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A Consumer Spends Rs 60 on a Good Priced at Rs 5 per Unit. When Price Rises by 20 Percent, the Consumer Continues to Spend Rs 60 on the Good. Calculate the Price Elasticity of Demand by Percentage Method. - Economics

A consumer spends Rs 60 on a good priced at Rs 5 per unit. When price rises by 20 percent, the consumer continues to spend Rs 60 on the good. Calculate the price elasticity of demand by percentage method.

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Solution

Given that

Actual Total Expenditure (TE0) Rs 60

Final Total Expenditure (TE1) Rs 60

Actual Price (P0) Rs 5

Percentage change in price = -20%

Percentage change in price = `(P_1 - P_0)/P_0 xx 100`

`-20 = (P_1 - 5)/5 xx 100`

`- 100/100 = P_1 - 5`

`P_1 = 4`

Price (P) Total Expenditure (TE) = Price (P) × Quantity (Q) Quantity (Q) = `"TE"/P``
P0 = Rs 5 TE0 = Rs 60 Q0 = 1
P1 = Rs 4 TE1 = Rs 60 Q1= 15

Therefore,

Ed = (-) `"Percentage change in quantity demanded"/"Percentage change in price"`

Ed = (-) `("Changeindemand"/"Actualdemand" xx 100)/(-20)`

Ed = `((Q_1 -Q_0)/Q_0 xx 100)/(-20)`

Ed = (-) `((15 - 12)/12 xx 100)/(-20)`

Ed = (-) `25/(-20)`

∴ Ed 1.25

Thus, the price elasticity of demand is 1.25

 

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