Question

Month Income Price Coke Price Pepsi Q^D Coke Q^D Pepsi

Answer 1

Answer:

midpoint method for income elasticity of demand = {ΔQD / [(QD₀ + QD₁)/2]} / {ΔI / [(I₀ + I₁)/2]}

midpoint method for price elasticity of demand = {ΔQD / [(QD₀ + QD₁)/2]} / {ΔP / [(P₀ + P₁)/2]}

a) I will use the information from January and February to calculate the price elasticity of demand of Coke. I cannot use March instead of January because income increased during that month.

QD₀ = 14

QD₁ = 10

P₀ = 2.40

P₁ = 3

PED = {(10 - 14) / [(14 + 10)/2]} / {(3 - 2.4) / [(3 + 2.4)/2]}

PED = {-4 / 12} / {0.6 / 2.7} = -0.3333 / 0.2222 = -1.5 or |1.5| in absolute terms

Coke's PED is elastic since a 1% change in price will result in a larger proportional change in the quantity demanded.

b) I will use the information from January and March to calculate the income elasticity of demand of Coke. These are the two months where income changes but price of Coke remains the same.

QD₀ = 14

QD₁ = 20

I₀ = 300

I₁ = 500

PED = {(20 - 14) / [(14 + 20)/2]} / {(500 - 300) / [(300 + 500)/2]}

PED = {6 / 17} / {200 / 400} = 0.3529 / 0.5 = 0.71

Coke's IED is positive, therefore, Coke is a normal good.