calculate the price elasticity of demand for new products, firms often rely on market experiments, where
firms will try different prices and observe the change in quantity demanded that results.

Other Demand Elasticities (pages 175–177)

6.4 Learning Objective: Define cross-price elasticity of demand and income elasticity of
demand and understand their determinants and how they are measured.
In addition to price elasticity, two other demand elasticities are important: the cross-price elasticity of
demand and the income elasticity of demand.
A. Cross-Price Elasticity of Demand

The formula for the cross-price elasticity of demand is:
Percentage change in quantity demanded of one good .

Percentage change in price of another good
The cross-price elasticity of demand is the percentage change in quantity demanded of one good divided
by the percentage change in the price of another good. The cross-price elasticity of demand will be
positive or negative depending on whether the two products are substitutes or complements. An increase
in the price of a substitute will lead to an increase in quantity demanded, so the cross-price elasticity of
demand will be positive. An increase in the price of a complement will lead to a decrease in the quantity
demanded, so the cross-price elasticity of demand will be negative. The cross-price elasticity allows
managers to measure whether products sold by other firms are close substitutes for their products.
B. Income Elasticity of Demand

The income elasticity of demand of demand is a measure of the responsiveness of quantity demanded to
changes in income, measured by the percentage change in quantity demanded divided by the percentage
change in income.
Percentage change in quantity demanded .

Percentage change in income
If the quantity demanded of a good increases as income increases, then the good is a normal good.
Normal goods are often further subdivided into luxuries and necessities. The income elasticity of demand
for a necessity is positive but less than 1. The income elasticity of demand for a luxury is greater than 1.
A good is inferior if the quantity demanded falls as income increases.
Teaching Tips
Many students confuse one type of elasticity with another. Ask your students to solve the following
problem. Assume that the price elasticity of demand for good X is 2.5. Is good X a normal good?
(Answer: You cannot determine whether X is normal or inferior by knowing its price elasticity. You need
to know the income elasticity of demand for good X to answer this question).

A Subway Fare Increase and an Economic Boom Affect the Taxi Business
Assume that two separate events affect the market for taxi rides in Toronto:
1. There is a 20 percent increase in Toronto Transit Commission (TTC) cabs hired (fares). As a result,
the price of a taxicab ride increases by 5 percent.

2. An economic expansion causes a 5 percent increase in the incomes of tourists visiting Toronto. As a
result, the number of taxicab rides increases by 2 percent.
Describe the cross-price and income elasticity formulas and use these formulas to determine the values of
these elasticities for taxicab rides.
Solving the Problem

This problem is about the determinants of the cross-price elasticity and income elasticity of
demand, so you may want to review the section “Other Demand Elasticities,” which begins
on page 175 of the textbook.
Step 2: State the cross-price elasticity formula and determine the value of this elasticity for
taxicab rides.
The cross-price elasticity formula is:
Percentage change in quantity demanded of one good .

Percentage change in price of another good
Because a 20 percent increase in subway fares raised the quantity demanded of taxi rides by
5 percent, the value of the cross-price elasticity is:
5 percent
= 0.25 .
20 percent
The elasticity is positive, so subway and taxi rides are substitutes.

Step 3: State the income elasticity formula and determine the value of this elasticity for
taxi rides.
The income elasticity is:
Percentage change in quantity demanded .

Percentage change in income
Because a 5 percent increase in income led to a 2 percent increase in taxi rides, the value of
the income elasticity is:
2 percent
= 0.4 .
5 percent
The elasticity is positive but less than 1. Therefore, a taxi ride is a normal good and a
necessity.
6.5 Using Elasticity to Analyze the Disappearing Family Farm

(pages 178–180)
Learning Objective: Use price elasticity and income elasticity to analyze economic issues.
From 1931 to 2011, the number of farms decreased from 728,623 to about 205,730, and the number of
people who lived on farms fell from 3.3 million to fewer than 1 million. Rapid growth in farm output has
combined with low price and income elasticities to make family farming difficult in Canada. Productivity

