Price elasticity of demand

• Elasticity of demand is an attempt to measure the responsiveness of quantity demanded to changes in other variables: its own price, the price of other goods and real income. If a good

  is elastic, it is relatively responsive and if it is inelastic, it is relatively unresponsive
• What does price elasticity of demand (PED) measure?

  Responsiveness of demand to price change
• How is PED calculated?

  % change in quantity demanded / % change in price
• If the original price was £5 and 100 were sold, what is the new price if 120 are sold?

  £3
• What are the types of PED based on responsiveness?

  • Unitary elastic: PED = 1
  • Relatively elastic: PED > 1
  • Relatively inelastic: PED < 1
  • Perfectly elastic: PED = infinity
  • Perfectly inelastic: PED = 0
• What does unitary elastic PED indicate?

  Quantity demanded changes same as price
• What characterizes relatively elastic PED?

  Demand changes more than price
• What characterizes relatively inelastic PED?

  Demand changes less than price
• What does perfectly elastic PED indicate?

  Demand falls to 0 with price change
• What does perfectly inelastic PED indicate?

  No effect on output with price change
• What factors influence PED?

  • Availability of substitutes
  • Time
  • Necessity
  • Percentage of total expenditure
  • Addictiveness
• How do substitutes affect PED?

  More substitutes lead to more elastic demand
• How does time influence PED?

  Longer time increases elasticity of demand
• Why is necessity related to inelastic demand?

  People need it regardless of price changes
• How does the percentage of total expenditure affect PED?

  Small expenditure leads to inelastic demand
• How does addictiveness influence PED?

  Addictive products have inelastic demand
• What is the significance of PED in taxation and subsidies?

  • Determines tax incidence on consumers
  • Elastic demand leads to lower consumer tax burden
  • Inelastic demand leads to higher tax revenue
  • Affects effectiveness of subsidies
• What happens to tax incidence with elastic demand?

  Lower incidence of tax on consumers
• What happens to tax incidence with inelastic demand?

  Higher incidence of tax on consumers
• How does elastic demand affect total revenue from taxes?

  Tax leads to small price increase
• How does inelastic demand affect total revenue from taxes?

  Higher tax revenue for the government
• What are the effects of subsidies on elastic and inelastic demand?

  • Elastic demand: small price fall, large output increase
  • Inelastic demand: large price fall, small output increase
• What happens to output with elastic demand after a subsidy?

  Large increase in output
• What happens to output with inelastic demand after a subsidy?

  Little change in output
• How does PED affect total revenue?

  • Elastic demand: price decrease increases revenue
  • Inelastic demand: price increase increases revenue
  • Unitary elastic: no effect on total revenue
• What happens to total revenue if price falls from £5 to £4 with PED = -0.5?

  Total revenue falls by £6,000
• What is the original total revenue if 10,000 units are sold at £5?

  £50,000
• PED is always represented as a negative number
• if demand curve is curved and not linear what does that mean


  it means it is in unitary elasticity