hi everybody Jacob Reed here from review econ.com today we're going to be talking about the price elasticity of demand if after watching this video you still need a little more help head over to review econ.com and pick up the total review booklet it has everything you need to know to Ace your microeconomics or macroeconomics exam let's get into the content so first of all we need to know what is price elasticity we already know that when prices go up people buy less goods and services and the quantity demanded decreases with that price increase we also know that when prices decrease the quantity demanded increases as consumers are more willing to buy that particular good price elasticity is how much more or less people buy when there is a change in price essentially we are looking at how sensitive consumers are to an increase or decrease in prices and how much that increase or decrease in price changes the quantity demanded for consumers and when it comes to the price elasticity of demand we have six tests in determining that price elasticity the first test in determining the price elasticity is whether or not the product is a need for consumers if consumers need a product the demand is going to be price inelastic that means consumers are going to be insensitive to a price change life-saving drugs or medications have inelastic demand because when prices increase consumers Buy approximately the same amount but Goods that are not Necessities are going to have elastic demand that means that consumers are going to be more sensitive to price changes and when prices increase consumers will buy a lot less of the product but Goods that are not Necessities are going to have elastic demand that means that consumers are going to be more sensitive to price changes and when prices increase consumers will buy a lot less of the product cookies and other desserts have elastic demand the second test we have in determining the price elasticity of demand is how many substitutes a particular product has if there are very few substitutes for a product then consumers are going to be more insensitive to a price change and that means the product will have inelastic price elasticity of demand heart transplants are both a necessity and have very few substitutes as a result they have inelastic demand if the price of heart transplants increase consumers that are in the market to buy a heart transplant will likely buy the same amount likewise if the price of heart transplants decreases consumers aren't going to buy more heart transplants if on the other hand we have many substitute for a product and that product will have an elastic price elasticity of demand a particular brand of cola will have lots and lots of substitutes and as a result consumers are sensitive to a price change of cola when prices decrease consumers buy a lot more and when prices increase consumers buy a lot less the third test we have is how much of the consumer's income the price of the product makes up products that are cheap are more likely to have inelastic demand and consumers of these cheap products like pencils will not be as sensitive to price changes of the product expensive Goods on the other hand like cars are going to be more elastic in their demand and that means consumers are more sensitive to price changes the fourth test we have in determining the price elasticity of demand is the shape of the demand curve itself the more vertical a particular demand curve is the more inelastic the price elasticity of demand is a large change in price will cause a small change in the quantity demanded if on the other hand a demand curve is more horizontal than vertical then that demand curve is more likely to be elastic here a small change in price causes a large change in the demanded and that demand curve is relatively elastic the fifth test we have is the total revenue test the formula for total revenue is the price of the product times the quantity sold if the price of the product increases and the price times the quantity or the total revenue decreases then that means the demand curve in that price range is relatively elastic the way I remember it is the price is going One Direction and the total revenue is going the other direction and that means we're stretching it out therefore It's relatively elastic if price increases and total revenue also increases now they're going in the same direction we're no longer stretching this is a relatively inelastic demand curve through that price range we can also flip this around and if price decreases and we see an increase in total revenue that means the demand curve is relatively elastic they're once again going in opposite directions stretching it out just like an elastic band would if the price decreases and we see a total revenue decrease as well now they're going in the same direction again and that means the demand curve has a price elasticity that is relatively inelastic through that price range now if there's an increase or decrease in price and total revenue doesn't change we have a special term for that it's called Unit elastic it's essentially halfway between relatively elastic and relatively inelastic if we take a look at the shaped curves that we had before we can see that at the high price we have a large amount of total revenue and as the price Falls the total revenue box right there is going to shrink since the price decrease came with a decrease in total revenue that means that the price elasticity of that demand curve is relatively inelastic through that price range but on our relatively elastic curve at the high price we have a low amount of total revenue but at a lower price the total revenue box actually increases and since total revenue increases with a decrease in price that demand curve through that price range is relatively elastic now the truth is a straight line demand curve is actually going to have three ranges at some prices we will have a elastic demand curve we will have a unit elastic point in the middle but then on the lower portion of that demand curve we are likely to see an inelastic range we can see that mathematically through this table showing the price and quantity along with the total revenue of different prices and quantities and when you graph out that total revenue curve with the demand curve above you can see that in the beginning total revenue increases wow that demand curve is elastic then as the total revenue curve hits its maximum point we also see the unit elastic point and then