Revision Elasticity & it’s importance

What is Price elasticity? The responsiveness of one variable to changes in another When price rises what happens to demand? Demand falls BUT! How much does demand fall?

Elasticity – the concept If price rises by 10%, what happens to demand? We know demand will fall By more than 10%? or By less than 10%? Elasticity measures the extent to which demand will change

11/10/20154 PeD Mantra…. If answer is between 0 and -1 e.g or -0.8 The relationship is inelastic If the answer is between -1 and infinity e.g or 2 or 12.3 The relationship is elastic Consumers DO NOT react much to a change in price Consumers DO react To changes in prices Consider a 10% increase in price

Elastic or inelastic???? Would customers react lots (ELASTIC) or not much (INELASTIC)….. With the following PeD’s???? Use your whiteboards

Elastic or inelastic? -3 Elastic – because a 10% increase in price would lead to a 30% fall in demand

Elastic or inelastic? -0.4 Inelastic – because a 10% increase in price would lead to a 4% fall in demand

Elastic or inelastic? -0.1 Inelastic – because a 10% increase in price would lead to a 1% fall in demand

Elastic or inelastic? -1.1 Elastic – because a 10% increase in price would lead to a 11% fall in demand

Elastic or inelastic? -14 Elastic – because a 10% increase in price would lead to a 140% fall in demand

What about the effect on revenue?

Using PeD to calculate changes in TR What if a company sells 10,000 units at £5. What is their current TR? TR = P x Quantity sold TR = £5 x 10,000 = £50,000 What if the company has a PeD of -0.5? If they reduced their price – would the customers react a bit or loads? is -0.5 inelastic or elastic? INELASTIC….

Using PeD to calculate changes in TR What if a company sells 10,000 units at £5. What is their current TR? TR = P x Quantity sold TR = £5 x 10,000 = £50,000 What if the company has a PeD of -0.5? …. and they reduce their price to £4.50 What would happen to their TR now? Will it increase or decrease? 1 st you need to know what the % increase in price has been….?

Using PeD to calculate changes in TR What if a company sells 10,000 units at £5. And now their price is £4.50 What is the % change? Difference/original x 100 = % change = 0.5 / 5 x 100 = -10% So if the company originally sold 10,000 units….. And PeD is 0.5 And price has dropped by 10 % What will happen to DEMAND? 10% x 0.5 = 5% So what’s 5% 0f 10,000 units? 500 units But would that be a fall or an increase in sales?????

And the last step of the calculation… The original Q is what would happen to the company TR if they changed their price from £5 to £4.50, with original sales of 10,000? Original TR £5 x 10,000 = £50,000

And the last step of the calculation… The original Q is what would happen to the company TR if they changed their price from £5 to £4.50, with original sales of 10,000? Original TR £5 x 10,000 = £50,000 New sales £4.50 x (10, ) = £4.50 x 10,500 = £47,250

So a price cut …. Doesn’t guarantee higher profits!

What if they increased their price? Price was £5 but now £5.50? Price increase is 0.5/5 x 100 = +10% The company still has a PeD of -0.5 So sales will FALL by 5% 10,000 x 5% = 10, So £5.50 x 9,500 TR = £52,250 So an inelastic product will earn MORE REVENUE with a price rise!

Who needs a recap? If not – get on with the worksheet

Worksheet Questions… 1.A company has a price cut from £10 to £8. What will be the impact on their revenue if they have a PeD of 0.8 and originally sold 30 units? 2.A company has a price cut from £20 to £14. What will be the impact on their revenue if they have a PeD of 2 and originally sold 100 units? 3.A company has a price rise from £15 to £16. What will be the impact on their revenue if they have a PeD of 2 and originally sold 100 units?

Worksheet Question 1 A company has a price cut from £10 to £8. What will be the impact on their revenue if they have a PeD of 0.8 and originally sold 30 units? 10-8 = 2/10 x100 = 20% fall in price 20% x 0.8 = 16% increase in sales 16% of 30 = 4.8 units… can’t sell.8 of a good so they must sell 5… Original TR = 10 x 30 = £300 New TR = (30 +5) x £8 = £280 A price cut with an inelastic good will reduce your revenue So a price rise with an inelastic good will increase your revenue

Worksheet Question 2 A company has a price cut from £20 to £14. What will be the impact on their revenue if they have a PeD of 2 and originally sold 100 units? = 6/20 x100 = 30% fall in price 30% x 2 = 60% increase in sales 60% of 100 = 60 units Original TR = £20 x 100 = £2000 New TR = £14 x (100+60) = £2240 A price cut with an elastic good will increase revenue So a price rise with an elastic good will reduce revenue

Worksheet Question 3 A company has a price rise from £15 to £16. What will be the impact on their revenue if they have a PeD of 2 and originally sold 100 units? = 1/15 x100 = 6.67% rise in price 6.67% x 2 = 13.34% fall in sales 13.34% of 100 = units – but you can’t sell 0.34 of a product …so have to fall by 14 units Original TR = £15 x 100 = £1500 New TR = ( £16 x (100 – 14) = £1376 A price rise with an elastic good will reduce revenue So a price cut with an elastic good will increase revenue

How to make your product more inelastic …why??? …so customers don’t react to price increases! Make your product DIFFERENT to competitors – to keep them brand loyal. Take over the competition! So customers have to buy your products. Make price changes over a short period of time – so customers don’t notice!