Price Elasticity of Demand (PED)

Per (Tse), price elasticity of demand (PED) is a measure of how responsive quantity demanded (Q) of a good is to a change in the price (P) of the good.

For example, if the PED of a product is 2, then for every 1% change in price will lead to a 2% change in quantity demanded.

Consumers can be elastic (responsive to changes in P), inelastic (not very responsive to changes in P), or unit elastic (change in demand is exactly proportional to change in P).

Elastic: if (PED >1)
Inelastic if (PED <1)
Unit elastic if (PED = 1)

Determinants of PED
What determines whether the price elasticity of demand is high or low?

- Availability of close substitutes
More substitutes (alternatives) means higher price elasticity

- Necessities versus Luxuries
Elasticity is higher for luxuries
Elasticity is lower for necessities

- Time horizon
Elasticity tends to be higher in the long run.

Total revenue (TR) and PED
If demand is inelastic: an increase in P will be followed by a small decrease in Q, therefore TR will increase, and vice versa.

If demand is elastic: an increase in P will be followed by a large decrease in Q, therefore TR will decrease

If demand has unit elasticity: an increase in P will be followed by an equal change in Q, therefore TR is not affected.

Application: do drug bans increase or decrease drug related crime?
The government can implement two alternative policies;
1. Increase law enforcement, arrest drug smugglers and stop some drugs from entering the country
2. Increase drug education and treatment programs

With effect will these two policies have on total expenditure on drugs?
Per (Tse)

1. Demand for drugs is considered inelastic, therefore if law enforcement reduces the supply, price will rise, and demand will decrease only slightly. Thus, TR increases, suggesting that this policy may increase drug related crime.
2. These programs could reduce demand for drugs, so demand will decrease, so will price, and therefore TR falls, suggesting that this policy may reduce drug related crime.


Work cited:
Tse, Harry. “Lecture-3 Equilibrium Elasticity.” 2025.