The total operating revenues of a public transportation authority are $100 milli

Question

The total operating revenues of a public transportation authority are $100 million while its total operating costs are $120 million. The price of a ride is $1 and the price elasticity of demand for public transportation has been estimated to be -0.4. By law, the public transportation authority must take steps to eliminiate its operating deficit.

(a) is asking whether the transportation authority should increase or decrease the price per ride based upon the price elasticity of demand.

(b) Suggestion – increase the price of a ride from $1 to be $1.50, a 50% increase in price. Given the price elasticity of demand of -0.4, calculate the percentage change in the ride and the total new rides (the original rides are 100 million = $100 million/$1). Then use the total new rides time the new price of $1.50 to obtain the new total revenue.

Explanation / Answer

Operating deficit= operating costs-operating revenue

=120-100

=$20million

deficit per ride will be=$0.20

=$20million

(a)Now, since the Ed is less than 1, the change in price would have no or least effect on the demand for the commodity.

(b) the original number of rides or demand for rides =100/1 (operating revenue/price per ride)

original price=$1

Change in price =$0.5

Ed=(change in demand /change in price)*(original price/original demand for rides)

=(change in demand/0.5)*(1/100)=0.4

change in demand =20 rides less because the price has risen

which means that new rides will be 80 million

The new revenue will be =80*1.5=$120million

the transportation authority will now be running transport with no profit noloss

That means that all operating costs will be covered when the price of a ride increases from $1 to $1.5

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