In 1916, the Ford Motor Company sold 500,000 Model T fords at a price of $440. Henry Ford believed that he could increase sales of the model T by 1,000 cars for every dollar he cut the price. Use this information to calculate the price of elasticity of demand for Model T Fords. Use the midpoint formula in your calculation.
Assuming the price decreases by $1 and the quantity increases by 1000 cars, the price elasticity of demand for Model T Fords is what?
To find the price elasticity of demand using the midpoint formula, we need to find the percent change in the quantity of the good that is sold. We also need to find the percent change in the price of the good. When we have those two things, we need to divide the percent change in quantity by the percent change in price. This will give us our elasticity coefficient.
To find the percent change of either the quantity or the price, we use the equation
(New – Old) / Average of Old and New.
In this question, the new quantity is 501,000 and the old quantity is 500,000 cars. We can plug this into the equation above:
(501,000 – 500,000) / 500,500 (because that is the average of the two figures). = 1,000 / 500,500 = .0020
In this question, the new price is $439 and the old price is $440. We can plug this into the equation above:
(439 – 440) / 439.5 (average of the two figures) = -1 / 439.5 = -.0023
We must now divide the rate of change of the quantity (.002) by the rate of change of the price (-.0023).
.002/-.0023 = -.87
Elasticity is always expressed as a positive number, so we will just take off the negative sign. This means that the coefficient of the elasticity of demand for the Model T cars in this question was .87.