Costs and Marks

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Question 1:

(a) Suppose the income elasticity of demand for pre-recorded music compact disks is +5 and the income elasticity of demand for a cabinet maker’s work is +0.5. Compare the impact on pre-recorded music compact disks and the cabinet maker’s work of a recession that reduces consumer incomes by 10 per cent. (2 marks)

(b) How might you determine whether the pre-recorded music compact discs and MP3 music players are in competition with each other? (2 marks)

(c) Interpret the following Income Elasticities of Demand (YED) values for the following and state if the good is normal or inferior; (3 marks total, 1.5 marks per part) YED= +0.7
YED= -3.4

(d)Interpret the following Cross-Price Elasticities of Demand (XED) and explain the relationship between these goods. (3 marks total, 1.5 marks per part) XED= + 0.75
XED= -2.5

Answer
(a)Definition of income elasticity of demand is percentage change in quantity demanded,divided by percentage change in income. Conditions: Elasticity coefficient possibilities EI>0 OR Ei<0, terminology is to identify normal good or inferior good. Since income elasticity of demand for CD is +5,which >1 it should be a normal product. While income elasticity of demand for cabinet is +0.5 which <1 ,but >0,it should be a normal good as well. During a recession, income reduce, so the Demand for CD reduce ,if demand of CD reduce by 50%, then the demand for cabinet reduce 5%.CD might be considered as a luxury good, and cabinet still is a necessity good during the recession.

(b)Definition of cross-elasticity of demand is percentage change in quantity demanded of one good,divided by percentage change in price of another good. Conditions: Elasticity coefficient possibilities Ec>0 or Ec<0. Terminology is to identify complements or substitutes goods. Assume the CD and MP3 music player are substitute goods. An increase demand of one good, cause an decrease demand for the other good. This means when people buy CDs, they would not use MP3 players, and when people buy mp3 players, they have no demand for CDs.

(c) YED= +0.7 the demand response to income changes appear as a positive relations, this is an normal good. Inelastic because <1, YED= -3.4 the demand response to income changes appear as a negative relations, this a inferior good. Elastic because <-1

(d) XED= + 0.75 this represent the demand changes response of this good as the price of the other good changes, Inelastic because the real absolute value is<1.0, substitute good because the demand increase as the price of the other good increase. XED= -2.5 Elastic because the real absolute value is>1.0 ,these are complementary goods because the demand for the good decreases as the price of other good increase.

Question 2:
You are given the following data about two firms:
FIRM A
Quantity| 0| | 1| | 2| | 3| | 4| | 5| | 6| Total revenue ($)| 0| | 10| | 20| | 30| | 40| | 50| | 60| Average revenue ($)| _10| | _10| | _10| | _10| | _10| | _10| | _10| Marginal revenue ($)| | _10| | _10| | _10| | _10| | _10| | _10| | Total cost ($)| 30| | 42| | 50| | 60| | 76| | 100| | 140| Marginal cost ($)| | 12| | 8| | 10| | 16_| | 24_| | 40_| | Average cost ($)| | | 42_| | 25_| | 20 | | 19_| | 20_| | 23.3_|

FIRM B
Quantity| 0| | 1| | 2| | 3| | 4| | 5| | 6| Total cost ($)...
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