has grown very rapidly in Canadian agriculture. Total wheat production rose from about 320 million
bushels in 1931 to about 930 million bushels in 2011, thanks to development of superior strains of wheat
and improvements in farming techniques.This increase in wheat production resulted in a substantial
decline in prices because (1) the demand for wheat is inelastic, and (2) the income elasticity of demand
for wheat is low.
Extra Making
the Elasticity and Hearing Aids
Connection
Over 3 million Canadians suffer from hearing loss, but only 1 in 6 of those (500,000) wears hearing aids.
In other words, only 1/6th of the potential customers for hearing aids buy them. There are several reasons
why so few people who could benefit from hearing aids actually buy one, including the stigma that is
sometimes attached to people wearing them. But the price of hearing aids is an important factor as well.
Hearing aid prices vary, but prices of $2,000 to $4,000 or more are common. In most cases, provincial
health covers at least some of the cost of a hearing aid, but not the whole cost. Some private top-up health
insurance plans cover the remaining cost, but not everyone in Canada has this extra insurance. This
means that many Canadians cover some or most of the cost of a hearing aid out of their own pockets.
Would firms selling hearing aids raise their revenue if they were to lower the prices they charged? If the
price elasticity of demand for hearing aids is elastic (greater than 1 in absolute value), then a reduction in
prices will lead to more revenue, but if demand is inelastic (less than 1 in absolute value) a reduction in
prices will reduce total revenue. We can apply what we have learned about the determinants of price
elasticity of demand to analyze the question. Three of the determinants are important in this case.
Determinant Evaluation Relatively Elastic or

Inelastic
Are close substitutes No Inelastic
available?
Is the product a necessity or a Necessity Inelastic
luxury?
Would the product take a Yes, if not covered by Elastic
large share of a consumer’s insurance
budget? No, if covered by insurance Inelastic
For those who must pay for most of their hearing aids out of their own pockets, it is not certain whether
demand would be elastic or inelastic. But for those with insurance that covers most or all of the cost,
demand is likely to be inelastic.

Using Price Elasticity to Analyze Policy toward Illegal Drugs
An ongoing policy debate concerns whether to legalize the use of drugs such as marijuana and cocaine.
Some researchers estimate that legalizing cocaine would cause its price to fall by as much as 95 percent.
Proponents of legalization argue that legalizing drug use would lower crime rates by eliminating the main
reason for the murderous gang wars that plague many big cities and by reducing the incentive for drug
addicts to commit robberies and burglaries. Opponents of legalization argue that lower drug prices would
lead more people to use drugs.

a. Suppose the price elasticity of demand for cocaine is −2. If legalization causes the price of cocaine to
fall by 95 percent, what will be the percentage increase in the quantity of cocaine demanded?
b. If the price elasticity is −0.02, what will be the percentage increase in the quantity demanded?
c. Discuss how the size of the price elasticity of demand for cocaine is relevant to the debate over its
legalization.
Solving the Problem

This problem deals with applications of the price elasticity of demand formula, so you may
want to review the section “Using Elasticity to Analyze the Disappearing Family Farm,”
which begins on page 178 of the textbook, and the section “Measuring the Price Elasticity of
Demand,” which begins on page 162 of the textbook.
Step 2: Answer part (a) using the formula for the price elasticity of demand.
Price elasticity of demand = Percentage change in quantity demanded .

We can plug into this formula the values we are given for the price elasticity and the
percentage change in price:
Percentage change in quantity demanded
−2 = .
−95%
Or rearranging:
Percentage change in quantity demanded = −2 × −95% = 190%
Step 3: Use the same method to answer part (b).

We only need to substitute −0.02 for −2 as the price elasticity of demand:
Percentage change in quantity demanded = −0.02 × −95% = 1.9%
Step 4: Answer part (c) by discussing how the size of the price elasticity of demand for
cocaine helps us to understand the effects of legalization.
Clearly, the higher the absolute value of the price elasticity of demand for cocaine, the greater
the increase in cocaine use that would result from legalization. If the price elasticity is as high
as in part (a), legalization will lead to a large increase in use. If, however, the price elasticity
is as low as in part (b), legalization will lead to only a small increase in use.
Extra Credit:
One estimate puts the price elasticity at −0.28, which suggests that even a large fall in the
price of cocaine might lead to only a moderate increase in cocaine use. However, even a
moderate increase in cocaine use would have costs. Some studies have shown that cocaine
users are more likely to commit crimes, to abuse their children, to have higher medical
expenses, and to be less productive workers. Moreover, many people object to the use of
cocaine and other narcotics on moral grounds and would oppose legalization even if it led to
no increase in use. Ultimately, whether the use of cocaine and other drugs should be legalized
is a normative issue. Economics can contribute to the discussion but cannot decide the issue.
Source for estimate of price elasticity of cocaine: Henry Saffer and Frank Chaloupka, “The Demand for Illicit Drugs,” Economic
Inquiry, Vol. 37, No. 3, July 1999, pp. 401–411.
The Price Elasticity of Supply and Its Measurement (pages 180–184)

6.6 Learning Objective: Define price elasticity of supply and understand its main determinants
and how it is measured.
To measure how much quantity supplied increases when price increases, we use the price elasticity of
supply.
A. Measuring the Price Elasticity of Supply

We calculate the price elasticity of supply using percentage changes:
Percentage change in quantity supplied .

