Economics Review Questions and Answers

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Chapter 5 Learning Objectives

1. Explain the concept of price elasticity of demand and its calculation. The price elasticity of demand measures the responsiveness of quantity demanded to changes in price; it is calculated by dividing the percentage change in quantity demanded by the percentage change in price. 2. Explain what it means for demand to be price inelastic, unit price elastic, price elastic, perfectly price inelastic, and perfectly price elastic. Demand is price inelastic if the absolute value of the price elasticity of demand is less than 1; it is unit price elastic if the absolute value is equal to 1; and it is price elastic if the absolute value is greater than 1. Perfectly elastic is when price elasticity of demand is infinite. Perfectly inelastic is when price elasticity of demand is zero. 3. Explain how and why the value of the price elasticity of demand changes along a linear demand curve. Demand is price elastic in the upper half of any linear demand curve and price inelastic in the lower half. It is unit price elastic at the midpoint. When demand is price inelastic, total revenue moves in the direction of a price change. When demand is unit price elastic, total revenue does not change in response to a price change. When demand is price elastic, total revenue moves in the direction of a quantity change. 4. Understand the relationship between total revenue and price elasticity of demand. 5. Discuss the determinants of price elasticity of demand. Availability of substitutes, importance in household budgets, and time. 6. Explain the concept of income elasticity of demand and its calculation. The income elasticity of demand reflects the responsiveness of demand to changes in income. It is the percentage change in quantity demanded at a specific price divided by the percentage change in income, ceteris paribus. 7. Classify goods as normal or inferior depending on their income elasticity of...
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