Topic: Elasticity of Demand

Objective:

a) To apply the concept of elasticity of demand

b) To correlate elasticity with decision making

University fees -

President Jones of Indian Institute of Business Economics (IIBE) is concerned about the

financial state of his institution. Last year there was a loss of Rs.1.5 million and the trustees are

getting restless. Currently there are 1000 full-time students, 700 of whom are degree students

from their country and 300 of whom are the students from abroad. The present level of fees,

including tuition, room and board, is Rs. 1,80,000 and Rs. 2,00,000 for foreign students per year.

Jones is proposing a 10% increase for next year. On the basis of past experience he has estimated

that the price elasticity of demand for degree students is -1.2 and for study-abroad students is -

1.6. He is particularly worried about the effect of the fee increase.

Jones is also considering a change in promotional expenditure. This currently amounts to 2% of

total revenues and it is estimated that the promotional elasticity of demand is 0.1. It is also

estimated that variable costs per student are Rs.60,000.

Questions

1. Why might Jones's estimates of the relevant price elasticities not be very reliable?

2. Estimate the effect of the proposed fee increase on the number of degree students and

revenues from these students, stating any relevant assumptions.

3. Estimate the effect of the proposed fee increase on the total number of students and on

total revenues.

4. Estimate how much would have to be spent on promotion to restore revenues to their

current level after the increase in fees.

5. Compare the level of profit after the fee change, both with and without the change in

promotion, with the current situation.