1. The price elasticity of demand for food is negative. The demand for food is inelastic. A higher
food price raises spending on food. Higher food prices imply less is spent on all other goods.
The quantity demanded of each of these other goods falls.
A. Analyse each of these statements and discuss whether they are all correct. [15]
The price elasticity of demand for food is negative.
Price elasticity of demand will forever be negative because the demand curve is leftward sloping
and has a negative gradient. The PED of food in general would be low because no substitutes
exist. Price elasticity for foods ranged from 0.27 to 0.81. If a product’s price increases meaning
the denominator is positive, it consumption will diminish, meaning the numerator will be
negative. With their up-sloping demand curves, Giffin and Veblen goods only will have a
positive price elasticity of demand.
1. The demand for food is inelastic.
Inelasticity is when a price does not respond with the price of another product. So its mean that
demand for a good is inelastic when a change in price has a very low impact on the quantity of
the good demanded. Food is a necessity, the demand for food will always exist because there are
no substitutes and thus, a modification in price will have no effect in demand. Therefore the
market is relatively price inelastic with a near vertical demand.
2. Higher food price raises spending on food.
Certain products have a positive relationship, usually luxury goods that are brought as status
indication. It has an up-sloping demand curves and a positive price elasticity of demand. Price
elasticity that is positive is rare. The most relevant example of a product with positive price
elasticity is caviar. The consumers of caviar are usually very rich who have the conviction that
the higher the price for caviar is, the better it must be. Higher price means higher quality;
whatever the price will be, people will rush and buy the food.
1|Page
, 3. Higher food prices imply less is spent on all other goods.
Cross price elasticity calculates the responsiveness of the demand for one product to a change in
price of another (Petersen, 2005 ). Cross price elasticity can be negative, positive or zero,
depending on whether the rise of the price of one product result to a decrease in the quantity
demanded of another good, it said to be complements, an increase in the quantity demanded of
another good, is said to be substitutes or does not have any impact on the quantity demanded of
another good that mean the goods are unrelated.
4. The quantity demanded of each of these other goods falls.
A small change in demand of a product when there are several prices changes is said to be
beinelastic. The most relevant example of relatively inelastic demand is that for gasoline. Even if
the price of gasoline rises, the quantity demanded doesn't decrease significantly. This is because
there are very few substitutes for gasoline and consumers are still willing to buy it even at
relatively high prices and they don't take into consideration the price given to the product.
b. The different concepts of elasticity of demand are of utmost importance both to firms and to
the government. Using relevant examples and cases, analyse the importance of the different
concepts of elasticity. [15]
The concept of elasticity of demand plays a vital role in the pricing decisions of the business
firms and the Government when it decides pricing. The concept of elasticity is also important in
judging the effect of devaluation of a currency on its export earnings. It has also a great use in
fiscal policy because the Finance Minister has to keep in view the elasticity of demand when it
considers imposing taxes on various commodities. Below are the various uses, applications and
importance of the elasticity of demand.
2|Page
, 1. Pricing decisions:
The business firms take into consideration the elasticity of demand when they take decisions
regarding pricing of products. This is because change in the price of a product will bring about a
change in the quantity demanded depending upon the coefficient of elasticity. This change in
quantity demanded will lead to a rise in price by a firm that will affect the total consumers’
expenditure and will, therefore, affect the revenues of the firm. As example, the demand for a
product is elastic, and any increase in the product price by the firm will bring about the fall in its
total earnings.
2. Price Regulation:
This price regulation is mainly use and involves the increase in the prices of the farm products,
and this is done with the expectation that the demand for the farm products is inelastic. By
restricting the supply in the market, Government succeeds in raising the price for the farm
products. The demand for these products being inelastic, the quantity demanded does not fall
very much and as a result the expenditure of the consumers on firm products increases, which
raises the incomes of the agricultural class. For example, if demands for farm products were
elastic, any rise in their price brought about by Governments restricted supply of them, would
have caused the decrease in the incomes of the agricultural class.
3. Use in international trade:
The concept of elasticity of demand plays a crucial role in the field of international economics.
The effect of the devaluation is to raise the price of the imported goods and to lower the prices of
the exports. Example, if the demand for a country’s exports is inelastic, the fall in the prices of
exports as a result of devaluation will lower their foreign exchange earnings rather than
increasing them. if the demand for a country’s exports is elastic, then the fall in the prices of
these exports due to devaluation will bring about a large increase in their quantity demanded
which will increase the foreign exchange earnings of the country and will help in solving the
balance of payments problem.
