Calculation & Determinants of PED

The Definition and Calculation of PED

The Definition and Calculation of PED

• The law of demand states that when there is an increase in price, there will be a fall in 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:

$\text{PED = }\frac{\% \mathrm{change} \mathrm{in} \mathrm{quantity} \mathrm{demanded}}{\% \mathrm{change} \mathrm{in} \mathrm{price}} = \frac{\%△ \mathrm{in}\hspace{0.17em}\mathrm{QD}}{\%△\mathrm{in} \mathrm{P}}$ 

• To calculate a % change, use the following formula:

$\% \mathrm{Change} = \frac{\mathrm{new} \mathrm{value} - \mathrm{old} \mathrm{value}}{\mathrm{old} \mathrm{value}} \times 100$ 

Interpreting PED values

The Meaning of Different PED Values

Name	Explanation
Perfectly inelastic Value = 0	The QD is completely unresponsive to a change in P (very theoretical value E.g. A heart transplant is extremely inelastic but possibly not perfectly)
Relatively inelastic Value = 0→1	The %∆ in QD is less than proportional to the %∆ in P E.g. Addictive products
Unitary elasticity Value = 1	The %∆ in QD is exactly equal to the %∆ in P
Relatively elastic Value = 1→ ∞	The %∆ in QD is more than proportional to the %∆ in P E.g. Luxury products
Perfectly elastic Value = ∞	The %∆ in QD will fall to zero with any %∆ in P (highly theoretical elasticity)

The Determinants of PED

The Determinants of PED

• Some products are more responsive to changes in prices than other products

• The factors that determine responsiveness are called the determinants of PED and include:

  • S - Availability of substitutes
    Good availability of substitutes results in a higher value of PED (relatively elastic)

  • P - 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)

  • L - Luxury or necessity
    Luxury goods are more elastic because they are not essential, while necessities are more inelastic because consumers have no choice but to buy them.

  • A - Addictiveness of the product
    Addictiveness turns products into necessities, resulting in a low value of PED (relatively inelastic)

  • T - 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 period of time, consumers may feel the price increase more and will then look for substitutes, resulting in a higher value of PED (relatively elastic)