PRICE AND REVENUE QUESTION: CAN A BUSINESS ALWAYS INCREASE REVENUES BY INCREASING PRICES? MOST PEOPLE WOULD SAY “YES”

BUT, REMEMBER THE “DEMAND CURVE” BUYERS WILL RESPOND – BUY LESS WHEN PRICE UP; BUY MORE WHEN PRICE DOWN REVENUE = PRICE x QUANTITY BOUGHT PRICE UP, QUANTITY DOWN, UNCLEAR WHAT HAPPENS TO REVENUE

“PRICE INELASTIC” DEMAND CURVE BUYERS REDUCE AMOUNT BOUGHT (QUANTITY) VERY LITTLE WHEN PRICE RISES REVENUE RISES EXAMPLES: GASOLINE, FOOD, ELECTRICITY, OTHER FUELS

“PRICE ELASTIC” DEMAND CURVE BUYERS REDUCE AMOUNT BOUGHT (QUANTITY) SUBSTANTIALLY WHEN PRICE RISES REVENUE FALLS AIRPLANE TRIPS, LUXURY VEHICLES, FOREIGN TRAVEL, MASS TRANSIT

NUMERICAL EXAMPLE – PRICE INELASTIC DEMAND CURVE PRICE PER GALLON GALLONS BOUGHT REVENUE $2 30 $60 $4 20 $80

NUMERICAL EXAMPLE – PRICE ELASTIC DEMAND CURVE PRICE PER BUS RIDE # RIDES PER MONTH REVENUE $1 10,000 $10,000 $2 3,000 $6,000

NUMBERS CAN BE DERIVED FOR PRICE ELASTICITY OF DEMAND FORMULA: % CHG IN QUANTITY BOUGHT % CHG IN PRICE ALWAYS NEGATIVE NEGATIVE “BIGGER” THAN -1: ELASTIC (-1.5, -4) “FRACTIONAL” NEGATIVE”: INELASTIC (-0.33, -0.78)

EXAMPLE 1 Gas example price changes from $2 to $4 per gallon and quantity bought declines from 30 gallons to 20 gallons elasticity = -33%/100% = -0.33

PRICE ELASTICITIES OF DEMAND CAN CHANGE BECOME MORE ELASTIC OVER TIME AS BUYERS ADJUST CAN BECOME MORE ELASTIC AS NEW COMPETITIVE PRODUCTS ARE INTRODUCED (CABLE TV, SATELITTE TV)