Price Elasticity of Demand (PED) (DP IB Economics) : Revision Note
The Definition & Calculation of PED
The law of demand states that when there is an increase in price, there will be a fall in the quantity demanded
Economists are interested by how much the quantity demanded will fall
Price elasticity of demand reveals how responsive the change in quantity demanded is to a change in price
The responsiveness is different for different types of products
Calculation of PED
PED can be calculated using the following formula
To calculate a % change, use the following formula
Worked Example
A firm raises the price of its products from $10 to $15. Its sales fall from 100 to 40 units per day. Calculate the PED of its products
[2 marks]
Answer:
Step 1: Calculate the % change in QD
Step 2: Calculate the % change in P
Step 3: Insert the above values in the PED formula
Step 4: Final answer = 1.2
The PED value will always be negative so economists ignore the sign and present the answer as 1.2
(Two marks for the correct answer or 1 mark for any correct working in the process)
Examiner Tips and Tricks
In Paper 2 you are occasionally given the PED value and the %Δ in QD - you are then asked to calculate the %Δ in price. Follow the standard math procedure as follows:
1. Substitute the values provided into the equation
2. Substitute X for %Δ in price
3. Solve for X
Interpreting PED Values
The size of PED Varies from 0 to Infinity (∞) and is Classified as Follows
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0 | Perfectly Inelastic |
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0→1 | Relatively Inelastic |
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1 | Unitary Elasticity |
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1→ ∞ | Relatively Elastic |
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∞ | Perfectly Elastic |
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The Determinants of PED
Some products are more responsive to changes in prices than other products
The factors that determine the responsiveness are called the determinants of PED & include:
Availability of substitutes: good availability of substitutes results in a higher value of PED (relatively elastic)
Addictiveness of the product: addictiveness turns products into necessities resulting in a low value of PED (relatively inelastic)
Price of product as a proportion of income: the lower the proportion of income the price represents, the lower the PED value will be. Consumers are less responsive to price changes on cheap products (relatively inelastic)
Time period: In the short term, consumers are less responsive to price increases resulting in a low value of PED (relatively inelastic). Over a longer time period consumers may feel the price increase more and will then look for substitutes resulting in a higher value of PED (relatively elastic)
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