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The Use of Price Elasticity of Demand

The Use of Price Elasticity of Demand. Why Elasticity matters?. Elasticity, Total Revenue, and Demand. The elasticity of demand tells suppliers how their total revenue will change if their price changes. Total revenue equals total quantity sold multiplied by price of good.

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The Use of Price Elasticity of Demand

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  1. The Use of Price Elasticity of Demand Why Elasticity matters?

  2. Elasticity, Total Revenue, and Demand • The elasticity of demand tells suppliers how their total revenue will change if their price changes. • Total revenue equals total quantity sold multiplied by price of good.

  3. Elasticity, Total Revenue, and Demand • If ED is elastic (ED > 1), a rise in price lowers total revenue. • Price and total revenue move in opposite directions.

  4. Elasticity, Total Revenue, and Demand • If ED is unit elastic (ED = 1), a rise in price leaves total revenue unchanged.

  5. Elasticity, Total Revenue, and Demand • If ED is inelastic (ED< 1), a rise in price increases total revenue. • Price and total revenue move in the same direction.

  6. $10 8 F Gained revenue 6 Price Lost revenue 4 2 0 1 2 3 4 5 6 7 8 9 Quantity Elasticity and Total Revenue Unit Elastic Demand E = 1 TRE= $4x6=$24 TRF= $6x4=$24 TR constant C E A B

  7. Gained revenue Lost revenue Elasticity and Total Revenue Inelastic Demand E < 1 $10 TR rises if price increases 8 TRG = $1 x 9 = $9 TRH = $2 x 8 = $16 6 Price 4 H 2 G C A B 0 8 1 2 3 4 5 6 7 9 Quantity

  8. Gained revenue J K Lost revenue B Elasticity and Total Revenue Elastic Demand E > 1 $10 C TR falls if price increases. 8 TRJ = $8 x 2 = $16 TRK = $9 x 1 = $9 6 A Price 4 2 0 1 2 3 4 5 6 7 8 9 Quantity

  9. Total Revenue Along a Demand Curve • With elastic demand – a rise in price lowers total revenue. • With inelastic demand – a rise in price increases total revenue.

  10. Q0 Price 0 Quantity Q0 Total Revenue Along a Demand Curve Elastic ED > 1 ED = 1 Inelastic ED< 1 Total revenue 0 Quantity

  11. Relationship Between Elasticity and Total Revenue 7-11

  12. Elasticity of Individual and Market Demand • Price discrimination occurs when a firm separates the people with less elastic demand from those with more elastic demand.

  13. Elasticity of Individual and Market Demand • Firms that price discriminate charge more to the individuals with inelastic demand and less to individuals with elastic demands.

  14. Elasticity of Individual and Market Demand • Examples of price discrimination include: • Airlines’ Saturday stay-over specials. • The phenomenon of selling new cars. • The almost-continual-sale phenomenon.

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