The price elasticity of supply is the responsiveness of the quantity supplied to a change in price,
measured by dividing the percentage change in the quantity supplied of a product by the percentage
change in the product’s price. Because of the law of supply, price elasticity of supply will be a positive
number. If the price elasticity of supply is less than 1, then supply is inelastic. If the price elasticity of
supply is greater than 1, then supply is elastic. If the price elasticity of supply is equal to 1, then supply is
unit elastic.

B. Determinants of the Price Elasticity of Supply

Whether the supply curve is elastic or inelastic depends on the ability and willingness of firms to alter the
quantity they produce as price increases. The supply curve for most products will be inelastic if we
measure it over a short period of time, but increasingly elastic the longer the period of time over which we
measure it.
C. Polar Cases of Perfectly Elastic and Perfectly Inelastic Supply

Although it occurs infrequently, it is possible for supply to fall into one of the polar cases of price
elasticity. If a supply curve is a vertical line, it is perfectly inelastic. If a supply curve is a horizontal line,
it is perfectly elastic.
D. Using Price Elasticity of Supply to Predict Changes in Price

When demand increases, the amount that price increases depends on the price elasticity of supply. When
the supply is inelastic, a change in demand results in a larger increase in price than when the supply is
elastic.

The Unchanging Supply of Lobster Licences
Lobster fishing licences sell for prices of $185,000 to over $500,000 each. The number of licences in any
one jurisdiction is set by the Department of Fisheries and Oceans at 10,000.
a. What is the value of the price elasticity of supply of lobster licences?
b. Describe some of the consequences of the Department of Fisheries and Oceans limiting the
quantity of lobster licences.
Solving the Problem

This problem is about the determinants of the elasticity of supply, so you may want to review
the section “The Price Elasticity of Supply and Its Measurement,” which begins on page 180
of the textbook.
Step 2: What is the value of the price elasticity of supply of lobster licences?
The price elasticity of supply formula is:
Percentage change in quantity supplied .

Because the quantity supplied of licences does not change, the percentage change in the
quantity supplied of licences was zero, as was the price elasticity of supply. The licences
supply curve was vertical at the quantity of 10,000 medallions.
Step 3: Describe some of the consequences of the Department of Fisheries and Oceans
limiting the quantity of licences.
The high cost of licences has limited the number of fishers and may have made the price of
lobster more volatile. At the same time, by restricting supply the DFO can prevent the
overexploitation of the fishery.

Extra Economics in Your Life:

Can Knowledge of Elasticities Make You Rich?
Question: After studying the material in this chapter, you should understand why knowing the income
and price elasticities of their products is important to the owners and managers of firms. But what if you
are not a manager or owner? If, for example, you were interested in investing some of your hard-earned
savings in the stock market, how would knowing income and price elasticities help you?
Answer: The best advice for success in the stock market is still “buy low, sell high.” But what you
learned about elasticity also may be helpful, at least in a general way. Firms that sell products with high
income elasticities (for example, houses and automobiles) experience especially large fluctuations in sales
as the overall economy moves through the business cycle. Consumers will be wary of buying “big ticket”
items during a recession, especially if they must take out loans to do so. Sales of these same items tend to
increase rapidly when the economy moves into an expansion.
Source: Ben McClure, “The Ups and Downs of Investing in Cyclical Stocks,” October 22, 2002, www.investopedia.com.
SOLUTIONS TO END-OF-CHAPTER EXERCISES
Answers to Thinking Critically About Policy Questions

