Price elasticity of demand (PED) measures how demand for a good responds to a change in price. There are products that can be price inelastic where the demand doesn’t respond to price and there’s price elastic products where demand is affected and does respond to price.
There are many factors that effect the price elasticity of demand:
– Availability of substitutes or alternatives.
– Branding and brand loyalty.
– Product Differentiation.
Now, coming up is the equation for price elasticity which is extremely important and rather complicated too..
Calculation PED = Percentage change in quantity
percentage change in price
Percentage change = New – Old
Yes its confusing so here are a few examples to get you started.
Price elasticity equation only has percentages.
Make sure you remember this as it will come in handy. If you work out price elasticity with only one percentage, you know you are going wrong somewhere.
+20% / -10%
The +20% is the change in quantity while the -10% is the change in price.
This equation would bring out a answer of – 2 elasticity which is price elastic (we will found out why later on)
10% / 20%
The 10% is the change in quantity and the 20% is the change in price. Get it now :)?
So that equation would give us an answer of -0.5 which is price inelastic.
Now, your wondering how I know it’s price elastic or inelastic?
Well, here’s the answer:
Any price elasticity demand answer that is between +1 and -1 is inelastic while anything else is elastic. It is not that important if your answer is minus or plus, the number itself is more important to calculate if its elastic or inelastic as it makes no difference if the answer is plus or minus.
Elastic – (if the) Price up, Revenue down
Price down, Revenue up
Inelastic – Price up, Revenue up
Price down, Revenue down
Sometimes, businesses will want their product to be inelastic while others would want their product to be elastic. Such examples are houses, where the owners don’t want the price to change significantly to demand as their life savings have been spent on that house. Whereas something like petrol, where the price varies to demand wants to be elastic as the demand for petrol is on the rise and doesn’t look to be going down, therefore the price will continue to increase, unfortunately.