Discuss the relationship between price elasticity and total revenue. Are they significant?

Expert Solution

When absolute value of price elasticity is higher than 1, demand is elastic. With elastic demand, a N% increase (decrease) in price decreases (increases) quantity demanded by more than N%, therefore total revenue decreases (increases).

When absolute value of price elasticity is lower than 1, demand is inelastic. With inelastic demand, a N% increase (decrease) in price decreases (increases) quantity demanded by less than N%, therefore total revenue increases (decreases).

When absolute value of price elasticity is equal to 1, demand is unit elastic. With unit elastic demand, a N% increase (decrease) in price decreases (increases) quantity demanded by exactly N%, therefore total revenue does not change with price.

This relationship assumes importance in managerial decision making, especially in pricing policy. Managers should increase price in the inelastic market segment and decrease price in the elastic market segment in order to increase total revenue.

Rahul Sunny answered 2 years ago

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