A supplier of fur coats estimates that the price elasticity of demand for its co

Question

A supplier of fur coats estimates that the price elasticity of demand for its coats is -3.75. The firm has determined that an additional $100,000 in advertising would generate $275,000 in additional revenues. You would advise the firm to:

a) advertise

b) abandon the advertising plan, since the marginal revenue from an additional dollar of advertising is less than $3.75

c) abandon the advertising plan, since the demand elasticity is greater than 1

d) advertise, since the marginal revenues are greater than the cost of advertising

e) spend only $50,000 on advertising, since the marginal revenue from an additional dollar of advertising is less than $3.75

Explanation / Answer

D is correct

100000 is marginal cost of advertising and 275000 is the marginal revenue from advertising. Additional revenue is greater than additional cost. Hence it should advertise.

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