Question

A firm learns that the own price elasticity of a product it manufactures is 3.5. What would be the correct

action for this firm to take if it wishes to raise its total revenue?​

Answer 1

Answer:

Explanation:

The firm's own price elasticity of demand is defined as follows:

Ed = % change in quantity demanded/quantity demanded * price of the product/%change in the price of product

=ΔQ/Q * P/ΔP

It is known that the price elasticity is 3.5.

Now, if the firm wishes to raise its total revenue

We saw that with a price increase, revenue tends to rise due to the greater price paid per unit sold, but tends to fall due to the reduced number of units sold. Whether revenue actually increases or decreases, depends on which effect is stronger. The overall effect on revenue from an increase or decrease in price depends on demand elasticity. If demand is inelastic, regardless of which way price changes, we know that %Q < %P, and if demand is elastic %Q > %P.

  In this question, elasticity is 3.5; meaning that demand is elastic. Specifically, it means that %Q = -3.5 x %P; or a percentage change in price leads to a percentage change in quantity 3.5 times greater, in the opposite direction.

This means that if the firm lowers price, quantity sold will increase a great deal, causing revenue to increase.

Therefore, the firm should reduce its product price.

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