The Mass Rapid Transit (MRT) System in Hong Kong has been running significant losses. Transport Ministry officials have argued over whether to raise fares to combat the losses. One argument against a fare increase is that it will aggravate traffic
congestion on the streets during peak commuter hours. Suppose that the current fare is $4 and the government is considering raising it to $6. Officials estimate that this reduces the number of rides purchased from 10,000 to 8,000 per day.
a. Using the midpoint formula, what is the estimated elasticity of demand for MRT rides?
b. What does this elasticity of demand suggest to you about what will happen to total revenue earned by the transit system if the fare increase happens?
c. Last year, the MRT system incurred a loss of $50,000 per day. Do you think the fare increase will resolve the deficit problem as well as Ministry officials anticipate? Explain.
What will be an ideal response?
a. Price elasticity = -0.56.
b. Total Revenue will increase.
c. The expected increase in revenue is $8,000 per day. It is unlikely that the fare increase alone will resolve the problem.
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