To travel around Gotham City, some people take the subway and others ride buses. Still others use the Batmobile. Suppose the PED for subway trips by Gothamites is 1.5, the income elasticity of demand for subway trips is 0.5, and the cross PED for subway trips with respect to the price of bus trips is 0.6. Subway fares rise by 10%. How much will bus fares have to rise to offset the effect of the subway fare increase on the quantity of subway trips demanded?

To travel around Gotham City, some people take the subway and others ride

buses. Still others use the Batmobile. Suppose the PED for subway trips by

Gothamites is 1.5, the income elasticity of demand for subway trips is 0.5, and

the cross PED for subway trips with respect to the price of bus trips is 0.6. Subway

fares rise by 10%.   How much will bus fares have to rise to offset the effect of the

subway fare increase on the quantity of subway trips demanded?

 

Answer:

Positive cross price elasticity shows that the two goods are substitutes. For substitute goods if the price of one good rises the demand of other good increases.

Cross elasticity of demand = % change in quantity demanded/% change in price of substitutes

0.6 =% change in quantity demanded/10%

% change in quantity demanded = 6%.

Therefore, the quantity demanded for buses will increase by 6% with a 10% increases in subway fares.

Asked on February 9, 2018 in economics.
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