Unit 5 Assignment: Elasticity of Demand and Consumer Surplus

This assignment focuses on calculating the Price Elasticity of Demand, understanding consumer choices based on marginal utilities, consumer surplus, and how buying choices and consumer surplus change based on various pricing schemes.

Unit 5 AB224 | Microeconomics
Unit 5 Assignment: Elasticity of Demand and
Consumer Surplus
Name:
Course Number and Section: AB224–0X
Date:
General Instructions for all Assignments
1. Unless specified differently by your course instructor, save this assignment template
to your computer with the following file naming format: Course number_section
number_Last_First_unit number
2. At the top of the template, insert the appropriate information: Your Name, Course
Number and Section, and the Date
3. Insert your answers below, or in the appropriate space provided for in the question.
Your answers should follow APA format with citations to your sources and, at the
bottom of your last page, a list of references. Your answers should also be in Standard
English with correct spelling, punctuation, grammar, and style (double spaced, in Times
New Roman, 12–point, and black font). Respond to questions in a thorough manner,
providing specific examples of concepts, topics, definitions, and other elements asked
for in the questions.
4. Upload the completed Assignment to the appropriate Dropbox.
5. Any questions about the Assignment, or format questions, should be directed to your
course instructor.
Assignment
In this Assignment, you will calculate the Price Elasticity of Demand, demonstrate a firm
understanding of consumer choices based on differing marginal utilities, consumer
surplus, and how the buying choice and amount of consumer surplus changes based on
various pricing schemes.
In this Assignment, you will be assessed on the following outcome:
AB224-5: Demonstrate how the concept of utility affects purchasing decisions by
individuals and consumer surplus.
v.6.16.17 Page 1 of 10

Unit 5 AB224 | Microeconomics
Questions
1. The accompanying table shows the price and monthly demand for barrels of gosum
berries in Gondwanaland.
Price of
gosum
berries
per
barrel
Native
Demand
for
gosum
berries
per
month
$100 0
$90 100
$80 200
$70 300
$60 400
$50 500
$40 600
$30 700
$20 800
$10 900
$0 1000
a. Using the midpoint method (show your work), calculate the price elasticity of
demand when the price of barrel of gosum berries rises from $10 to $20. What
does this estimate imply about the price elasticity of demand of gosum berries?
As price increases from $10 to $20, the demand for gosum berries decreases from
900 to 800
Price elastity of demand= Percentage change∈ quantity demand
Percentage change∈ price
¿ Δ Q
Δ P × Paverage
Qaverage
v.6.16.17 Page 2 of 10

Unit 5 AB224 | Microeconomics
¿ Q2−Q1
P2−P1
×
P1 +P2
2
Q1 +Q2
2
800−900
20−10 ×
10+20
2
900+800
2
¿ 100
−10 × 10
850
¿−10 ×0.0176
¿−0.176 −0.18
b. Using the midpoint method (show your work), calculate the price elasticity of
demand when the price of barrel of gosum berries rises from $70 to $80. What
does this estimate imply about the price elasticity of demand of gosum berries?
As price increases from $70 to $80, the demand for gosum berries decreases from
300 to 200
Price elastity of demand= Percentage change∈ quantity demand
Percentage change∈ price
¿ Δ Q
Δ P × Paverage
Qaverage
¿ Q2−Q1
P2−P1
×
P1 +P2
2
Q1 +Q2
2
200−300
80−70 ×
70+80
2
300+200
2
¿ 100
−10 × 75
250
¿−10 ×0.3000
¿−3
v.6.16.17 Page 3 of 10

Unit 5 AB224 | Microeconomics
c. Notice that the estimates from (a) and (b) above are different. Why do price
elasticity of demand estimates change along the demand curve?
Price elasticity is a measure of percentage change in nominal price and quantity, at different points of
the demand curve elasticity differs. At a higher price, small change in price is a small percentage of the
high price (McKenzie & Lee, 2016). A small change in quantity at this point however is a larger
percentage of exiting small quantity, resulting in a higher elasticity of demand. Reverse is the case at the
lower price. Here, price change seems to be very larger relative to quantity changes resulting in an
inelastic demand. This is the reason why elasticity is relatively smaller when price increases from $10 to
$20 compared to the situation where price increases from $70 to $80.
2. Matilda is downloading music and videos from an online site. She is currently buying
three music downloads that cost $3 each and two video downloads that also cost $3
each. The table below indicates what she reports as the marginal utility of the last
music download and of the last video download in this combination of purchases.
Quantity Price per
Download
MU per download
Music downloads 3 $3 60
Video downloads 2 $3 45
As an assignment for her Microeconomics course, Matilda used the marginal utilities
that she gave to her 3rd music download and her 2nd video download to complete the
Experiment Tally Sheet below.
v.6.16.17 Page 4 of 10

