Question

Suppose that ABC Beer Brewer faces a linear demand curve and that the current price for its beer is set at a point where the price elasticity is 1.60. If ABC Beer Brewer increases the product price:
A) the demand becomes more elastic and total revenue increases.
B) the demand becomes less elastic and total revenue increases.
C) the demand becomes less elastic and total revenue decreases.
D) the demand becomes more elastic and total revenue decreases.
E) the demand becomes more elastic and total revenue remains the same.

Answer 1

Answer: D) the demand becomes more elastic and total revenue decreases.

Explanation:

When elasticity is greater than 1, it means that a change in price will lead to an even greater change in quantity demanded which means that demand becomes more elastic. An elasticity of 1.60 can be taken to mean that when the price increased by $1, the quantity demanded for the beer reduced by 160%.

This would decrease total revenue because the decrease in quantity demanded will be too much for the price increase to help in revenue being recouped. This is the general case when price elasticity is greater than 1.