Compute and discuss elasticities for the following cases:

a. When consumer income increases by 4%, the demand for Ramen Noodles decreases by 6%. What is the income elasticity for Ramen Noodles? Explain what this income elasticity measure tells you.

b. When the price of bread increases by 7%, the demand for butter decreases by 9%. What is the cross-price elasticity? How are the two goods related - are they substitutes or complements? Explain why.

c. When the price of pork increases by 8%, the quantity of lamb purchased increases by 5%. What is the cross-price elasticity? How are the two goods related - are they substitutes or complements? Explain why.

A. Income elasticity = Percentage change in quantity demanded/ percentage change in income

Percentage change in income = 4%

Percentage change in demand = 6%

Income elasticity = 6%/ 4% = 1.5

The income elasticity of demand indicates that the demand of the good is relatively income elastic in nature such that a 1% increase in the income of the consumer leads to a 1.55 increase in the demand of the good.

B. The cross price elasticity of demand is the responsiveness of the quantity demanded of a good due to the price change in the related goods.

Cross Elasticity = Percentage change in quantity demanded of the good/ Percentage change in the price of related good

Percentage change in price of bread = 7%

Percentage change in demand of butter = -9%

Cross elasticity = -9%/7% = -1.28

The cross elasticity of demand indicates that bread and butter are complementary goods such that a one percent increase in the price of bread would lead to 1.28 percent decrease in the demand of butter. Since both bread and butter are jointly demanded, the increase in price in one adversely impacts the demand of the other good.

C. Percentage change in price of pork = 8%

Percentage change in demand of lamb = 5%

Cross elasticity = 5%/8% = 0.62

The cross price elasticity from the above calculations indicate that both the goods: lamb and pork are substitutes of each other. This can be ascertained from the fact that, when the price of the pork increases by one percent, the demand of the lamb increases by 0.62%. The increase in price of pork makes lamb more lucrative for the consumers, as a result of which the demand for lamb increases.