1.2.3 - Price Elasticity of Demand

Question 1

Define Elasticity

Answer 1

The responsiveness of X to a change in another variable

Question 2

Define Price Elasticity of Demand (PED)

Answer 2

The responsiveness of demand after a change in a good’s price

Question 3

PED formula

Answer 3

% change in Quantity Demanded / % change in Price

. Remember you Q before you P :)

Question 4

Percentage change formula

Answer 4

New - Original Value / Original * 100%

Question 5

Types of Price Elasticity of Demand

Answer 5

. Perfectly Inelastic 
. Inelastic
. Perfectly Elastic 
. Elastic
. Unitary Elastic 

• Remember to ignore the minus sign when calculating what type of elasticity.

Question 6

Explain Perfectly inelastic Demand

Answer 6

. When PED = 0

.When demand is perfectly inelastic, demand is not affected by price.

. Demand will not change, no matter how the large the change in price

. Consumers are willing to pay ANY price for the good

Question 7

Explain Unitary Elastic Demand

Answer 7

. When PED = 1

. When there is unitary elasticity of demand, percentage change in demand is same as percentage change in price.

. TOTAL consumer spending will be the same so same revenue for firms

. E.g. 10% increase in demand results in 10% contraction

Question 8

Explain Elastic demand

Answer 8

. PED >1

. Demand is highly responsive to change in price

. If price goes up, change in quantity demanded is proportionately higher than change in price

. Supplier will gain extra revenue from reducing price as demand will be higher

Question 9

Explain Inelastic Demand

Answer 9

. PED < 1

. Demand is very unresponsive to change in price

. Supplier will gain extra revenue from increasing price as there will only be a small contraction in demand.

. If prices go up , change in price is proportionately higher than change in quantity demanded

Question 10

Explain Perfectly Elastic Demand

Answer 10

. PED is infinity

. A rise in price means quantity demanded would be zero. A fall in price results in an infinite increase in quantity demanded

. There’s one price consumers are prepared to pay

. Applies to highly competitive markets where the supplier has no ‘pricing power’

Question 11

Two extreme cases in Price Elasticity

Answer 11

. Perfectly Elastic
. Perfectly Inelastic

Question 12

Define total expenditure

Answer 12

.Quantity bought times the price of the product

. Total amount buyers sell

Question 13

Define total revenue

Answer 13

.Quantity sold times the price of the product

. Total amount sellers receive from a product

Question 14

Factors that affect PED

Answer 14

• THINK SPLAT

. Substitutes 
. Percentage of income
. Luxury or Necessity
. Addictive nature / habit forming
. Time period

Try to give EXAMPLES for these FACTORS affecting PED

Question 15

Explain Substitutes

Answer 15

. The more close substitutes there are for a good or service , the more price elastic demand will be as consumers will switch to substitutes products instead

. The proportionate decrease in quantity demanded will be more than the rise in price

. If there are a few close substitutes, demand will be price inelastic as it is harder to find alternatives.

. The proportionate decrease in quantity demanded will be less than the rise in price

Question 16

Explain Percentage of Income

Answer 16

. The greater the proportion of income a price change takes, the more price elastic demand will be.

Question 17

Explain Luxury or Necessity

Answer 17

. Luxuries will have more price elastic demand, as when the price of luxuries increase. Individuals will decrease their consumption of luxuries as they are not necessary to survive.

. The proportionate decrease in quantity demanded will be greater than the increase in price

. Necessities will have more price inelastic demand as price of necessities increase, individuals will not decrease their consumption.

. The proportionate decrease in quantity demanded will be less than the rise in price

Question 18

Explain Addictive nature / habit forming

Answer 18

. If the good is addictive or a habit is forming, demand will be price inelastic. This is as even if prices increase, an individuals may not be able to stop themselves from consuming due to addiction or habit

. The proportionate decrease in quantity demanded will lower than the rise in price

Question 19

Explain time period

Answer 19

. In the long run demand for goods and services tend to more price elastic as more substitutes enter the market over time allowing consumers to switch their consumption more easily if price increases

. The proportionate decrease in demand will be greater than the increase in price