Question

An economist needs a deep understanding of price elasticity concepts and their applicability in today’s economy. 4.1 Define price elasticity of demand and how it is measured.

4.2 Explain the FIVE (5) categories of price elasticity of demand.

4.3 Explain the relationship between the total revenue from the sales of a product and the price elasticity of the demand for the product.

Answer 1

4.1) Price elasticity fo demand is the proportionate change in the demand for a good due to a proportionate change in the price of the good. It is calculated as:

(change in demand/change in price)*(initial price/ initial quantity)

4.2) Five categories are:

(a) infinite elasticity of demand whee the demand curve is horizontal and a small increase in price can reduce the demand to 0.

(b) Elastic demand where elasticity < -1

(c) Unit elastic where elasticity = -1

(d) Inelastic demand where elasticity > -1

(e) Zero elasticity where the demand curve is vertical and not affected by a change in price.

4.3) If the elasticity of demand is high (<-1), the total revenues of the firm can increase by a decline in the price as demand rises faster. If the elasticity of demand is low(>-1), the total revenues of the firm can increase by an increase in the price as demand falls slower tha the rise in price..