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Understanding Price Elasticity of Demand: A Powerful Tool for Business Decision-Making

Updated: Sep 19, 2023

In the dynamic world of business, understanding consumer behavior and market demand is crucial for success. One key factor that significantly influences demand is the price of a product or service. But how can businesses measure the impact of price changes on demand?

Enter the concept of Price Elasticity of Demand (PED). In this blog post, we will delve into the fascinating world of PED, exploring its significance for businesses and providing real-life examples. So, let's embark on this journey of understanding and calculation!

Learn more by watching the video and reading the blog post below:

What is Price Elasticity of Demand?

The Price Elasticity of Demand (PED) is a metric used by businesses to assess how changes in price affect the demand for their goods and services. It quantifies the responsiveness of consumer demand to variations in price.

In the realm of price elasticity, products and services can be classified as either elastic or inelastic. Elastic products are highly sensitive to price changes, meaning that a small change in price leads to a proportionally larger change in demand. On the other hand, inelastic products are less sensitive to price changes, with demand showing relatively minor fluctuations even when prices shift.

Elastic Products: The Impact of Price Changes

Consider a scenario where a business increases the price of a product by 10%. If the demand decreases by more than 10% (let's say 12%), the product is considered elastic. In this case, raising the price would result in a decrease in total sales revenue, despite the higher price per unit. Conversely, if the price is reduced by 10%, demand would increase by more than 10% (e.g., 12%). Therefore, lowering the price of an elastic product can lead to an overall increase in total sales revenue.

Examples of products with elastic demand include chocolate bars, where customers have numerous alternatives and little brand loyalty. Supermarket staples like milk, bread, fruit, and vegetables also fall into this category due to intense competition and consumer choice.

Inelastic Products: Price Stability

Inelastic products, as mentioned earlier, are less responsive to price changes. If a business selling an inelastic product increases its price by 10%, the resulting change in demand would be less than 10%. Consequently, total sales revenue would increase. However, reducing prices for inelastic products doesn't significantly boost demand. Even if the price decreases by 10%, demand may only increase by a smaller percentage (e.g., 5%). Therefore, reducing prices is not an effective strategy for increasing sales of inelastic products.

Examples of products with inelastic demand include train tickets for commuters, who rely on them for transportation, and high-end sporting event tickets, where loyalty to teams and the sport itself outweighs price considerations.

To see a worked example where the price elasticity of demand if calculated for a business, just watch the explainer video at the start of this blog if you haven't already done so.

To conclude, Price Elasticity of Demand is an indispensable tool for businesses, allowing them to gauge the impact of price changes on demand and total sales revenue. By understanding whether their products or services are elastic or inelastic, businesses can make informed decisions regarding pricing strategies. Whether it's adjusting prices to increase revenue or maintaining stability, businesses armed with knowledge of PED can navigate the competitive landscape with confidence.

We hope this blog post has shed light on the significance of Price Elasticity of Demand for business students. If you want to dive deeper into various business topics, don't forget to subscribe to Two Teachers on YouTube for weekly video uploads. Best of luck with your future business endeavours!

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