1. You should disagree. Even though the overall demand for gasoline is inelastic, the demand for gasoline
at Joe’s Gas-and Go is likely to be elastic. If Joe increases his price but other gas stations do not raise
their prices, the quantity demanded for Joe’s gas will likely fall significantly and Joe’s revenue will
decrease.
2. If Walmart and Costco begin selling gasoline at lower prices than the conventional service stations, this
will cause the demand curves faced by the conventional service stations to shift to the left and become
more elastic, which will lower the equilibrium price of gasoline at these stations.
Review Questions
LO 6.1
1.1 Price elasticity of demand = (Percentage change in quantity demanded)/(Percentage change in

price). Price elasticity of demand isn’t measured by the slope of the demand curve because the slope
depends on the units of measurement. The slope of the demand curve will change by a factor of 100 if
you use cents instead of dollars, for example. Or, for another example, consider six-packs of pop versus
cans of pop: If the price drops by $1.00 per six-pack and this causes quantity demanded to increase by
two six-packs, then that is the same thing as quantity demanded going up by 12 cans. So, you could
calculate the slope either as −1/2 six-packs, or as −1/12 cans. In addition, using percentage changes in the
elasticity formula allows for meaningful comparisons of demand responsiveness between very different
kinds of goods: for example, breakfast cereal versus health care. Because the slope uses physical units of
quantities, such comparisons are impossible.
1.2 The price elasticity = (Percentage change in quantity demanded)/(Percentage change in price) = –
25%/10% = –2.5. The demand for Cheerios would be elastic.

1.3 In calculating the percentage change in price and quantity, the midpoint formula divides by the
average of the starting and ending values.
Midpoint formula: (Q 2 − Q1) ÷ ( P 2 − P1)

 Q1 + Q 2   P1 + P 2 
   
 2   2 
Percentage changes can also be calculated by using the starting or ending value without averaging, but
this gives different results depending on whether the starting or ending value is used.
1.4 A perfectly inelastic demand curve is shown by a vertical line. Such a good will have no
substitutes—for example, a life-saving drug.
LO 6.2
2.1 The demand for most agricultural goods is inelastic. Food is a necessity, and the demand for
necessities tends to be less elastic than the demand for luxuries.
2.2 The most important determinant of the price elasticity of demand is usually the availability of
substitutes for the product. If there are good substitutes, elasticity will be high because people can switch
away to another good as the product’s price rises. Other factors determining the price elasticity of demand
for a product include the passage of time, whether the good is a necessity or a luxury, how narrowly the
market for the good is defined, and the share of the good in the consumer’s budget.
LO 6.3
3.1 If demand is inelastic, an increase in price will increase revenue because the price will increase
proportionally more than the quantity sold will decrease.
3.2 If revenue increases when price falls, then demand must be elastic.
LO 6.4
4.1 Cross-price elasticity of demand equals the percentage change in quantity demanded of one good
divided by the percentage change in the price of another good. If the cross-price elasticity is negative,
then the goods are complements; if it is positive, then they are substitutes.

4.2 Income elasticity equals the percentage change in the quantity demanded divided by the
percentage change in income. If the income elasticity is greater than 0, then the good is normal; if it is less
than 0, then the good is inferior. Goods with income elasticities between 0 and 1 are often called
necessities; goods with income elasticities greater than 1 are often called luxuries.
LO 6.5
5.1 Increasing productivity in agriculture has brought about lower prices for food products. Because
the price elasticity of demand for food is low, the lower prices have not caused a large increase in quantity
demanded. The increase in income over time has not increased the demand for food much because the
income elasticity for food is low. Farmers therefore need to sell larger and larger quantities of food at
lower and lower prices to raise the same revenue. This means that small farms can no longer be as
profitable as they once were.
LO 6.6
6.1 Price elasticity of supply = (Percentage change in quantity supplied)/(Percentage change in price).
In this case, the elasticity of supply = 9%/10% = 0.9. This is slightly inelastic. The dividing point between
elastic and inelastic is 1.0.
6.2 The main determinant of the price elasticity of supply is time. The longer the time period, the
more firms are able to adjust to a change in price. So, we would expect that as the time period increases
the price elasticity of supply will increase. An exception to this rule is products that require use of a
resource that is in fixed supply, such as wine from a particular region.
Problems and Applications

LO 6.1
12,000,000 − 8,000,000
1.1 a. = −4,000,000
$2.00 − $3.00
12 − 8
b. = −4 . This is a much smaller value than in part (a).
$2.00 − $3.00
c. We can calculate the price elasticity using the midpoint formula as follows:
12,000,000 − 8,000,000
Percentage change in quantity demanded = × 100 =
40%
10,000,000
$2.00 − $3.00
Percentage change in price = × 100 =
−40%
$2.50
40%
So, the price elasticity of demand = = −1
−40%
Notice that this value is significantly different from the ones calculated in parts (a) and (b).

