The maker of a leading brand of low-calorie microwavable food estimated the foll
ID: 1216103 • Letter: T
Question
The maker of a leading brand of low-calorie microwavable food estimated the following demand equation for its product using data from 26 supermarkets around the country for the month of April: Q = -5.200 - 42P + 20Px + 5.2l + 0.20A + 0.25V (2.002) (17.5) (6.2) (2 5) (0.09) (0.21) R^2 = 0.55 n = 26 F = 4.88 Assume the following values for the independent variables Q = Quantity sold per month P (in cents) = Price of the product = 500 Px (in cents) = Price of leading competitor's product = 600 l (in dollars) = Per capita income of the standard metropolitan statistical area (SMSA) in which the supermarket a located = 5.500 A (in dollars) = Monthly advertising expenditure = 10.000 M = Number of microwave ovens sold in the SMSA in which the supermarket is located = 5,000 Calculate the quantity using the given values for the independent variables. Refer to question 1 Calculate the price elasticity of demand Based on the price elasticity of demand, do you think that this firm should cut its price to increase as market share? No, demand is inelastic so cutting price would reduce revenue. No, demand a elastic so cutting price would reduce revenue Yes, demand is inelastic so cutting price would increase revenue. Yes, demand is elastic so cutting price would increase revenue. Using the information in question 1, compute the income elasticity. Based on the price elasticity of income, do you think that this company would be extremely concerned about the impact of a recession on its sales? Yes, income elasticity is relatively high, so a recession (with lower income) would likely reduce sales. Yes, income elasticity is relatively low, so a recession (with lower income) wouldExplanation / Answer
(1) & (2) - Your answers are correct.
(3)
Absolute value of price elasticity of demand is higher than 1, so demand is elastic. With elastic demand, a price cut will increase revenue.
(4) Income elasticity = (dQ / dI) x (I / Q)
= 5.2 x (5,500 / 17,650) = 1.62
(5) Since elasticity is higher than 1, an 1% decrease in income will reduce sales by 1.62%. So, a recession will likely reduce sales.
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