Demand Elasticity,

Pricing & Revenue

Economics For Managers

SBCO6130: 2016-17
kamau.chionesu02@uwimona.edu.jm
 On completion of this unit, you should be able to:

1. Calculate & interpret point-price demand

elasticities and evaluate their implications for
pricing and revenue

2. Use the concepts of preference, utility, valuation

& elasticity to explain market segmentation,
price discrimination & product attribute bundling
& product customisation

Objectives
2
1. Ordinary goods: -ve sloped demand curve

2. Own-price elasticity: elastic & inelastic

3. Cross price elasticity

Ea,b > 0 : substitutes
Ea,b < 0 : complements

4. Income elasticity
EInc < 1 : normal good
EInc > 1 : luxury good
EInc < 0 : inferior good

Properties of Market Demand

3
1. Total market valuation of a given quantity
versus marginal valuation

2. Valuation & area under demand curve

3. Individual valuation & consumer surplus

4. Conversion of consumer surplus to producer

surplus via market segmentation & price
discrimination

Properties of Market Demand:

Valuation & Revenue
4
1. Demand: TR, AR & MR
a. Definition, relationship & graph (linear
demand)
b. Note that AR = P (show why)

2. Elasticity: MR & TR relation

a. How does TR change as sales change given
that price varies inversely with sales

b. TR/Q = MR = P*[1+(1/Ed)]

c. Note: absolute value convention while Ed is

understood to be negative for ordinary good.
Account for difference in calculations

Demand and Revenue 5

1. Importance of Ed to firm in pricing
How is TR affected if:
a. Ed > 1 and price increased (decreased)?
b. Ed < 1 and price increased (decreased)?
c. Ed > 1 and Q increased (decreased)?
d. Ed < 1 and Q increased (decreased)?

2. Implication: can firm ignore elasticity

property when adjusting price?

Elasticity & Revenue: Implications

6
 1. Linear Demand
Let Qd = a1 +a2*P
Then, Ed = a2*(P/Qd)
Variable elasticity: what happens to Ed as P
falls?

2. Elasticity & Total Revenue (TR)

How does revenue change as we change price
-given that sales vary inversely with price?

TR/P = Q*[1+Ed]

Graph: elastic versus inelastic case

Elasticity: Linear Demand & TR

7
1. What is price discrimination? Why discriminate?

2. Types of price discrimination

3. Under what conditions is price discrimination

possible?
a. Elasticity differences
b. Market separation

4. Effect of price discrimination on revenue

5. Price discrimination, consumer & producer surplus

Price Discrimination,
Elasticity & Revenue 8
1. What is market segmentation?

2. How is market segmentation achieved?

a. Preference, utility & attribute valuation
b. Attribute bundling
c. Product customisation
d. Distribution/Access channels

3. Conditions necessary for segmentation

Market Segmentation:
Elasticity & Price Discrimination
9