When supply increases along an inelastic demand curve, revenue _. O falls O rises O remains unchanged
The Correct Answer and Explanation is:
The correct answer is: falls.
When supply increases along an inelastic demand curve, revenue falls. This occurs because, in the case of inelastic demand, the quantity demanded does not increase significantly when the price decreases. In other words, the consumers’ willingness to buy the good doesn’t change much in response to price reductions.
Here’s the reasoning:
- Inelastic Demand: In an inelastic demand situation, the price elasticity of demand (PED) is less than one, meaning that for a given percentage change in price, the percentage change in quantity demanded is smaller. Therefore, if prices decrease, the total quantity demanded will not increase enough to offset the revenue lost due to the lower price.
- Effect of an Increase in Supply: When supply increases, the equilibrium price typically falls, as the supply curve shifts to the right. In the case of inelastic demand, the reduction in price does not result in a large enough increase in the quantity demanded to compensate for the loss in price.
- Revenue Impact: Revenue is calculated as the price multiplied by the quantity demanded. When the price decreases and the quantity demanded does not increase substantially, total revenue will decline. This is because the drop in price is not compensated by a proportional increase in the quantity sold.
For example, if the price of a product decreases due to an increase in supply, but the consumers do not significantly alter their purchasing behavior (because the product is inelastic), the seller will receive less money per unit sold, and the overall revenue will fall.
Thus, when supply increases along an inelastic demand curve, revenue falls because the price reduction is not sufficiently offset by a corresponding increase in quantity demanded.