3|Page
food price raises spending on food. Higher food prices imply less is spent on all other goods.
The quantity demanded of each of these other goods falls.
A. Analyse each of these statements and discuss whether they are all correct. [15]
The price elasticity of demand for food is negative.
Price elasticity of demand will forever be negative because the demand curve is leftward sloping
and has a negative gradient. The PED of food in general would be low because no substitutes
exist. Price elasticity for foods ranged from 0.27 to 0.81. If a product’s price increases meaning
the denominator is positive, it consumption will diminish, meaning the numerator will be
negative. With their up-sloping demand curves, Giffin and Veblen goods only will have a
positive price elasticity of demand.
1. The demand for food is inelastic.
Inelasticity is when a price does not respond with the price of another product. So its mean that
demand for a good is inelastic when a change in price has a very low impact on the quantity of
the good demanded. Food is a necessity, the demand for food will always exist because there are
no substitutes and thus, a modification in price will have no effect in demand. Therefore the
market is relatively price inelastic with a near vertical demand.
2. Higher food price raises spending on food.
Certain products have a positive relationship, usually luxury goods that are brought as status
indication. It has an up-sloping demand curves and a positive price elasticity of demand. Price
elasticity that is positive is rare. The most relevant example of a product with positive price
elasticity is caviar. The consumers of caviar are usually very rich who have the conviction that
the higher the price for caviar is, the better it must be. Higher price means higher quality;
whatever the price will be, people will rush and buy the food.
1|Page
, 3. Higher food prices imply less is spent on all other goods.
Cross price elasticity calculates the responsiveness of the demand for one product to a change in
price of another (Petersen, 2005 ). Cross price elasticity can be negative, positive or zero,
depending on whether the rise of the price of one product result to a decrease in the quantity
demanded of another good, it said to be complements, an increase in the quantity demanded of
another good, is said to be substitutes or does not have any impact on the quantity demanded of
another good that mean the goods are unrelated.
4. The quantity demanded of each of these other goods falls.
A small change in demand of a product when there are several prices changes is said to be
beinelastic. The most relevant example of relatively inelastic demand is that for gasoline. Even if
the price of gasoline rises, the quantity demanded doesn't decrease significantly. This is because
there are very few substitutes for gasoline and consumers are still willing to buy it even at
relatively high prices and they don't take into consideration the price given to the product.
b. The different concepts of elasticity of demand are of utmost importance both to firms and to
the government. Using relevant examples and cases, analyse the importance of the different
concepts of elasticity. [15]
The concept of elasticity of demand plays a vital role in the pricing decisions of the business
firms and the Government when it decides pricing. The concept of elasticity is also important in
judging the effect of devaluation of a currency on its export earnings. It has also a great use in
fiscal policy because the Finance Minister has to keep in view the elasticity of demand when it
considers imposing taxes on various commodities. Below are the various uses, applications and
importance of the elasticity of demand.
2|Page
, 1. Pricing decisions:
The business firms take into consideration the elasticity of demand when they take decisions
regarding pricing of products. This is because change in the price of a product will bring about a
change in the quantity demanded depending upon the coefficient of elasticity. This change in
quantity demanded will lead to a rise in price by a firm that will affect the total consumers’
expenditure and will, therefore, affect the revenues of the firm. As example, the demand for a
product is elastic, and any increase in the product price by the firm will bring about the fall in its
total earnings.
2. Price Regulation:
This price regulation is mainly use and involves the increase in the prices of the farm products,
and this is done with the expectation that the demand for the farm products is inelastic. By
restricting the supply in the market, Government succeeds in raising the price for the farm
products. The demand for these products being inelastic, the quantity demanded does not fall
very much and as a result the expenditure of the consumers on firm products increases, which
raises the incomes of the agricultural class. For example, if demands for farm products were
elastic, any rise in their price brought about by Governments restricted supply of them, would
have caused the decrease in the incomes of the agricultural class.
3. Use in international trade:
The concept of elasticity of demand plays a crucial role in the field of international economics.
The effect of the devaluation is to raise the price of the imported goods and to lower the prices of
the exports. Example, if the demand for a country’s exports is inelastic, the fall in the prices of
exports as a result of devaluation will lower their foreign exchange earnings rather than
increasing them. if the demand for a country’s exports is elastic, then the fall in the prices of
these exports due to devaluation will bring about a large increase in their quantity demanded
which will increase the foreign exchange earnings of the country and will help in solving the
balance of payments problem.
3|Page
