Price elasticity of demand (PED)

What PED measures

Price elasticity of demand (PED) measures how responsive quantity demanded is to a change in the good's own price.

PED = % change in quantity demanded ÷ % change in price

• Elastic (|PED| > 1): quantity changes by a larger percentage than price.
• Inelastic (|PED| < 1): quantity changes by a smaller percentage than price.
• Unit elastic (|PED| = 1): both change by the same percentage.

Worked calculation

A café raises the price of a drink from $10 to $12, and daily sales fall from 100 to 90.

• % change in price = (12 − 10) ÷ 10 × 100 = +20%
• % change in quantity = (90 − 100) ÷ 100 × 100 = −10%
• PED = −10 ÷ 20 = −0.5, so demand is price inelastic.

Total revenue rises from $1,000 (100 × $10) to $1,080 (90 × $12), as expected when demand is inelastic.

What affects PED

• Substitutes: the more close substitutes, the more elastic demand.
• Necessity or luxury: necessities tend to be inelastic.
• Share of income: goods that take a large share of income tend to be more elastic.
• Time: demand becomes more elastic over time as consumers find alternatives.
• Habit or addiction: products such as cigarettes tend to be inelastic.

Why it matters

PED helps explain real decisions:

• Firms: whether a price rise will raise or lower revenue.
• Governments: indirect taxes on inelastic goods raise more revenue and change behaviour less, and most of the tax falls on consumers.
• Primary producers: inelastic demand for commodities helps explain why prices swing so much when supply changes.

Using PED in the exam

In Paper 1 part (b), use PED to evaluate a policy. For example, a sugar tax may cut consumption less than hoped if demand is inelastic, but it will raise revenue the government can spend on health. Use a real example and say what the PED of that product is likely to be and why.

Common mistakes

• Swapping the formula (price on top).
• Calling demand "inelastic" because the curve looks steep, without considering the part of the curve and the scale.
• Forgetting that PED usually changes along a straight-line demand curve.