total revenue begins to fall as the demand curve becomes inelastic if we go ahead and add in a marginal revenue column to this table and then add the marginal revenue curve below the demand curve we can see that the marginal revenue gives us an indication of the elasticity of the demand curve above when marginal revenue is positive that means total revenue is increasing and the demand curve above is elastic as a result in the middle there between six and five dollars on this table we see that the total revenue doesn't change and marginal revenue is zero so when marginal revenue hits that axis the point on the demand curve above is the unit elastic point and if the quantity continues to increase and price continues to fall the marginal revenue will now be negative that indicates the total revenue is decreasing with that decrease in price and so the demand curve above is inelastic in that price range so the moral of this story is that when marginal revenue is positive the demand curve above is elastic when marginal revenue is zero that is where we will find the unit elastic point on the demand curve above and when marginal revenue is negative that's the inelastic range of the demand curve above and when you have a linear or straight line demand curve you will see all three ranges at some point within that demand curve finally our last test for determining the price elasticity of demand is calculating elasticity coefficients the formula for the price elasticity of demand coefficient is the percentage change of quantity divided by the percentage change of price for demand curves you are always going to have a negative coefficient but we're going to take the absolute value of the coefficient to determine the elasticity of demand if that coefficient has an absolute value that is greater than 1 then that demand curve is relatively elastic and the consumers of that product are price sensitive if the price elasticity of demand coefficient has an absolute value of 1 meaning it's negative one and that means we have a unit elastic demand curve through the price range in question finally if we have a coefficient that has an absolute value that is less than one meaning that it is a decimal then the price elasticity of that demand curve is relatively inelastic through that range so let's try it out so if there's a 30 increase in the price of a product resulting in a 6 60 percent decrease in the quantity demanded of that product we will have a price elasticity of negative two that is an absolute value that is greater than one meaning the demand curve is relatively elastic through that price range If instead we have a 20 increase in price resulting in a ten percent decrease in the quantity demanded that would give us a elasticity coefficient of 0.5 and then the coefficient has an absolute value less than one meaning that demand curve is price inelastic let's take a look at one more example and this time we have a 25 increase in price resulting in a 25 decrease in the quantity demanded here we have a coefficient of negative one that has an absolute value of one meaning this demand curve is unit elastic through that price range now you might get some questions on your exam where they don't explicitly tell you what the percentage change of price or quantity is and you may just be given a new price and an old price and be expected to calculate that percentage change if that happens there are two methods for determining the percentage change the preferred method for the AP microeconomics exam is called the endpoint formula for percentage change that formula is new minus old divided by old times 100. so if price increases from twenty dollars to twenty four dollars and that causes the quantity to decrease from 200 down to 180. we can calculate the percentage change of quantity and price by following the new minus old divided by old times 100 formula when it comes to the price change we take the twenty four dollars that's the new price minus the 20 old price divided by 20 then times 100 and that gives us a 20 change in price we can also take the new quantity demanded of 180 subtract the 200 Old quantity divided by the old quantity of 200 multiply by 100 and that gives us a negative 10 percent change in the quantity demanded finally we will take our negative 10 percent change in quantity divided by the 20 change in price and that gives us an elasticity coefficient of negative 0.5 and this demand curve is relatively in a elastic and when it comes to the endpoint formula for percentage change make sure you read the questions carefully to determine what the new and old price and quantity are because if you go the wrong direction you will get a different elasticity coefficient and that's why there are many economists who prefer a different method for calculating percentage change that different method is called the midpoint formula for calculating percentage change now this formula is not the one that is recommended on the AAP microeconomics exam but I suggest you use the one that your professor or teacher prefers the midpoint formula is new minus old divided by new plus old divided by 2 times 100. this method for calculating percentage change is more accurate but more difficult for the math and since the math on the AP microeconomics exam is meant to be relatively simple the endpoint method is all you need on that exam finally we're going to talk about the extremes when it comes to elasticity coefficients you could see a demand curve that is horizontal that is a demand curve that is perfectly elastic here we can see any quantity a single price if the price increases by any amount the quantity demanded will be zero this demand curve has a price elasticity coefficient that is infinity or more precisely undefined you could also see a demand curve that is vertical there we have one quantity demanded at any price that means we could have any percentage change in price but we will have a zero percent change in quantity with a perfectly vertical demand curve we have an elasticity coefficient of zero and there you have it that is what you need to know about the price elasticity of demand now I have an elasticity coefficients game free to be able to play but before you play that make sure you watch the other elasticities video and if you still need more help after that head over to reviewecon.com and pick up the total review booklet it has everything you need to know to Ace your microeconomics or macroeconomics exam that's it for now I'll see y'all next time