Question

What is unit elastic? When the price of a god goes up and demand is unit elastic, what would happen to the total revenue?

Answer 1

First, let's look at elasticity. Elasticity is a measure of responsiveness of one variable to another, somewhat like correlation. Elasticity, however, uses a percentage measure. In fact, the simple equation for it is (% change in quantity)/(% change in price). There are two forms of elasticity, demand elasticity and supply elasticity. In effect, it's measuring how sensitive either one is to a change in price. A very quick and strong reaction to a change in price is termed "elastic" while a sluggish or nonexistent reaction is called "inelastic". Some goods or services are more elastic than others. So when you calculate the elasticity, a figure of greater than 1 means that the supply or demand curve is quite elastic, while a figure less than 1 indicates that the one under consideration is inelastic. A figure of exactly 1 is termed "unit elastic".

What this doesn't take into consideration, of course, is time. This is a key understanding in Keynesian economics (if you'll pardon the lame pun). Keynes acknowledged that most goods and services had elasticity, but argued that prices were "sticky" in the short run and not very elastic at all.

If demand is unit elastic then change in price has no impact on total revenue. Any change in price is matched by change in demand by same amount. Say if price falls by 10% demand increases by 10% and vice-versa, so no change in total revenue (as total revenue is product of price and quantity).

Also remember-

Elasticity= percentage change in demand/percentage change in price

So when elasticity=1

Percentage change in price= percentage change in demand.

Demand curve in this situation will be rectangular hyperbola and its equation is

PQ= K

Where P is price ,Q is quantity and K is a constant. So any change in P will be matched by Q so that product (total revenue) remains the same constant K.