1.2 For D1:

60 − 30
66.7%
45
$2 − $3
−40%
$2.5
66.7%
Elasticity = = −1.7
−40.0%
For D2:
40 − 30
28.6%
35
$2 − $3
−40%
$2.5
28.6%
Elasticity = = −0.7
−40.0%
1.3 Suppose Ford did cut the price by $1 from $440 to $439 and quantity demanded increased by
1,000 cars from 500,000 to 501,000. The midpoint price would be $439.50 and the midpoint quantity
would be 500,500. Then, the percentage change in quantity = (1,000/500,500) × 100% = 0.20%. The
percentage change in price = (–$1/$439.50) × 100% = –0.23%. The price elasticity of demand = 0.20%/–
0.23% = –0.87. If Ford’s belief about the responsiveness of the quantity demanded for the Model T to a
change in the price was accurate, then the demand for the Model T was price inelastic.
1.4 At a higher price, quantity demanded will decrease, so the total revenue (= price × quantity sold)
will still be less than the total cost. Only in the very unlikely case where the demand for the magazine is
perfectly inelastic would the publisher’s analysis be correct.
LO 6.2
2.1 Milk (a) and prescription medicine (d) are likely to be price inelastic due to lack of substitutes,
but frozen cheese pizza (b) and cola (c) are likely to be price elastic because they have good substitutes.
2.2 The more narrowly a market is defined the more elastic demand will be, because more substitutes
are available. The price elasticity of Coca-Cola (or any specific brand of pop) will be higher than for pop
as a product, because there are more substitutes available for a specific product like Coca-Cola than there
are for a product category like pop.
2.3 a. We can’t know with certainty from the information given whether in this case demand will be
elastic or inelastic. We can say, though, that with a normal downward-sloping demand curve,
the quantity demanded is lower at a price of $25 than at a price of $12. Along such demand
curves, elasticity is not constant at every point. When the price is high and the quantity
demanded is low, demand is more likely to be elastic. So we would expect the demand by
visitors in private, noncommercial vehicles to be elastic.
b. Once again, we can’t answer this question with certainty from the information given. But with
a normal downward-sloping demand curve, the quantity demanded is lower at a price of $25
than at a price of $12. Along such demand curves, elasticity is not constant at every point.

When the price is high and the quantity demanded is low, demand is more likely to be elastic.
So we would expect the demand by visitors in private, noncommercial vehicles to have the
largest price elasticity of demand. By similar reasoning, when the price is low and the quantity
demanded is high, the demand is more likely to be inelastic. So we would expect the demand
by visitors on foot, bikes, and skis to have the smallest price elasticity of demand.
LO 6.3
3.1 a. We can calculate the price elasticity along D1 between points A and C as follows:
300 − 200
40.0%
250
$2.50 − $3.00
−18.2%
$2.75
40.0%
So, the price elasticity of demand = = −2.2
−18.2%
Similarly, the price elasticity of demand along D2 between points A and B can be calculated as
follows:
225 − 200
11.8%
212.5
$2.50 − $3.00
−18.2%
$2.75
11.8%
So, the price elasticity of demand = = −0.65
−18.2%
Because the quantity response is much larger to the same price cut, demand curve D1 is much
more elastic.
b. Along D1, revenue increases from $3 × 200 = $600 to $2.50 × 300 = $750. Revenue rises by
$150 as the price is cut because this demand curve is elastic. Along D2, revenue falls from
$600 to $2.50 × 225 = $562.50. Revenue falls by $37.50 as the price is cut because D2 is
inelastic.
3.2 Manager 2 is wrong. Cutting the price will increase revenue if demand is price elastic. But notice
that Manager 1 is just as wrong to say “only” as Manager 2 was to say “never.” Manager 1 says the only
way to boost revenue is by cutting the price, but if demand is inelastic, then cutting the price will decrease
revenue, not increase it.
3.3 If an increase in price resulted in an increase in revenue, demand must have been price inelastic.
However, if the demand curve is linear, after some point demand will become elastic and increases in
price will result in decreases in revenue.
3.4 The situation described in the last sentence tells us that the demand for the book is price elastic. If
demand is price elastic, total revenue will fall as price rises because the percentage increase in price is not
large enough to make up for the percentage decrease in quantity demanded.

