D2 Price Elasticity of Demand
Price elasticity of demand is a measure of the responsiveness of demand to a change in price. The demand of elastic products is very responsive to changes in price. The demand of inelastic products is not very responsive to changes in price.
Price Elastic
PED = >1 or <-1
Price Inelastic
PED = >-1 or <1
Unitary Elasticity
PED = 1
Price Elastic Products
Price elastic products are unlikely to be a necessity, may have easy substitutes available and they may represent a large proportion of somebody’s income so an increase in price becomes unaffordable. If there is a long enough amount of time for customers to make a decision, the products are likely to be more elastic as they have time to find alternatives.
An increase in price of a $1000 holiday to $1100 represents an increase in price of 10%. If that reduced demand by 20%. The elasticity would be calculated as
PED = -20%/10% = 2
Price Inelastic Products
Price inelastic products are usually necessities, have few substitutes available or represent such a small proportion of income that a large change in price is still affordable. If a buying decision needs to be made quickly, a consumer may pay pay the higher price until they find an alternative.
A decrease in price of toothpaste from $4 to $2 is unlikely to cause people to brush their teeth more so demand may only increase by 1%/
PED = 1%/-50% = -0.02