Price, Income and Cross elasticities of Demand

Price elasticity of Demand (PED)

measures the responsiveness of quantity demanded to a change in price

Income elasticity of Demand (YED)

measures the responsiveness of quantity demanded to a change in income

Cross elasticity of Demand (XED)

measures the responsiveness of quantity demanded for one good to a change in the price of another good

How to calculate PED

How to calculate YED

How to calculate XED

When PED is 0 the product is

Perfectly inelastic

When PED is between 0 and -1 the product is

Relatively Inelastic

When PED is -1 the product is

Unitary Elastic

When PED is more than -1 the product is

relatively elastic

When PED is infinite, the product is

Perfectly elastic

When YED is negative, the product is an

Inferior good

Inferior good

as incomer rises, demand decreases

When YED between 0 and 1, the product is a

Normal good with income inelastic demand

When YED is more than 1, the product is a

Normal good with income elastic demand

When XED is negative, goods are

complements

When XED is positive, goods are

Substitutes

When XED is 0, goods are

unrelated

Factors that influence PED

- availability of substitutes

- addictiveness of the product

- time and price of the product as a proportion of income

Why Does inelastic PED matter for firms

if demand is inelastic, then an increase in price leads to an increase in total revenue and a fall in price reduces total revenue

Why does elastic PED matter for firms

if PED is elastic, then a rise in price reduces total revenue and a fall in price increases total revenue

Why is PED important for government

important in determining the incidence of tax on producers and consumers

the more price inelastic the good

a greater proportion of the tax is paid by the consumer than the producer, similarly for subsidies the more price inelastic the good, the greater the price fall for consumers.

if YED shows income elastic demand

and the economy experiences a recession, demand is likely to fall significantly

XED will tell a firm...

how demand for their own product will change following a price change by their competitors

if there is inelastic PED and price rises, total revenue will...

increase

if there is inelastic PED and price falls, total revenue will...

decrease

Unitary elastic PED with a rise in price means revenue will

remain unchanged

unitary elastic PED with a fall in price means revenue will

remain unchanged

if PED is elastic and there is a rise in price, revenue will

decrease

if PED is elastic and there is a fall in price, revenue will

increase