Effect of Price Increase on Expenditure

When the price of a commodity increases, it affects the expenditure made by consumers. The expenditure is directly related to the price and quantity of the commodity consumed. In this case, we will explore the effect of a 12% price increase on the expenditure of a consumer.

Price Elasticity of Demand (Ed)

To understand the effect of the price increase on expenditure, we need to consider the price elasticity of demand. Price elasticity of demand (Ed) measures the responsiveness of quantity demanded to a change in price. It can be positive, negative, or zero.

In this case, the given price elasticity of demand is (-)0.63, which indicates an inelastic demand. This means that the quantity demanded is not very responsive to changes in price. When the price increases, the quantity demanded will decrease, but not significantly.

Effect of Price Increase on Quantity Demanded

Due to the inelastic demand, the quantity demanded will decrease, but by a relatively smaller proportion compared to the price increase. Let's assume that the initial price of the commodity is P and the initial quantity demanded is Q.

When the price increases by 12%, the new price becomes P + 0.12P = 1.12P. The new quantity demanded can be calculated using the price elasticity of demand formula:

Ed = (% Change in Quantity Demanded) / (% Change in Price)

Since Ed = -0.63, we can rearrange the formula to find the percentage change in quantity demanded:

% Change in Quantity Demanded = Ed x (% Change in Price)

% Change in Quantity Demanded = -0.63 x 12% = -7.56%

This means that the quantity demanded will decrease by 7.56% due to the 12% price increase.

Effect of Price Increase on Expenditure

To calculate the new expenditure, we multiply the new price (1.12P) by the new quantity demanded (0.924Q). This can be expressed as:

New Expenditure = New Price x New Quantity Demanded

New Expenditure = (1.12P) x (0.924Q) = 1.0368PQ

The new expenditure is equal to 1.0368 times the initial expenditure.

Summary

In summary, when the price of a commodity increases by 12% and the price elasticity of demand is (-)0.63, the expenditure made by a consumer on the commodity will increase by approximately 3.68% (1.0368 times the initial expenditure). The decrease in quantity demanded due to the price increase is relatively smaller compared to the increase in price, leading to a higher expenditure for the consumer.