Chapter 3

Demand Analysis
Solutions to Exercises
1. With more rural households, Canadian demand for gasoline maybe less price sensitive than U.S. demand where urbanities are offered more mass transit alternatives. 2. %ΔQ = −20 %ΔP = +5 %ΔY = −2 %ΔPgas = +20 a. %ΔQ = 1.5(−2%) = −3% b. %ΔQ = −0.3(20%) = −6% c. −20% = 1.5(−2%) + (−0.3)(20%) + (ED)(5%) ED = −2.2 EY = 1.5

EX = −0.3

3. a. ED = [(450 − 525)/(450+525)]/[(8000 − 7200)/(8000+7200)] ED = −1.46

b. EY = [(400 − 450)/(400+450)]/[(590 −610)/(590+610)] EY = 3.53 c. EY = 3.53 = [(Q2 − 400)/(Q2+400)]/[(630 − 590)/(630+590)] Q2 = 505 airplanes d. %ΔQP = ED(%ΔP) = −1.46 [(8500 − 8000)/(8500+8000)/2](100) = -8.85% %ΔQY = EY (%ΔY) = 3.53 [(630 −590)/(630+590)/2](100) = +23.15

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Chapter 3/Demand Analysis Net effect = %ΔQP + %ΔQY = −8.85% + 23.15% = 14.3%

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Using the average quantity [(Q2 + Q1)/2] as the base in computing the percentage change yields: %ΔQ = 14.3% = [(Q2 − 400)/(Q2 + 400)/2](100) Q2 = 461.6 airplanes

Using the initial quantity (Q1 = 400) as the base in computing the percentage change yields: Q2 = Q1(1 + net effect) = 400(1 + 0.143) = 457.2 airplanes Note that these two alternative solutions differ by less than 1 percent. 4. New demand = 100% + .04(−1.5)(100%) + .11(.6)(100) = 100.6% Total revenue will increase since both price and quantity are increased. The effect on profits is indeterminate, since we don't know the amount of advertising or the shape of the firm's cost function. 5. a. It assumed that demand was highly inelastic⎯that is, the increase in the price of the plates would not be offset by an equally large decrease in the quantity of plates sold. b. ED = [(56000 −