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Price Elasticity of DemandPrice Elasticity of DemandIn order to predict what will happen to

total expenditures,We must know how much quantity will

change when the price changes

Price elasticity of demand isthe percentage change in the quantity

demanded that results from a one-percent change in its price

2

Price Elasticity of DemandPrice Elasticity of Demand

P

QD

D

P

%

%

3

Price ElasticityPrice ElasticityElastic – quantity changes by a lot when

price changes even a littleprice elasticity is greater than one

Inelastic – quantity changes by a little when price changes even a lotprice elasticity is less than one

Unit elastic – quantity change = price changeprice elasticity equals one

When calculating price elasticity of demand, you will always get a negative- WHY?For convenience we will take the absolute value

4

Price Elasticity and Expenditures

Price Elasticity and ExpendituresFor an elastic product

Quantity demanded is highly responsivePercentage change in quantity dominatesAn increase in price will reduce total expenditureA decrease in price will increase total expenditure

For an inelastic productQuantity demanded is not responsivePercentage change in price dominatesAn increase in price will increase total expenditureA decrease in price will decrease total expenditure

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Fig. 5.12 Graphical Interpretation of Price

Elasticity of Demand

Fig. 5.12 Graphical Interpretation of Price

Elasticity of Demand

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Other Elasticities of Demand

Other Elasticities of Demand

Income Elasticity of DemandThe amount by which the quantity

demanded changes in response to a one-percent change in income

Positive for normal goodsNegative for inferior goods

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Other Elasticities of DemandOther Elasticities of Demand

Cross Price Elasticity of DemandThe amount by which the quantity

demanded of one good changes in response to a one-percent change in the price of another good

Positive for substitutesNegative for complements

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Perfect ElasticityPerfect ElasticityPerfectly Elastic demand

Price elasticity of demand is infiniteEven the slightest change in price leads

consumers to find substitutes

Perfectly Inelastic demandPrice elasticity of demand is zeroConsumers do not switch to substitutes

even when price increases dramatically

Do goods like these exist?

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Fig. 5.14Perfectly Elastic and Perfectly Inelastic

Demand Curves

Fig. 5.14Perfectly Elastic and Perfectly Inelastic

Demand Curves