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Managerial Economics Questions: Arc Elasticity


Company XYZ Sells Drums Sets. At a price of $600 per set, they sold 500 Sets per month. The new manager decided that the company needed more revenue so she increased the price to $700 per set. However the company is now selling only 200 drum sets per month at the new price.


1.What is the arc price elasticity for this product? Show work with results.

2.What do you recommend for the price of this product; stay at $700 or change higher or lower?

3.What additional information would be useful in the pricing decision?

4. What would be your recommendation for setting up a model to forecast future demand for this product?


Solution Preview

P1 = $600
Q1 = 500
P2 = $700
Q2 = 200

The formula for arc elasticity uses the midpoint between the two known points on the Demand curve.

Ed = ((Q2-Q1)/(Q1+Q2)/2)/((P2-P1)/(P1+P2)/2)

Substituting the known ...

Solution Summary

This solution works out a concrete example of how to calculate the arc elasticity of demand for a product, and then to use that information to make pricing decisions.