PED and total revenue | Allocation of Resources

This presentation explores the intricate relationship between price elasticity of demand and revenue, shedding light on how changes in pricing can impact consumer behavior and overall sales performance. Gain valuable insights into the concept of elasticity and learn how businesses can strategically adjust prices to maximise revenue in various market conditions.

1. Skoolumy.com
PRICE ELASTICITY OF DEMAND
AND
TOTAL REVENUE
Economics
▪P 60% + Q 20% Total revenue rises
▪P 30% + Q 15% Total revenue decreases
▪P 10% + Q 25% Total revenue decreases
▪P 13% + Q 17% Total revenue increases
▪P 20% + Q 20% Total revenue unchanged

2. Skoolumy.com
THE IMPORTANCE OF PRICE ELASTICITY
OF DEMAND
▪Price Elasticity of Demand (PED) is a measure of how quantity
demanded responds to a change in price.
▪Sellers use PED to determine the effect on total revenue of a
rise or fall in prices of their products.

3. Skoolumy.com
THE PED FORMULA
▪PED is:
Percentage change in quantity demanded
Percentage change in price

4. Skoolumy.com
TOTAL REVENUE
▪Total revenue is the total amount realised from the sale of a
good or service.
▪Total revenue is:
Price per unit (P) x Quantity sold (Q)

5. Skoolumy.com
RELATIVELY INELASTIC DEMAND AND
TOTAL REVENUE (PRICE RISE)
▪The percentage change in price results in a smaller percentage
change in quantity demanded if demand is relatively inelastic.
▪PED is less than 1. For example, the PED is 0.3 if a 60%
increase in price leads to a 20% fall in quantity demanded by
consumers.

6. Skoolumy.com
RELATIVELY INELASTIC DEMAND AND
TOTAL REVENUE (PRICE RISE)
▪Total revenue will rise as the rise (60% in price) is greater than
the fall (20% in quantity demanded).
▪P 60% + Q 20% Total revenue rises

7. Skoolumy.com
INCREASE IN PRICE WHEN PED IS
RELATIVELY INELASTIC (GRAPH)
Q
1Q
2
D
Price
Quantity
+60%
P
1
P
2
-20%

8. Skoolumy.com
RELATIVELY INELASTIC DEMAND AND
TOTAL REVENUE (PRICE REDUCTION)
▪If the price is reduced, the quantity demanded will rise by a
smaller percentage. If, for example, a 30% fall in price results
in a 15% increase in quantity demanded, total revenue will
decrease as the fall (30% in price) is greater than the increase
(15% in quantity demanded).
▪P 30% + Q 15% Total revenue decreases

9. Skoolumy.com
PRICE REDUCTION WHEN PED IS
RELATIVELY INELASTIC (GRAPH)
Q
2Q
1
D
Price
Quantity
-30%
P
2
P
1
+15%

10. Skoolumy.com
RELATIVELY ELASTIC DEMAND AND
TOTAL REVENUE(PRICE RISE)
▪The percentage change in price results in a bigger percentage
change in quantity demanded if demand is relatively elastic.
▪PED is greater than 1. For example, the PED is 2.5 if a 10%
increase in price leads to a 25% fall in quantity demanded by
consumers.

11. Skoolumy.com
RELATIVELY ELASTIC DEMAND AND
TOTAL REVENUE (PRICE RISE)
▪If a 10% increase in price results in a 25% fall in quantity
demanded, total revenue will fall as the rise (10% in price) is
smaller than the fall (25% in quantity demanded).
▪P 10% + Q 25% Total revenue decreases

12. Skoolumy.com
INCREASE IN PRICE WHEN PED IS
RELATIVELY ELASTIC (GRAPH)
Q
1Q
2
D
Price
Quantity
+10%
P
1
P
2
-25%

13. Skoolumy.com
RELATIVELY ELASTIC DEMAND AND
TOTAL REVENUE (PRICE REDUCTION)
▪If a 13% decrease in price results in a 17% increase in quantity
demanded, total revenue will rise as the fall (13% in price) is
smaller than the increase (17% in quantity demanded).
▪P 13% + Q 17% Total revenue increases

14. Skoolumy.com
REDUCTION IN PRICE WHEN PED IS
RELATIVELY ELASTIC (GRAPH)
Q
2Q
1
D
Price
Quantity
-13%
P
2
P
1
+17%

15. Skoolumy.com
UNITARY ELASTICITY OF DEMAND AND
TOTAL REVENUE
▪The percentage change in price is the same as the percentage
change in quantity demanded if demand is unitary.
▪PED is 1. For example, a 20% rise in price leads to a 20% fall in
quantity demanded.
▪Total revenue remains unchanged whether price is increased
or decreased.
▪P 20% + Q 20% Total revenue unchanged

16. Skoolumy.com
INCREASE IN PRICE WHEN PED IS
UNITARY (GRAPH)
Q
1Q
2
D
Price
Quantity
+20%
P
1
P
2
-20%

17. Skoolumy.com
PED AND TAX REVENUE
▪Since PED affects consumer spending on goods and services, it
is useful to the government. Taxes increase prices and influence
the amount purchased by the consumers.
▪It is advisable to increase the tax on a product with fairly inelastic
demand as tax revenue will increase.
▪If tax is imposed on a product with fairly elastic, tax revenue will
decrease.

18. Skoolumy.com
ILLUSTRATION
▪A firm is considering raising its price. If the price is increased
from $1,000 to $1,500, quantity demanded will fall from 200,000
to 150,000. (a) Calculate the PED; (b) What is your
recommendation?
▪Solution:
(a) PED = % change in quantity demanded
% change in price

19. Skoolumy.com
ILLUSTRATION
▪Q1 = 200,000 Q2 = 150,000 P1 = $1,000 P2 = $1,500
▪% change in quantity demanded = Q2 - Q1 x 100
Q1
=150,000-200,000 x 100
200,000
= -50,000 x 100
200,000
= -25%

20. Skoolumy.com
ILLUSTRATION
▪% change in price = P2 – P1 x 100
P1
=$1,500 - $1,000 x 100
$1,000
= $500 x 100
$1,000
= +50%

21. Skoolumy.com
ILLUSTRATION
PED = -25%
+50%
= -0.5
= 0.5 (ignoring the minus sign)
(b) It is advisable for the firm to increase its price because the demand is
price inelastic. The rise in price (50%) outweighs the fall in quantity
demanded (25%) which means total revenue will increase.
Revenue:
$1,000 x 200,000 = $200,000,000 , $1,500 x 150,000 = $225,000,000