Question

Suppose price elasticity of demand for a good is -0.2. How will the expenditure on the good be affected if there is a 10% increase in the price of the good?

Solution

eD equals fraction numerator % Change space in space demand space over denominator % space Change space in space price end fraction minus 0.2 equals fraction numerator % space Change space in space demand over denominator 10 end fraction

% change in demand = -0.2 × 10 = -2

According to the expenditure method if % change in demand (here 2%) is less than % change in price (10%) (i.e., if good is price inelastic) expenditure on good will change in the direction of price change. As price has increased, so expenditure in good will increase.

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