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2.7 Price Elasticity of Demand (PED)

Price elasticity of demand (PED) measures the responsiveness of quantity demanded to a change in price. PED is calculated using a formula that involves the percentage change in quantity and percentage change in price. Demand is inelastic if PED is between 0 and -1, elastic if PED is above -1, and unit elastic if PED is equal to -1. Firms can use PED information to determine if they should increase or decrease prices to maximize total revenue. Calculating and understanding PED allows firms and consumers to predict how changes in price will affect sales and spending on a product.

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30 views18 pages

2.7 Price Elasticity of Demand (PED)

Price elasticity of demand (PED) measures the responsiveness of quantity demanded to a change in price. PED is calculated using a formula that involves the percentage change in quantity and percentage change in price. Demand is inelastic if PED is between 0 and -1, elastic if PED is above -1, and unit elastic if PED is equal to -1. Firms can use PED information to determine if they should increase or decrease prices to maximize total revenue. Calculating and understanding PED allows firms and consumers to predict how changes in price will affect sales and spending on a product.

Uploaded by

rana.tarek
Copyright
© © All Rights Reserved
We take content rights seriously. If you suspect this is your content, claim it here.
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Price elasticity of demand

(PED)
2.7
Discussion

►What happens to a company when they’re prices


increase?

►What can cause a company to reduce its production?


Learning Outcomes

► To demonstrate the usefulness of price elasticity in particular situations for


example revenue changes

► To implement PED calculation to describe the demand for a product then


showcase in a diagram.

► To explain why the demand for certain products is price inelastic.


Productive Task 20 MINS.

Using the Formula


Below is the demand schedule for tins of beans.

Price of beans per tin (cents) Market demand per week


40 1000

30 1500

Calculate the PED.


Comment on its value.
What will the demand curve for beans look like? Draw a simple diagram to show this.
Success Criteria

► Learners will be able to demonstrate the usefulness of price elasticity in


particular situations for example revenue changes
► Learners will be able to implement PED calculation to describe the demand for a
product then showcase in a diagram.
► Learners will be able to explain why the demand for certain products is price
inelastic.
Productivity Task Answers
Enabling Activity (1) 10 MINS.

► Students will brainstorm products that do not get affected


by price changes and the reason behind it.
Enabling Activity (2) 15 MINS.

► In-pairs:
► Students will choose two products that they think are a
necessity and a luxury.

► Students will decide how the price increase of each effects


the demand on the product.
PED

Definition
► Price elasticity of demand (PED) is the responsiveness of quantity demanded to a
change in price. PED is calculated using the following formula:
PED indicators

► PED is always negative – an increase in price will always result in a decrease in


demand
► PED between 0 and -1 is inelastic. A change in price will result in a proportionally
smaller change in demand. Assume PED = -0.5 then a 5% increase in price will
result in a 2% decrease in sales.
► PED greater than -1 is elastic. A change in price will result in a proportionately
bigger change in demand. Assume PED is -2 then a 5% increase in price will
result in a 10% decrease in sales
► If PED = 1 (i.e. the percentage change in demand is exactly the same as the
percentage change in price), then demand is said to unit elastic. A 5% increase in
price will result in a 5% decrease in sales.
PED example 1.

► When the price of CD increased from $20 to $22, the quantity of CDs demanded decreased from 100 to
87.
► What is the price elasticity of demand for CDs?
Calculating a Percentage
The price increases from $20 to $22.
► Therefore % change = 2/20 = 0.1 (10%)
0.1 = 10% (0.1 *100)
► Quantity fell by 13/100 = – 0.13 (13%)
► Therefore PED = 13/-10
► Therefore PED = -1.3
► In this case demand is price elastic.
► Elastic demand occurs when % change in quantity is greater than % change in price; when PED >1
Example 2 – Phone app

► Price rises from $15 to $30


100% rise in price
► Quantity falls from 100 to 80
(20% fall)
► What is the PED?
► -20/100 = -0.2
► What is the change in revenue?
Determinants of PED

► If the product is a necessity (Inelastic)


► The number of close substitutes a product has. (Elastic)
► The amount of time consumers have to search for substitutes. (eg: TV)
► The cost of switching to a different supplier (b2b, contract agreements)
► The proportion of a consumer’s income spent on the product. (eg:
newspaper inelastic as small price change. Car will be elastic as it is a
high price change)
Elastic PED
Inelastic PED
Firms using PED to maximise revenue

If PED is elastic >-1 then firm should lower price


until unit elastic is reached

If PED is inelastic <-1 then firm should increase


price until unit elastic is reached

Unit elastic = maximum revenue

Assumptions:

Maximising revenue is objective for firm

Once unit elastic is met then firms will advertise


causing and outward shift of the demand curve.
Firms and PED

► The effect of a change in price on the total revenue & expenditure on a product
► A business contemplating a tactical price-war or planning a promotional discount
based on price (e.g. 50% off for a limited period) will want to know how
responsive customer demand will be to the pricing tactics used
Plenary Activity 10 MINS.

►Summarize the lesson in five sentences or five (key)


words.

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