Price Elasticity of Demand

AS Economics

Aims and Objectives

Aim: Understand Ped

Level

Objectives:
Define Ped Draw different Peds

E-D C-B

B-A
A-A*

Calculate Peds
Analyse the factors determining Peds

Starter
Has the London congestion charge reduced traffic flows and congestion?

Will most people still fly if there is a new aviation fuel tax?

Price Elasticity of Demand

Why do hotels lower room-rates at weekends? Why do car rental firms charge lower prices at the weekend?

Cut Throat Competition?

Gillette the manufacturers of the Mach 3 razor controls over 70% of the worlds wet shave razor market and takes 90% of the $1.5bn annual global profits If the price of Mach3 razors went up by 20% - would you still buy them?

Price Elasticity of Demand

Price elasticity (Ped) measures responsiveness of demand to change in price of a good itself. The basic formula for calculating Ped:
Ped = % change in Qd / % change in P

Price Elasticity of Demand

When price falls we expect to see an expansion of demand. When price rises we expect to see a contraction of demand. Therefore an inverse relationship between price and demand (giving a negative value for Ped).

Price Elasticity of Demand

If Ped = 0 then demand is perfectly inelastic demand does not change when the price changes. If Ped is between 0 and 1 then demand is inelastic. If Ped = 1 then demand is unit elastic. If Ped > 1, then demand responds more than proportionately to a change in price demand is elastic

An Inelastic Demand Curve

Price 400 200
% Change in Demand: 400 350 = 50 50/400 = 0.125 0.125 x 100 = 12.5% % Change in Price: 100%

350 400

Qty

An Inelastic Demand Curve

Price 400 200
% Change in Demand: 12.5% % Change in Price: 100% Price Elasticity of Demand: 12.5/100.00 0.125 (inelastic)

350 400

Qty

An Elastic Demand Curve

Price
% Change in Demand: 200% % Change in Price: 50% Ped = 4 (elastic)

200 100 D

400

1200

Qty

Perfectly Inelastic Demand Curve

Price 300 D

200
100

400

Qty

Perfectly Elastic Demand Curve

Price

200

400

1200

Qty

Elasticity & Total Revenue

Price Elasticity of Demand

Change in Market
1. 2. 3. 4. Ped is inelastic and a firm raises its price. Ped is elastic and a firm lowers it price. Ped is elastic and a firm raises its price. Ped is 4.0 and the firm lowers price by 15%.

What happens to Total Revenue?

1. Total revenue increases

2. Total revenue increases

3. Total revenue decreases 4. Total revenue increases 5. Total revenue decreases

5.

Ped is 0.2 and the firm lowers price by 15%.

Factors Determining Ped

1 2 3 Number of close substitutes for a good Degree of necessity in consumption

The % of a consumers income allocated to consumers spending on the good

Time period allowed following a price change

4
5 6

Whether demand causes habitual consumption alcohol

Peak and off peak demand

Elastic or Inelastic Demand?

Elastic or Inelastic Demand?

Elastic or Inelastic Demand?