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# 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

Price 300 D

200
100

400

Qty

Price

200

400

1200

Qty

## 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%.

## 2. Total revenue increases

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

5.

## 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