Unit 5 AB224 | Microeconomics
a. A consumer maximizes utility when the last dollar spent on any good generates
the same satisfaction as the last dollar spent on every other good. Is Matilda
maximizing her utility? Explain your answer.
A consumer attains maximum utility when marginal utility obtained from last dollar
spent is same for all the good (Nguyen & Wait, 2015). The marginal utility for Music download
is 60 and price is $3. The marginal utility from last dollar spent on music download is therefore
(60/3) = 20. The marginal utility for Video download is 45 and price is $3. The marginal utility
from last dollar spent on Video download is therefore (45/3) = 15. As the marginal utility per
dollar between music download and video download are not same, Matilda is not maximizing
utility.
b. Should Matilda consume one more video download, to move her closer to her
optimum utility? Explain your answer.
The marginal utility obtain per dollar for video download is 15. This is less than the
corresponding marginal utility received from music download. Consuming one additional video
download will further reduce marginal utility from video download. Therefore, consuming one
more video download does not move Matilda closer to the optimum utility even though she is
closer to exhausting all her budget.
c. Should Matilda consume one less music download and one more video
download, to move her closer to her optimum utility? Explain your answer.
Consuming one less music download increase marginal utility from music download
while Consuming one less video downloads will further lower the marginal utility from video
download. This will create further divergence between music download and video download.
Neither the marginal utility between two items equalize nor the decision leads closer to
spending all her budget. Therefore, consumption of one less music download and one extra
video download will not move Matilda closer to her optimum utility.
d. Should Matilda consume one more music download, to move her closer to her
optimum utility? Explain your answer.
One more music download will lower marginal utility from the additional unit reducing
the difference of marginal utility from last dollar spent between music download and video
download (Cowell, 2018). This moves her closer to optimal utility and exhaust almost all here
budget.
v.6.16.17 Page 5 of 10

Unit 5 AB224 | Microeconomics
3. Brandon and his family often rent movies from the new internet movie streaming
service, Xanadu. The table below shows Brandon’s demand schedule for eight movie
rentals that Brandon’s family is interested in watching.
Number of internet video
rentals
Willingness to pay each
rental
1st movie rental $7
2nd movie rental $6
3rd movie rental $5
4th movie rental $4
5th movie rental $3
6th movie rental $2
7th movie rental $1
8th movie rental $0
a. If the price of the price of each movie rental from Xanadu is $3, how many movie
rentals will Brandon buy and how much consumer surplus does Brandon
receive? Explain your answer.
If price of each movie rental is $3, then Brandon and his family will buy 5 movie rental. Total
consumer surplus at this price is the sum of consumer surplus from each unit of the movie rental
(Baumol & Blinder, 2015).
Consumer surplus from 1st movie rental = Willingness to pay for the unit – market price = $7 - $3
= $4
Consumer surplus from 2nd movie rental = Willingness to pay for the unit – market price = $6 - $3
= $3
Consumer surplus from 3rd movie rental = Willingness to pay for the unit – market price = $5 - $3
= $2
Consumer surplus from 4th movie rental = Willingness to pay for the unit – market price = $4 - $3
= $1
Consumer surplus from 5th movie rental = Willingness to pay for the unit – market price = $3 -
$3= 0
Total consumer surplus = 4+3+2+1+0 = 10
b. If the price of the price of each movie rental from Xanadu is $5, how many movie
rentals will Brandon buy and how much consumer surplus does Brandon
receive? Explain your answer.
v.6.16.17 Page 6 of 10

