IBonomicsPrice Elasticity of Demand and Total RevenueSL
MicroeconomicsA diagram showing how price elasticity of demand affects total revenue, with total revenue maximized where demand is unitary elastic.
Curves and elements
- Demand curve
- Shows the inverse relationship between price and quantity demanded, with elasticity changing along the curve.
- PED > 1
- Elastic demand. A lower price causes total revenue to rise.
- PED = 1
- Unitary elastic demand. Price and quantity changes perfectly offset, so total revenue is maximized.
- PED < 1
- Inelastic demand. A lower price causes total revenue to fall.
- Total revenue curve
- Shows that total revenue rises, reaches a maximum at unitary elasticity, and then falls as quantity increases.
Key explanations
- 1
Total revenue is calculated by multiplying price by quantity sold.
- 2
When demand is elastic, PED is greater than 1, so lowering price increases total revenue.
- 3
When demand is unitary elastic, PED equals 1, so total revenue is maximized.
- 4
When demand is inelastic, PED is less than 1, so lowering price decreases total revenue.
Example exam question
Explain how price elasticity of demand affects total revenue when a firm lowers its price.
Show example answer
When demand is elastic, a lower price increases total revenue because quantity demanded rises proportionally more than price falls. When demand is inelastic, total revenue falls because quantity demanded rises proportionally less than price falls.
