233. Elasticity

1.Suppose that you  are appointed as the Chief Executive Officer of Spoornet at a time when it is making a loss on passenger transport. You are informed that the price elasticity of passenger rail services is 1.4. What pricing strategy would you follow in your attempt to restore profitability at Spoornet?

Firstly you would explain what is meant by the price elasticity of demand:

See the formula:

Secondly you need to explain what it means – for example:

For example, if the quantity demanded for a good increases 15% in response to a 10% decrease in price, the price elasticity of demand would be 15% / 10% = 1.5. The degree to which the quantity demanded for a good changes in response to a change in price can be influenced by a number of factors.

Thirdly you would indicate the relationship between elasticity  and income.

This is best explained by the graph on page 109 of the TEXTBOOK. (Mohr and Associates – 5^th Edition) – have you got it?

It is also on page 63 in the study guide.

Have a look at it and tell me if you can see that when the elasticity is >1 one has to lower the price to increase income?

So one needs to lower the price in Q1.

See if you now can answer Q2.

1.Suppose that you  are appointed as the Chief Executive Officer of Spoornet at a time when it is making a loss on passenger transport. You are informed that the price elasticity of passenger rail services is 1.4. What pricing strategy would you follow in your attempt to restore profitability at Spoornet?

2.Assuming you are still the CEO of Spoornet. Analysts have determined that the price elasticity of 1.4 is a weighted average figure. During peak hours in the morning and evening the price elasticity of demand is 0.8 and during the rest of the day it is 2.6. How would this information affect your pricing strategy?

3. If you were the Finance Minister and you wanted to raise revenue by taxing a specific good, would you tax a good of which the price elasticity of demand is high or one of which the price elasticity of demand is low? Explain