Unit 5 AB224 | Microeconomics
If price of movie rental become $5, them Brandon will buy 3 movie rentals. The consumer
surplus corresponding to this price can be obtained as
Consumer surplus from 1st movie rental = Willingness to pay for the unit – market price = $7 - $5
= $2
Consumer surplus from 2nd movie rental = Willingness to pay for the unit – market price = $6 -
$5= $1
Consumer surplus from 3rd movie rental = Willingness to pay for the unit – market price = $5 - $5
= 0
Total consumer surplus is therefore = (2+1+0) = 3
c. If the Xanadu online service offers as many movie rentals as the customer wants
to download, all for on-time yearly subscription fee of $25.00, how many movie
rentals will Brandon download and how much consumer surplus will Brandon
receive? Explain your answer.
The willingness to pay for all the 8 unit of movie rental for Brandon equals = ($7+$6+$5+$4+$3+
$2+$1+0) = $28.
Therefore, if the subscription fee is $25 and customers can download as many movie as they
want this would benefit Brandon, as the fee is lower than the willingness to pay (Friedman,
2017). At the fixed subscription fee of $25.00, Brandon now will download all 8-movie rental.
Brandon will receive a consumer surplus of ($28 - $25) = $3
d. If the Xanadu online service offers as many movie rentals as the customer
wants to download, all for on-time yearly subscription fee of $35.00, how many
movie rentals will Brandon download and how much consumer surplus will
Brandon receive? Explain your answer.
If for all on-time yearly subscription fee is $35, then Brandon will not subscribe as the
fee exceeds maximum willingness to pay of $28 for Brandon. Therefore, he will not subscribe to
movie rental.
e. If the Xanadu’s market research showed that Brandon’s demand represented
what most of Xanadu’s customers wanted, what would be the most that Xanadu
could charge as a one-time annual fee for all the downloads that the customer
wanted?
v.6.16.17 Page 7 of 10

Unit 5 AB224 | Microeconomics
The maximum willingness to pay for 8 movie rentals is $28. Xanadu therefore should charge
$28 as a one-time annual fee for all download that customers wanted.
4. Newspaper vending machines are designed so that once you have paid for one
paper; you have access to all the papers in the machine and could take multiple
papers at a time. However, other vending machines dispense only one item (the item
you bought). You do not have access to all the goods (sodas, candy, snacks, etc.) at
one time. Using the concept of marginal utility, explain why these vending machines
differ?
For newspaper vending machines, one-time payment give access to all the papers. People
benefit a little from getting two or more of the same paper. The marginal utility is close to zero for
another same paper. The case is however different for other vending machines. For example, as
consumers consuming sugary soda, salty snacks and other get more and more utility from consuming
more and more (Cowen & Tabarrok, 2015). The difference in marginal utility raises the need for
increasing security for other vending machines compared to newspaper vending.
v.6.16.17 Page 8 of 10

Unit 5 AB224 | Microeconomics
--------------------------------------------
References:
Baumol, W. J., & Blinder, A. S. (2015). Microeconomics: Principles and policy. Nelson Education.
Cowell, F. (2018). Microeconomics: principles and analysis. Oxford University Press.
Cowen, T., & Tabarrok, A. (2015). Modern principles of microeconomics. Macmillan International Higher
Education.
Friedman, L. S. (2017). The microeconomics of public policy analysis. Princeton University Press.
McKenzie, R. B., & Lee, D. R. (2016). Microeconomics for MBAs: The economic way of thinking for
managers. Cambridge University Press.
Nguyen, B., & Wait, A. (2015). Essentials of Microeconomics. Routledge.
v.6.16.17 Page 9 of 10

Unit 5 AB224 | Microeconomics
Unit 5 Assignment: Elasticity of Demand and Consumer Surplus Grading Rubric:
Content
Percent
Possible
Points
Possible
Full Assignment 100% 80
Overall Writing: 20% 16
Correct coversheet information at the top of 1st page 5% 4.00
APA format for answers 3% 2.40
Correct citations 3% 2.40
Standard English, no errors 4% 3.20
At least one, or more, references 5% 4.00
Answers: provides complete information demonstrating
analysis and critical thinking: 80% 64
Individual Questions:
1. a. - Calculate price elasticity of demand ($10-$20),
Explain. 10% 8.00
1. b. - Calculate price elasticity of demand ($70-$80),
Explain. 10% 8.00
1. c. - Why do these Dpe estimates change at various
prices? 10% 8.00
2. a. Is utility maximized at 3rd music and 2nd video?
Explain. 5% 4.00
2. b. Is utility maximized at 3rd music and 3rd video?
Explain. 5% 4.00
2. c. Is utility maximized at 2nd music and 3rd video?
Explain. 5% 4.00
2. d. Is utility maximized at 4th music and 2nd video?
Explain. 5% 4.00
3. a. Brandon's number of video rentals and Consumer
Surplus at $3/rental. 5% 4.00
3. b. Brandon's number of video rentals and Consumer
Surplus at $5/rental. 5% 4.00
3. c. Brandon's number of video rentals and Consumer
Surplus at $25 subscription price. 5% 4.00
3. d. Brandon's number of video rentals and Consumer
Surplus at $35 subscription price. 5% 4.00
3. e. Xanadu's maximum subscription price. 5% 4.00
4. - What are the differences between newspaper and
snack vending machines (considering utility)? 5% 4.00
Sub-total for Individual Questions: 80% 64
v.6.16.17 Page 10 of 10