hi there in this topic video we're going to be looking at price elasticity of demand there's a lot to get through so let's get started price elasticity of demand measures the responsiveness of demand after a change in price and the basic formula for calculating the coefficient of elasticity is the percentage change in quantity demanded divided by the percentage change in price now since changes in price and quantity usually move in opposite directions usually we don't bother to put in the minus sign we're more concerned with the coefficient of elasticity of demand so what are those coefficients if the price elasticity or ped is zero then demand is perfectly inelastic demand doesn't vary at all when the price changes and we would draw the demand curve is vertical a coefficient value of between zero one means that demand is inelastic demand is relatively unresponsive to a change in price a coefficient of one means that the percentage change in demand is exactly the same as the percentage change in price and demand is unitary elastic that will leave total spending the same at each price level and if the coefficient of ped is greater than one we say that demand responds more than proportionately to a change in price and it is price elastic this means the price elasticity would be greater than one for example if the price increases by 10% and demand drops by 30% that gives a value of minus three but of course the coefficient is three now what are the key factors that help shape and determine the value for a price elasticity of a product perhaps the most important is the number of close substitutes and the more close substitutes are in the market the more elastic is demand because consumers find it easy to switch or example here is the many different brands of breakfast cereal for another example air travel and train travel or are weak substitutes for InterContinental flights but much closer substitutes for journeys of let's say 200 to 300 kilm between major cities second factor is the price of the product relative to the consumer's income basically products that take up a high percentage of income will tend to have a more elastic demand because any given price change does matter a third factor is the cost of switching or substituting between different products so there may be some costs involved in switching in which case demand tends to be inelastic for example mobile phone service providers may require a contract which has the effect of locking in some consumers once a choice is being made EAS equally when the cost of substitution is low demand tends to be more price elastic brand loyalty and habitual consumption also affects price elasticity of Demand with habitual consumption consumers become less sensitive to the price of the good of of what they're buying because they're buying it out of habit effectively it's become the default choice so strong band loyalty and consumer loyalty to a particular product makes demand less elastic and another factor is the degree of necessity or luxury so Necessities tend to have an inelastic demand whereas luxuries tend to have a more elastic demand so for example a good example of a necessity is rare Earths these are metals that are an essential raw material in the making of solar cells batteries for example now there are other factors affecting elasticity um for example the breadth of definition of a good or service the demand for petrol or meat is often inelastic but the demand for particular brand may be more price sensitive but these are the five key factors to think about let's look at the the important relationship between elasticity of demand and a business's total revenue which we calculate by price per unit multiplied by quantity and here's a table to show through let's say we cut the price from 20 pound per unit to 18 demand increases by 50 units and you see from our table here that total revenue goes up by £500 if we put the numbers in we find that the coefficient for price elasticity is 2.5 in other words demand in this example is elastic and uh the total revenue will go up let's say we cut the price from £16 to 40 in pounds now demand again increases by 50 units uh the total revenue still increases just a little bit and if we do the the calculations using the formula we find that the the price elasticity of demand is 1.3 just the other side of being elastic and again total revenue goes up but then look at a a further price fall from1 to10 that's a a 2 price Fall Again 50 increase in demand but this time total revenue goes up Goes Down And if we do the calculation for elasticity we find that the price elasticity for that price reduction is 75 in elastic so therefore when demand is inelastic a price fall causes total revenue for a producer to go down let's have a look at some demand curves which have a different elasticity so here's our first example uh and in this example the coefficient of elasticity is less than one demand is priced in elastic and the firm can increase their price for example from P1 to P2 they get some higher income from selling at the the higher price that shaded blue they lose some revenue from the fall and the quantity consumed from q1 to Q2 the blue area is bigger than the yellow area so in this case increasing the price has led to revenue increasing demand's in elastic in this in this situation here's a more elastic price sensitive shallow gradient demand curve so a falling price in this example is better used for the producer if they cut the price from P1 to P2 the supplier stands to