The next two questions will deal with the market for a particular type of pharma

Question

The next two questions will deal with the market for a particular type of pharmaceutical used to treat migraine headaches. When the drug sells for $80 per one-month supply, 10,000 units are sold. When the drug sells for $50 per one-month supply, 12,000 units are sold. Calculate arc price elasticity of demand, given this information. Be sure to carefully follow all numeric directions; round intermediate steps to four decimal places and your final answer to two.

Consider again the market for the pharmaceutical described in the previous question. From the information given and our calculations, we can see that demand is relatively ________ in this case, so that increasing the price would tend to cause total revenue to __________.

Explanation / Answer

Arc elasticity of demand calculates the elasticity between two points on a curve.

Here price decreases from $80 to $50 and quantity increases from 10,000 to 12,000 units.

we should use the mid point between  $80 to $50 that is 65 and between 10,000 to 12,000 that is 11,000 to calculate the Arc elasticity of demand.

Now,

The % change in quantity=change in quantity/average of quantity

that is = 2000/11000 = 2/11

The % change in price = change in price/average of price

that is = -30/130 = - 3/13

so the Arc elasticity of demand = (2/11) * (-13/3) = - 26/33 = - 0.7878

so demand is relatively inelastic because Arc elasticity of demand is negative.

When price = $50 then revenue is $600000

price increases from $50 to $80 then revenue is $800000

so as price increases, total revenue is also increases.

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