Price elasticity of demand refers to the ratio of the:
Question 5 options:
a- percentage change in price of a good in response to a percentage change in quantity demanded.
b- percentage change in price of a good to a percentage increase in income.
c- percentage change in the quantity demanded of a good to a percentage change in its price.
d- none of the above.
The correct answer and explanation is :
The correct answer is:
c- percentage change in the quantity demanded of a good to a percentage change in its price.
Explanation:
Price elasticity of demand (PED) is a concept used in economics to measure how the quantity demanded of a good or service changes in response to a change in its price. This measure helps businesses, policymakers, and economists understand the sensitivity of consumers to price changes and can inform decisions related to pricing strategies, taxation, and regulation.
The formula for calculating price elasticity of demand is:
[
PED = \frac{\%\Delta Q}{\%\Delta P}
]
Where:
- ( \%\Delta Q ) is the percentage change in quantity demanded.
- ( \%\Delta P ) is the percentage change in price.
Key Points:
- Elastic Demand: If the absolute value of PED is greater than 1, the demand for the good is considered “elastic.” This means that consumers are relatively responsive to price changes. A small change in price leads to a relatively large change in the quantity demanded. For example, luxury goods or products with many substitutes tend to have elastic demand.
- Inelastic Demand: If the absolute value of PED is less than 1, the demand is “inelastic.” This means consumers are not very responsive to price changes. A price increase might lead to only a small decrease in the quantity demanded. Examples include necessities like insulin or salt, where there are few substitutes.
- Unitary Elastic Demand: If the absolute value of PED is equal to 1, the percentage change in quantity demanded is exactly equal to the percentage change in price. In this case, the total revenue (price x quantity) remains constant despite changes in price.
Understanding the price elasticity of demand helps businesses determine the optimal pricing strategy to maximize revenue. For example, if demand is elastic, lowering prices may increase total revenue, while if demand is inelastic, raising prices might increase total revenue.