WHAT IS PRICE ELASTICITY OF DEMAND?

EXPLAIN
VARIOUS DEGREES AND METHODS OF MEASURING PRICE
ELASTICITY OF DEMAND?
Price Elasticity of Demand:-
The price elasticity of demand is the measure of the responsiveness of a
good to change in the good’s price other things being equal. It is equal to
the ratio of the percentage change in the quantity demanded to a
percentage change in the price. It shows how much quantity demanded of a
good changes when its price changes. There is an inverse relation between
price and quantity demanded of a good.
In the words of Lipsey, “Because of the negative slope of the demand curve, the
price and the quantity will always change in opposite direction. One change will
be positive and other negative, making the measured elasticity of demand
negative.”
percentage change inquantity demand
Ed= percentage change∈ price

*The negative sign is ignored to avoid an ambiguity which might otherwise arise.
Degrees of Price Elasticity of Demand:-
1. Perfectly Elastic Demand:-
The situation in which demand is infinite, a very little rise in price can lead
the demand to fall to zero and a very little fall in price can lead the demand
to rise to infinity.
Y

6 Ed=∞
Price 4 D D

O 10 20 30
 Quantity

2. Perfectly Inelastic Demand:-

The situation in which change in price does not cause any change in
quantity demanded of the commodity.
Y
Ed=0 D

O 2 4 6 X
3. Unitary Elastic Demand:-
The situation in which the percentage change in price is equal to the
percentage change in quantity demanded. It is called a rectangular
hyperbola.
Y D

P Ed=1
Price
T

O M N X
Quantity
4. Greater Than Unitary Elastic Demand:-
The situation in which percentage change in price causes more percentage
change in quantity demanded. It is the situation in which fall in price=total
expenditure, rise in price= decrease in total expenditure.
 Y D

P Ed>1

Price D

O M N X
Quantity
5. Less Than Unitary Elastic Demand:-
The situation in which percentage change in price causes less percentage
change in quantity demanded. In this situation, fall in price=decrease in
total expenditure, rise in price=increase in total expenditure.
Y D

Ed<1
Price T

O M N X
Quantity
Methods of Measuring Price Elasticity of Demand:-
There are five methods of measuring price elasticity of demand:
 Total Outlay or Total Expenditure
 Proportionate or Percentage Method
 Point Elasticity Method
 Arc Elasticity Method
 Revenue Method

1. Total Outlay or Total Expenditure:-

Total Expenditure or Outlay Method of measuring elasticity of
demand was evolved by Dr. Marshall. According to this method, in
order to measure the elasticity of demand it is essential to know how
much and in what direction the total expenditure has changed as a
result of change in the price of good.
i. Elasticity of demand is unitary when; Ed=1
Due to rise or fall in price of a good total expenditure remains
unchanged.
ii. Elasticity of demand is greater than unitary; Ed>1
Due to rise in price total expenditure decreases, and due to fall in
price total expenditure increases.
iii. Elasticity of Demand is less than unitary; Ed<1
Due to rise in price total expenditure goes up, and due to fall in price
total expenditure goes down.
Y
R
T
A Ed>1
N B

Price
Ed=1
M C

P D Ed<1
O X
Total Expenditure
2. Proportionate or Percentage Method:-
According to this method, percentage change in demand is divided by
percentage change in price.
Percentage change ∈quantity demanded of commodity X
Ed= Percentage change∈ price of commodity X

OR
P
∗Δ Q
Ed= (-) Q
ΔP

*Percentage method is used when change in price consequent change in

demand are very small.
3. Point Elasticity of Demand or Point Elasticity Method:-
Point Elasticity of demand measures the elasticity at a point on demand
curve.
Percentage change ∈quantity demanded of commodity X
Ed= Percentage change ∈its price at a specific point of time

Y
M

Price P

Mid-Point B

O Quantity N X
4. Arc Elasticity:-
It is a measure of the average responsiveness to price change shown by
demand curve over some definite portion between two points on a demand
curve. An arc is the portion between two points on a demand curve. The
elasticity obtained when mid-point or average price and quantity are used
is called the Arc Elasticity.

P A ARC

Price
P C
1

O Q Q
1 X
Quantity

5. Revenue Method:-
Sale proceeds that affirm obtains by selling its product is called revenue
method. Y
A
Ed= A−M
A

E P
T

L
MR B

O M N AR
X
CONCEPTS OF REVENUE:-
  Total Revenue: -The revenue that a firm gets by selling a given
quantity of the products is called total revenue.
OR
Total revenue is the sum of all sales, receipts or income of a firm.
TR=AR×Q or TR=∑MR
(Here, ∑ = summation; MR=marginal revenue)
 Marginal Revenue: -It is the change in total revenue which results
from the sale of one more or one less unit of output.
Change∈Total Revenue Δ TR
MR= Change∈Quantity Sold = Δ Q = TRn –TRn-1
 Average Revenue: -It is the per unit revenue received from the sale of
one unit of a commodity.
OR
Average revenue is the ratio of the total revenue to the quantity sold
of this product.
TR P×Q
AR= Q = Q =P

Output Total Revenue Marginal Average

Revenue Revenue
0 0 0 0
1 10 10 – 0 =10 10 ÷ 1 = 10
2 18 18 – 10 = 8 18 ÷ 2 = 9
3 24 24 – 18 = 6 24 ÷ 3 = 8
4 28 28 – 24 = 4 28 ÷ 4 = 7
5 30 30 – 28 = 2 30 ÷ 5 = 6
6 30 30 – 30 = 0 30 ÷ 6 = 5
7 28 28 – 30 = -2 28 ÷ 7 = 4