All Flashcards
What is Price Elasticity of Demand (PED)?
Measures how sensitive consumers are to changes in the price of a good or service.
Define 'elastic' demand.
Quantity demanded is highly responsive to price changes.
Define 'inelastic' demand.
Quantity demanded is not very responsive to price changes.
What is perfectly inelastic demand?
Quantity demanded does not change regardless of price changes (Ed = 0).
What is perfectly elastic demand?
Quantity demanded is infinitely responsive to price changes (Ed = ∞).
Define unit elastic demand.
Quantity demanded changes proportionally to price changes (Ed = 1).
What is Total Revenue (TR)?
The amount of money a business brings in from sales: TR = P * Q.
Define price-sensitive.
Describes consumers whose quantity demanded changes drastically with price changes.
What is the Price Elasticity of Demand coefficient?
A numerical representation of the price elasticity of demand, calculated as (% Change in Quantity Demanded) / (% Change in Price).
Define relatively inelastic demand.
Demand where the price elasticity of demand coefficient is between 0 and 1 (0 < Ed < 1).
How does PED relate to pricing decisions?
Firms use PED to determine whether raising prices will increase or decrease total revenue.
How does PED affect a firm's decision to offer discounts?
If demand is elastic, discounts can significantly increase quantity sold and overall revenue.
How does the availability of substitutes affect PED?
More substitutes generally lead to more elastic demand, as consumers can easily switch to alternatives if the price increases.
If demand is inelastic, what happens to total revenue when price increases?
Total revenue increases because the decrease in quantity demanded is proportionally smaller than the increase in price.
How does PED influence tax incidence?
If demand is more inelastic than supply, consumers bear a larger burden of the tax. If demand is more elastic than supply, producers bear a larger burden.
How does PED affect the impact of a supply shock on price?
If demand is inelastic, a supply shock will lead to a larger change in price than if demand is elastic.
How does PED relate to luxury goods?
Luxury goods typically have more elastic demand because they are not necessities and consumers can easily forgo them if prices rise.
How does PED relate to essential goods?
Essential goods tend to have inelastic demand because consumers need them regardless of price changes.
How can businesses use PED to forecast sales?
By understanding the PED of their products, businesses can predict how changes in price will affect the quantity they sell.
How does PED affect government revenue from excise taxes?
If demand is inelastic, the government can raise more revenue from excise taxes without significantly reducing the quantity demanded.
What does a vertical demand curve indicate about PED?
Perfectly inelastic demand (Ed = 0).
What does a horizontal demand curve indicate about PED?
Perfectly elastic demand (Ed = ∞).
How does the steepness of a demand curve relate to its elasticity?
Steeper demand curves tend to be more inelastic, while flatter demand curves tend to be more elastic.
On a graph, how is total revenue represented?
The area of the rectangle formed by the price and quantity at a given point on the demand curve.
How can you visually determine if demand is elastic or inelastic using the total revenue test on a demand curve?
Compare the total revenue rectangles at two different price points. If TR increases with a price decrease, demand is elastic. If TR decreases with a price decrease, demand is inelastic.
How is consumer surplus affected by a more elastic demand curve?
Consumer surplus is larger with a more elastic demand curve, as consumers are more sensitive to price changes and benefit more from lower prices.
What does a demand curve that shifts dramatically with a small price change suggest?
A very elastic demand.
What does a demand curve that barely shifts with a large price change suggest?
A very inelastic demand.
How does the slope of a demand curve relate to PED?
The slope is not the same as PED, because elasticity is based on percentage changes, not absolute changes.
How does the shape of the demand curve affect total revenue?
The shape affects how total revenue changes as price changes. Elastic portions of the curve will see TR move inversely with price, while inelastic portions will see TR move in the same direction as price.