Answer:
a. Calculate the price elasticity of demand for Barney’s bagels.
0.4 price inelastic
b. Using the price elasticity of demand for Barney’s bagels, explain whether he should raise or lower the price to generate more revenue.
Barney should increase his prices in order to increase total revenue.
c. A bakery moves in across the street from Barney’s shop. Explain what is likely to happen to the price elasticity of demand for Barney’s bagels.
If a bakery moves in front of Barney's bagel place, then the PED of his product is probably going to increase. The higher the competition, the higher the PED. This means that any change in price will result in a higher proportional change in quantity demanded.
2) I do not agree with that statement. If the PED is price inelastic, then increasing the product's price will increase total revenue, but if the PED is price elastic, any small increase in price will result in a larger decrease in quantity demanded. If the PED is price inelastic, then any change in price will not alter total revenue.
Explanation:
The price elasticity of demand shows us how a 1% change in price will affect the quantity demanded of a product.
PED = % change in Q demanded / % change in price
% change in Q demanded = (275 - 250) / 250 = 10%
% change in price = (0.75 - 1) / 1 = -25%
PED = 0.1 / -0.25 = -0.4 or |0.4| in absolute terms
The PED for Barney's bagels is demand inelastic (PED < 1), therefore, a 1% change in price will result in a smaller proportional change in quantity demanded.
If Barney increases his price to $1.50 instead of lowering it, the quantity demanded will decrease only by:
% change in Q demanded = 0.5 change in price x 0.4 = 0.2 or 20% decrease
his total revenue will increase from $250 per hour to 200 x $1.50 = $300 per hour.
