Elasticities Of Demand (PED) 4.1.3.2 Flashcards
What is Price Elasticity of Demand (PED)?
Measures responsiveness of quantity demanded to a change in price
State the formula for PED
% Change in Quantity Demanded/ %Change in Price
How do you work out Percentage Change
(new - original/original)x100
Is PED positive or negative
NEGATIVE
Why is PED negative
The Law Of Demand
State the Law of demand
If price goes up (which is positive) the quantity demanded will fall ( which is negative)
What does a PED of 0 mean
Demand is Perfectly Inelastic
What does Perfectly Inelastic Demand mean
Demand does not vary with a change in price , implying consumers are WILLING and ABLE to pay any price for a product
How would you describe Perfectly Inelastic Denman
An extreme case
What does a PED of <1 indicated
Inelastic Demand
What does Inelastic Demand mean
The %change in demand is smaller than the % change in price
What does a PED of >1 indicated
Elastic Demand
What does Elastic Demand mean
demand responds more than proportionatley to a change in price
What does a PED of 1 indicate
Unitary Elasticity
What does Unitary Elasticity mean
the % change in demand is equal to the %change in price
State factors determining PED
#close subsiutues/substitues % of income spent on product cost of substitutuing between different products Brand loyalty/ habitual consumption Type of good/degree of neccesity/luxury
Explain how the # of close substitutes can affect PED
more close substitutes there are the more price elastic the product is as consumers find it easier to switch if the price of one goes up
Explain how the percentage of TOTAL income spent on a product can affect PED
products that take up a higher percentage of income more elasic as any given price change is significant to the consumer
Explain how the cost of substitutuing between different products can affect PED
when the cost of substituting is higher producsts more price inelastic
Explain how Brnad Loyalty / Habitual Consumption / Type of Good can affect PED
HAB CONS- consumers less sensistitve to price as buy out of habit , it effectivley becomes their default choice (contextual , eg perfume)
TYPE OF GOOD - nature of good affects elasticity , addictive goods more inelastic as change in price unlikely to affect QD SIGNIFICANTLY as users feel they NEED product e.g cigs
BRAND LOYALTY - high levels make product more inelastic as a loyal consumer likely to consider price a less critical factor in a buying decision
- persuasive advertising can make demand price inelastic
Explain how the degree of necessity/luxury can affect PED
Standard assumption - necessities more inelastic as need them for survival so people more likely prepared to pay anything (e.g energy for warmnth)
luxuries are not needed and are an optional spend not priority so elastic
Why should degree of a nexessity /luxury be treated with caution
it comes down to subs available for example a luxury product may not have many obvious sub so inelastic whereas as basic staplefoods have many subs so quite elastic
What does a PED of infinity mean
Perfectly Elastic
What does Perfectly Elastic mean
only one price consumers prepared to pay, if you change the price demand drops to zero
change in market supply won’t lead to change in the equilibrium price
The perfelcty elastic demand curve only applies to
highly competitive markets where no supplier has any pricing power
What does unitary elasticity mean for total spending
the total spending by consumers on product will remain the same @ each price level
on the graph how do we know the Total spending stays the same at each price level
area of underneath the demand curve is equal
How does a firm maximise TR if price elasticity is elastic/>1
reduce the price as there will be a greater quantity demanded of the product
How does a firm amximise TR if price elasticity is inelastic/<1
increase the price as quantity demanded wont drop significantly , likley to sell same number of product at a higher price
How does a firm maximise TR if price elasticity is unitary elastic
change in price is met with a proportionate change in demand so for moderate price chanfes the revenue won’t change
How do you put maximising of TR for unitary price elasticity in a simpler way
If PED =1 TR stays the same when there’s a price change
For a straight lined demand curve what does PED do
Vary along the curve
For a straight lined demand curve explain what can happen at high prices
Reduction in price will have an elastic response : lower prices causes TR to rise
For a straight lined demand curve where is demand price inelastic
Towards the bottom of the demand curve - a fall in price causes TR to frop
For inelastic products they usually have few….
close substitutes
If a fall in market price causes total spending to rise the PED is
more than 1 /elastic
For a straight lined demand curve a fall in price causes total spending to fall so PED
is less than 1 /inelastic and TR must have went down
If TR falls when you cut price demand is
Inelastic
PED is useful to BS they can use it to predict
- Effect of a change in price on TR
- Price volatility in a market following changes in supply} important for comodity producers who suffer big price and rev shifts from one time period ot another
- Effect of a change in indirect tax on price and quantity demanded and if business can pass on some/all of tax onto consumer
What type of BS uses/want to know PED and what for
-savient smart
so they can change prices to their advantage - max profit , keep bs afloat , pass on saving to consumers to be more competitive , invest profit back into bs
What else can PED be used for by Businesses
Price Discrimination
What is price discrimination and why do BS use it
- suppliers / bs charges diff prices for same product to different segmnets of market
- different consumers will have different PED for the same product
Example of price discrimiation
off peak and peak rail fares
In price discrimination who do businesses charge a higher price to
consumers whose demadn is price inelastic
What price do businesses charge to customers who are more price sensitive
lower competitve pricen
What is surge/dynamic pricing uber as exmaple
average price goes up @ peak times to take advantag e of low elasticity of demand.
What are the limitations of Elasticity
- Problems with innacurate/incomplete data collection
- PED varies for a given product by region/ time period
- Elasticity varies within product ranges
Limitations of Elasticity - - Problems with innacurate/incomplete data collection explanation
therefore we talk about estimated PED rather than fully known confirmed figures
Limitations of Elasticity-PED varies for a given product by region/ time period
There’s a variation of elasticity so no single uniform co-efficient for particular product
Limitations of Elasticity- - Elasticity varies within product ranges
premium products may have a more inelastic demand due to their perception but economy product may be tailored as a price sensitive product as consumers susceptible to a good deal at a supermarket
Factors that influence elasticity - Time Period
PED more elastic in long run as consumers able to adapt their purchasing habits and find other substitutes - over time new technology and producst may come out that make better susbtitutes
Other applications of PED
Tax Revenue
Manufactured Goods v Primary commodities
Other applications of PED - Tax revenue
gov can increase tax revenue by imposing it on inelastic goods . part of reason why cigs , petrol and alcohol highly taxed
What type of PED do manufactured goods have
High
Why do manufactured goods have a high PED
not neccesities and have many close substitutess
Examples of manufactured goods
Socks , toys , furniture
What type of PED do primary commodities have
Low
Why is PED primary commodities low
usually neccesities with no close subs
E.G of Primary commodities
wheat , cow leather , coal ,raw cane sugar