3.5 The paperback edition is a reasonably good substitute for the e-book edition. Publishers are
experimenting with the prices of e-books because they are relatively new products, which makes
estimating price elasticity difficult.
LO 6.4
4.1 To find the cross-price elasticity, divide the percentage change in the quantity demanded of buns
by the percentage change in the price of hot dogs. At the initial price of buns ($1.20), the quantity
demanded rises from 10,000 to 12,000, so this is the change in quantity demanded that should be used.
12,000 − 10,000
18.2%
11,000
$1.80 − $2.20
Percentage change in the price of hot dogs = × 100 =
−20.0%
$2.00
18.2%
So, the cross-price elasticity = = −0.91.
−20.0%
Because the cross-price elasticity of demand is negative, we know these two goods are complements.
4.2 (a) and (c) are substitutes, so the cross-price elasticities will be positive; (b) and (d) are
complements, so the cross-price elasticities will be negative.
4.3 Most likely order: (a) bread, (b) Pepsi, (d) laptop computers, (c) Mercedes-Benz automobiles. For
normal goods that are considered necessities (such as food and clothing), their income elasticity is
positive and less than 1. For normal goods that are considered luxuries (such as laptop computers and
Mercedes-Benz automobiles), their income elasticity is positive and greater than 1. The items are ranked
from most necessary to most luxurious.
4.4 Wine and spirits are probably substitutes so that the cross-price elasticity should be positive.
More people drink wine than drink spirits, partly because spirits have a higher alcohol content than wine.
As people’s incomes rise, they often increase their consumption of wine—and begin to buy more
expensive wines—while they are less likely to consume much more spirits.
4.5 During recessions, falling consumer incomes can cause firms selling luxury goods (goods with an
income elasticity of demand greater than 1) to experience the largest decline in sales. During recessions,
falling consumer incomes can cause firms selling inferior goods (goods with an income elasticity of
demand less than 0) to see their sales increase the most.
LO 6.5
5.1 a. Price elasicity of demand = Percentage change in quantity demanded

We can plug into the midpoint formula the values given for the price elasticity, the original
price of $1.15, and the new price of $1.85 (= $1.15 + $0.70):

Percentage change in quantity demanded

− 0.55 =
($1.85 − $1.15)
 $1.85 + $1.15 
 
 2 
Or rearranging, by writing out the expression for the percentage change in quantity demanded,
and solving for Q2, the new quantity demanded:
Q2 = 108.5 billion litres.
Because the price elasticity of demand for gasoline is very low (−0.55), a 60.1 percent increase
in price of gasoline leads to only about 22.5 percent decline in gasoline consumption per year.
b. The federal government would collect an amount equal to the tax per litre multiplied by the
number of litres sold: $0.30 per litre × 108.5 billion litres = $32.55 billion.
c. The answers are consistent to those in Solved Problem 6.5.
5.2 For the government policy to be effective, the demand for bribes must be elastic. The more elastic
the demand curve, the more effective the policy will be. On the graph, the burden of corruption before the
policy is enacted is represented by the area 0Q1AP1. The burden of corruption after the policy is enacted
has decreased and is represented by the area 0Q2BP2.
5.3 His reasoning is correct: Because the demand for kumquats is elastic, a price increase resulting
from the implementation of a price floor will decrease the revenue received by kumquat producers.
5.4 We measure the loss of efficiency by the deadweight loss. When demand is elastic, the
deadweight loss in the figure is A. When demand is inelastic, the deadweight loss is A + B. Therefore, the
loss of economic efficiency from a price ceiling is greater when demand is price inelastic.

LO 6.6
6.1 If the supply of oil becomes more elastic, it will intersect demand curve D2 (point C) at a price
lower than $140 (P2) and at a quantity higher than 84 million barrels per day (Q2).
6.2 To find price elasticity of supply from Figure 6.5, divide the percentage change in quantity
supplied by percentage change in price. In panel (a), the percentage change in quantity supplied =
1, 400 − 1, 200 $4 − $2
× 100 =15.4% , and the percentage change in price = × 100 =66.7% . So, the price
1,300 $3
15.4%
elasticity of supply = = 0.23. In panel (b), percentage change in quantity supplied =
66.7%
2,100 − 1, 200 $2.50 − $2.00
× 100 =54.5% , and the percentage change in price = × 100 =
22.2%. So, the
1,650 $2.25
54.5%
price elasticity of supply = = 2.45.
22.2%

