PED

• Price Elasticity of Demand

  A measure of the responsiveness of the quantity demanded to a change in price
• Price elasticity


  Measures the extent to which demand will change following a change in the price of a product
• Elastic


  When a good is elastic, it means that the quantity demanded will be affected by the change in price
• Inelastic


  When a good is inelastic, it means that the quantity demanded is largely unaffected by the change in price
• Perfectly inelastic demand


  • Demand is perfectly inelastic (PED = 0). The quantity demanded does not change at all when the price changes. The demand curve will be vertical.
• Inelastic demand


  • Demand is inelastic (0 < PED < 1). The percentage change in the quantity demanded is smaller than the percentage change in price (% ∆ Qd < % ∆ P).
• Unit elastic demand


  • Demand is unit elastic (PED = 1). The percentage change in the quantity demanded is exactly the same as the percentage change in price.
• Elastic demand


  • Demand is elastic (PED > 1). Demand responds more than proportionately to a change in price (% ∆ Qd > % ∆ P).
• Perfectly elastic demand


  • Demand is perfectly elastic (PED = ∞). Demand changes without a price change.
• PED: Let's Calculate


  Given: Price of Nescafe coffee increases from £3 to £3.30, sales decrease from 10,000 to 9,500

  Calculate: % ∆ Qd, % ∆ P, PED = 0.5
• PED: Let's Calculate


  Given: Price of Tesco petrol increases from £1.40 to £1.47, sales fall by 1 million litres to 9 million litres

  Calculate: % ∆ Qd, % ∆ P, PED = 2
• Factors affecting PED


  • Availability of substitutes
  • Proportion of income
  • Habit forming
  • Frequency of purchase
  • Time period following price change
  • Brand loyalty
  • How widely defined a good is
  • Degree of necessity
• Availability of Substitutes


  If there are close substitutes in the market, the more elastic the demand for a product. Consumers can easily switch their demand if the price of one product changes relative to others in the market.
• Proportion of Income


  Goods and services that take up a high proportion of a household's income will tend to have a more elastic demand than products where large price changes makes little or no difference to someone's ability to purchase the product.
• Habit Forming


  If a product is considered to be addictive, then demand will be price inelastic. Consumers will be less likely to respond to a change in price.
• Frequency of Purchase


  Products that have to be bought frequently have price inelastic demands, eg fresh milk. Where purchase can be postponed, such as consumer durables (TVs), demand tends to be price elastic – at least in the short term.
• Time


  Demand tends to be more price elastic, the longer that we allow consumers to respond to a price change. In the short term, the demand may be inelastic, because it takes time for consumers both to notice and then to respond to price fluctuations.
• Other Factors affecting PED

  • Brand loyalty
  • How widely defined a good is
  • Degree of necessity
• Total Revenue (TR)


  The amount of money that a seller gets from selling a product in a specific time. It is found by multiplying the price of the product by the amount sold: TR = price x quantity sold.
• If demand is price inelastic

  Increasing price would increase total revenue, reducing price would reduce total revenue
• If demand is price elastic

  Increasing price would reduce total revenue, reducing price would increase total revenue
• How producers can make demand price inelastic

  Developing consumer loyalty for their brand through advertising

  Offering perks like loyalty cards, free prizes, after-sales service

  Taking over rival producers to gain monopoly power

  Having a unique selling point (USP)
• Importance of PED for Business

  Firms can use PED estimates to predict the effect of a price change on total revenue. PED also determines the extent to which the price of a good will change when its supply changes.
• Importance of PED for Government

  Governments want to know the effect on tax revenue if they change an expenditure tax. PED can also be used to assess the impact of charges like the congestion charge in reducing consumption of harmful products.