gain extra Revenue because the change in the quantity demanded from q1 to Q2 is proportionately higher than the reduction in the price this area the Blue Area the extra revenue from selling more units is bigger than the yellow area from selling them at a lower price so when demand is elastic a fall in price increases total revenue here's an extreme example of a demand curve it's a vertical demand curve with a coefficient of price elasticity equal to zero demand does not change at all if there's a change in price and effectively it's the idea that consumers will be willing or perhaps able to pay any price for the right to consume a product just by lifting the price from P1 to P2 to P3 the business can increase their total revenue The Other Extreme is a perfectly elastic demand curve with an elasticity coefficient of infinity in this situation demand is perfectly elastic and the business can only sell at one price as you can see a shift in the supply curve there doesn't cause any change in the market price total revenue course goes up there is another example of a demand curve nonlinear one in this case this is a unitary elastic demand curve where the percentage change in the price is the same as the percentage change in quantity demanded the result being that the area underneath the demand curve is the same so when elasticity of demand is equal to one total revenue stays the same when there's a price change and that's a unitary elastic demand curve now not many students know that the elasticity of demand varies As you move down a demand curve even if the demand curve looks as if it's a straight line the elasticity will change let's just have a little look at this so uh let's let's reduce the price initially from a high price P1 down to P2 and you can see that we lose the Blue Area because we're selling at a cheaper price we gained the yellow area because we're selling more q1 moves to Q2 so in this case a fall in the price from P1 to B2 has caused total spending to go up the elasticity must be more than one but if we move down the demand curve some distance and then think about a a similar price fall from P3 to P4 that is a bigger price for in percentage terms we lose the blue area from selling at a cheaper price per unit it we gain the yellow area because we're selling Q3 to Q4 the extra bits but hopefully you can see here that the total revenue must have gone down and if the revenue Falls when you cut your price then demand must be in elastic so the elasticity of demand will vary along a linear demand Gove now why is elasticity useful for producers this is one of the commonly asked exam questions well the crucial point is to understand the relationship between price elasticity a change in price and what happens to total revenue and businesses who are Savvy and smart really really work that relationship out and uh change their prices to their maximum Advantage when elas demand is is low in markets we often times see lots of price volatility that's quite important for producers to to adjust to and another key application is when a government introduces for examp example an indirect tax perhaps higher vat or an increase in a duty the elasticity of demand will help determine the extent to which a firm is able to pass on a tax to the consumer in the form of a higher price I will cover the effect of an indirect tax uh and elasticity in a separate topic video check those out on YouTube crucially I think the most important application is probably the fact that businesses know that uh different consumers have different elasticity demand for the same product so very common pricing tactic in markets is price discrimination and this is where a supplier a business charges different prices for the same product for example they might charge a peak or an off peak price or they might charge household users a little a different price to Industrial users they tend to charge the higher price to Consumers with an inelastic demand and a lower competitive price to people who are more price sensitive the taxi company Uber so successful it might by Google eventually they engage in what's called surge pricing or dynamic pricing where they the average Fair goes up at peak times to take advantage of low elasticity of demand if you want to read more about surge pricing check out the CH website or just simply Google uh Uber Dynamic pricing just uh three quick evaluation points to be aware of when you're talking about elasticity of demand clearly a lot of the data that businesses use is inaccurate or incomplete so we normally talk about estimated elasticity of demand rather than fully known confirmed figures the second point is that the elasticity of demand for a given product will vary by region in the United Kingdom it'll vary by time period there'll be a lot of variation and different shap of elasticity so there's not one single uniform coefficient for a particular product indeed the price elasticity will also vary within product ranges so for example premium products although they're luxuries might actually have a more elas in elastic demand because of their perception whereas an economy product might be uh tailored as a very price sensitive product because consumers are very susceptible to a good deal at the supermarket so these things are worth bearing in mind well we've covered a lot here this has been a topic video covering price elasticity of demand and we'll return to this topic lots of times in our year one microeconomics videos thanks for joining in this time see you again soon