6.3 This statement is correct. A longer period of time allows farmers to respond to an increase in
demand; for example, by planting more trees. This means that the supply curve is more elastic in the long
run so that the response in price to an increase in demand is lower in the long run.
6.4 The supply curve for lots of products will be inelastic if we measure it over a short period of time,
but the supply curve will be increasingly elastic the longer the period of time over which we measure it.
This applies also to resources including labour. Because it takes several years to train an engineer, in the
short run the supply of engineers would not change much. In the long run though, more students could be
recruited and trained as engineers.
Conversely, if there is a decrease in demand for lawyers, in the short run there will be a glut of lawyers. In
the long run though, fewer people will go to law school and the supply of lawyers will fall substantially.
6.5 a.
b. Based on this information, we don’t know much at all about the price elasticity of demand for
roses. The demand curve has shifted, so the rise in the quantity of roses demanded is not
caused by the rise in their price—and we can’t calculate the demand elasticity. We have a
movement along the supply curve, so we can calculate the price elasticity of supply for roses.
Supply elasticity = (Percentage change in quantity supplied)/(Percentage change in price) =
 30,000 − 8,000 
 19,000  1.158
 =  = 1.74.
 $2 − 1  0.667
 
 $1.50 
The fact that the elasticity doesn’t have a negative sign is a reminder that with an upward-
sloping supply curve, an increase in price leads to an increase in the quantity supplied. So, the
price elasticity of supply must be positive.

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Microeconomics Canadian 1st Edition

Hubbard Solutions Manual

 Price elasticity of demand is a measure of the responsiveness of the quantity demanded to

6.2 The Determinants of the Price Elasticity of Demand (pages 168–171)

6.4 Other Demand Elasticities (pages 175–177)

6.5 Using Elasticity to Analyze the Disappearing Family Farm

©2015 Pearson Canada Inc.

©2015 Pearson Canada Inc.

The Price Elasticity of Demand and Its Measurement (pages 162–168)

A. Measuring the Price Elasticity of Demand

Price elasticity of demand = Percentage change in quantity demanded .

B. Elastic Demand and Inelastic Demand

C. An Example of Computing Price Elasticities

D. The Midpoint Formula

Price elasticity of= (Q 2 − Q1) ( P 2 − P1) .

E. When Demand Curves Intersect, the Flatter Curve Is More Elastic

F. Polar Cases of Perfectly Elastic and Perfectly Inelastic Demand

©2015 Pearson Canada Inc.

©2015 Pearson Canada Inc.

©2015 Pearson Canada Inc.

The Determinants of the Price Elasticity of Demand (pages 168–171)

A. There are Five Determinants of the Price Elasticities of Demand

3. Luxuries versus Necessities

4. Definition of the Market

5. Share of a Good in a Consumer’s Budget

B. Some Estimated Price Elasticities of Demand

Extra Solved Problem 6.2

Paying Extra for the Chocolate You Want

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Solving the Problem

A. Elasticity and Revenue with a Linear Demand Curve

B. Estimating Price Elasticity of Demand

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Other Demand Elasticities (pages 175–177)

A. Cross-Price Elasticity of Demand

Percentage change in quantity demanded of one good .

B. Income Elasticity of Demand

Percentage change in quantity demanded .

Extra Solved Problem 6.4

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Solving the Problem

Percentage change in quantity demanded of one good .

The elasticity is positive, so subway and taxi rides are substitutes.

Percentage change in quantity demanded .

6.5 Using Elasticity to Analyze the Disappearing Family Farm

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Determinant Evaluation Relatively Elastic or

Extra Solved Problem 6.5

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Solving the Problem

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Step 3: Use the same method to answer part (b).

The Price Elasticity of Supply and Its Measurement (pages 180–184)

A. Measuring the Price Elasticity of Supply

Percentage change in quantity supplied .

©2015 Pearson Canada Inc.

B. Determinants of the Price Elasticity of Supply

C. Polar Cases of Perfectly Elastic and Perfectly Inelastic Supply

D. Using Price Elasticity of Supply to Predict Changes in Price

Extra Solved Problem 6.6

a. What is the value of the price elasticity of supply of lobster licences?

Solving the Problem

Percentage change in quantity supplied .