Price elasticity of demand
Price Elasticity of demand meaning
A measure of the responsiveness of demand to a change in price.
What does the size of a PED figure indicate?
The extent to which demand will extend or contract when price changes. A figure of -2, for example, indicates that a 1% change in price will cause a 2% change in quantity demanded.
When does perfectly elastic demand occur? What is the PED figure?
When a change in price causes a complete change in demand. PED is zero.
When does elastic demand occur? What is the PED figure for elastic demand?
When demand changes by a greater percentage than the change, giving a PED figure of more than one but less than infinity.
When does inelastic demand occur? What is the PED figure for inelastic demand?
When demand changes by a smaller percentage than the change in price, giving a PED figure of less than 1 but greater than zero.
What effect does a decrease in demand have on the PED of a product? Why?
When demand decreases, the PED increases (becomes more elastic) because consumers will become more sensitive to price changes.
When does perfectly inelastic demand occur? PED figure?
When demand does not change when price changes. Consumers buy the same quantity despite the alteration in price and PED is zero.
What 2 pieces of information does a PED figure give you?
a sign (- or +) and the size (of the figure).
When demand is elastic, in which direction do price and revenue move? Give an example.
In opposite directions. For example, if initially 10 products were demanded for $5 each, giving a total revenue of $50, and later, when the price fell to $4, demand rose to 20, the revenue would have increased to $80.
In which directions do revenue and price move in the case of inelastic demand?
In the same direction. This is because when a product has inelastic demand, if the price is raised then the demand will fall but by a smaller percentage than the change in price and hence more revenue will be earned.
Formula used to calculate PED
% change in quantity demanded/ % change in price
Formula used to calculate % change in price
(Change in price/ original price)* 100
Formula for calculating % change in demand
(change in demand/ original quantity demanded) * 100
What type of demand curve is elastic demand usually illustrated by?
A shallow demand curve.
What effect does a shift in the demand curve to the right have on PED? Why?
A shift to the right of a demand curve reduces PED at any given point. This is because the more consumers want and are able to buy of a product, the less sensitive they are to price changes.
What would a fall in price result in, in terms of demand?
An extension in demand.
Factors that determine the degree of elasticity of a product or service? (7)
Availability of substitutes of a similar quality and price, proportion of income spent on product, whether the product is a necessity or a luxury good, how addictive the product is, whether its purchase can be postponed, how the market is defined and the time period under consideration.
Why is price elasticity of demand important to economists?
Because, in considering whether to cut the price of a product, an economist will have to now the extent of any rise in demand.
What determines changes in the price elasticity of demand of a product? (pg 73)
Different tastes, different income levels and different cultures.
Does PED become more elastic or inelastic as the price of a product rises?
Elastic
If the purchase of a product can be delayed, is the demand for that product elastic or inelastic? Why?
Elastic, because if the price of the product rises, then people will keep postponing its purchase, hoping that its price will drop back in the future. If it does, demand will rise by a greater percentage, with the build up of sales.
Are addictive products usually elastic or inelastic in demand? Why?
Elastic, because people find it difficult to cut back on the use of these products, and hence, will succumb to rises in price.
How does availability of substitutes affect the elasticity of the demand for a product?
If a product does have a close substitute, it is likely to have elastic demand as a rise in price is likely to cause a significant fall in demand as consumers will switch to the substitute.
If a product has inelastic demand and the price of it is lowered, then what will happen to demand and revenue?
If price is lowered, more products will be demanded by not enough to prevent the total revenue from falling.
How does the proportion of people's income spent on a product affect a product's elasticity of demand?
If purchase of a product takes up a small proportion of people's income, demand is likely to be inelastic. In contrast, if the purchase of product takes up a large proportion of people's income, demand is likely to be elastic.
What does the minus sign in a PED figure tell you
It tells us that there is an inverse relationship between demand and price- a rise in price will cause a contraction in demand.
How does whether a product is a luxury or necessity good affect the PED of a product?
Luxury products usually have elastic demand because they do not HAVE to be purchased. However, necessities tend to have inelastic demand as people can not just stop using this product even if its price rises.
If the time period under consideration is longer, is the demand for a product likely to be more elastic or more inelastic?
More elastic, because the longer the time period, the longer customers have to find alternatives and switch their purchases,.
If a product is more narrowly defined, is its demand likely to be more elastic or more inelastic? Why?
More elastic, because the narrower the definition, the more substitutes a product is likely to have.
As price falls, does PED become more elastic or inelastic? Why?
More inelastic, because the lower the prices get, the less people notice and because there is a limit to the amount people want to consume, no matter how low the cost of a product is.
When does unit elasticity of demand occur? PED figure?
When percentage change in price results in an equal percentage change in demand, giving a PED of 1.