Final answer:
A 5% decrease in demand for cigarettes, given an elasticity of demand of 0.75 and an elasticity of supply of 1.25, will result in a decrease in the equilibrium price. The correct answer is c) decrease by 2.5%, as the inelastic demand causes a smaller relative change in price.
Step-by-step explanation:
If the elasticity of demand for cigarettes is 0.75 and the elasticity of supply for cigarettes is 1.25, and there is a 5% decrease in demand, we must figure out how this affects the price. A shift in demand or supply in either direction affects the equilibrium price and quantity in the market. With inelastic demand and relatively elastic supply, a decrease in demand will decrease the equilibrium price because suppliers will be more willing to decrease their prices to sell their product.
Using the given elasticities and the known decrease in demand, we can speculate that the decrease in price will be proportionally less than the decrease in quantity demanded, because demand is inelastic. Producers of cigarettes can pass higher costs to consumers due to the inelasticity of demand, particularly among addicted smokers. However, in the case of a decrease in demand, the effect on price is cushioned by the more elastic supply.Therefore, the correct answer is c) decrease by 2.5%.