Question 6: The immediate effect of gasoline price increases in the aftermath

of the Persian Gulf crisis in August 1990 on gasoline consumption was not
very significant. Would you expect the consumption of gasoline to be more
severely affected of these higher prices remained in effect for a year or more?
Why or why not?
Based on the law of demand define the typical relationship between the price and
quantity demands. Consumer would tend to purchase more when the price is low
and lesser when the price of gasoline is high. When the price of gasoline is
increases consumers would find their way to adjust to the price.
A factor to determine the demand elasticity is ease to find the substitution. As for this
case there is only little substitution for the gasoline in the short run. Since there is
less substitution for gasoline hence it would be considered is inelastic elasticity in
short run.
As for the long run, when the price of gasoline increase the demand of elasticity
would be more elastic as the consumer can adapt the over the increase of the price
for gasoline.
Instead of driving the consumer can take public transport when they go to work.
Consumer need some time to make the necessary changes. This could happen in
long run as this involve changing of habit or lifestyle of consumer.
Question 10: Would you expect to happen to spending on food at home and
spending on food in restaurants during a decline in economic activity? How
would income elasticity of demand help explain these changes?
Income elasticity of demand measures the relationship between a change in quantity
demanded for good X and a change in real income. The formula for calculating
income elasticity is: % change in demand divided by the % change in income
Income elasticity of demand explains these facts. In economic downturns, average
income falls thus spending power will decrease. Spending on restaurant meals is
more sensitive to changes in income than spending on food to be eaten at home.
Note that this is strictly a behavioral explanation. There is no psychological or
sociological change that drives this difference in consumption. Consumption of both
goods falls when incomes fall, so both are normal goods. But consumption of
restaurant meals is more income sensitive than consumption of food at home.
However it also depends on the price of food at the restaurant. Some restaurant
foods could be cheaper than food consumed at home. Even at home, if the income
rises, perhaps they would spent more on the food consumed at home, i.e: spending
more on the grocery items and so on.

Question 13: A local supermarket lower the price of its Vanilla ice cream from
$3.50 per half gallon to $3, Vanilla ice cream (unit) sales increase by 20%. The

store manager notice's that the (unit) sales of chocolate syrup increase by 10
percent.
a) What is the price elasticity coefficient of vanilla ice cream?
= 20%
= (p2-p1)/p1
= (3-3.5)/3.5
= - 0.142 = 0.142
Price Elasticity Of Demand (PED)
= 0.2/0.142
= 1.4
which is PED > 1 so its elastic
b) Why have the sales of chocolate syrup increased, and how would you
measure the effect?
They are complementary goods. The effect is measured by calculating the
cross elasticity of demand.
Cross Price Elasticity of Demand (CPED)
= xy = %Qx/%Py
= 10%/-0.14
= 0.10/-0.14
= - 0.7
c) Overall, do you think that the new price policy was beneficial for the
supermarket?
The new pricing policy is beneficial for the supermarket because 14% change
in price increase demand by 20% so the commodity is elastic.