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Application of elasticity concepts

Think of a good that you have purchased recently. Be specific (e.g. is it breakfast cereal in general or Cheerios cereal specifically).

1. If the price of this item increases, how would this affect the quantity of the good that you consume?

2. Is the demand for this good price elastic or price inelastic? Justify your classification by talking about the determinants of elasticity as they apply to this product.

3. Say price is on the rise for this product and you are the manager of a store, would you be thrilled to be selling this product? Under what circumstances would you want to own a business that sells this product? In other words, how does an increase in price for this good affect your Total Revenue?

4. Using specific examples, relate the concepts of Cross Elasticity and Income Elasticity to this product.

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Solution Preview

Suppose I bought Cheerios cereal for breakfast.

1. If the price of Cheerios cereal increases, I can always find cereals of others brands that are cheaper or any other cheaper option for breakfast. So, quantity of consumption of this good is expected to decrease due to an increase in price.

2. Demand for Cheerios cereal is price elastic. This is because of the following facts:

a. There are plenty of close substitutes available in the market for this product. A product which has many close substitutes tends to be price elastic. In case of increase in price of such good, consumers can easily switch over to other cheaper substitutes available in the market. In the case of a product that does not have many close substitutes available, consumers do not option to switch over to other substitutes. That is why products with lesser substitutes tend to be price inelastic. Cheerios cereal has many competing brands in the market which are close ...

Solution Summary

Solution discusses the demand behavior of a particular product in the light of elasticity concepts.