Question 1 (10 points)

Suppose a firm reduces the price of its good from $10 to $8 and this leads to an increase in quantity demanded from 20 to 23 units.

(a) Compute the price elasticity of demand using the mid-point formula. Explain if demand is elastic or inelastic, and what this means.

[4 marks]

(b) Leaving profit-maximization aside, if the firm wants to maximize its total revenue, should it reduce the price further? Explain.

[3 marks]

(c) Given the above information and your answers to parts (a) and (b), do you think the firm is operating in a perfectly competitive industry or is it a monopolist? Explain.