1. Milk Rolls Royce Coca-Cola Sunglasses Luxury Holiday Walkers Crisp
Imagine the price of all the items below has doubled? What will happen to demand?
Milk
Rolls Royce
Coca-Cola
Sunglasses
Luxury Holiday
Walkers Crisp

2. Theme 1: Introduction to markets and market failure
In this theme, students will consider how markets work, looking at how supply and demand interact to allocate resources in local, national and international markets. They will learn how to apply supply and demand analysis to real-world situations and be able to offer explanations of consumer behaviour. This will involve looking at both how consumers act in a rational way to maximise utility and how
firms maximise profit, but also why consumers may not behave rationally.
1.2 How markets work
Subject content
1.2.3 Price, income and cross elasticities of demand
What students need to learn:
a) Understanding of price, income and cross elasticities of
demand
b) Use formulae to calculate price, income and cross
elasticities of demand
c) Interpret numerical values of:
o price elasticity of demand: unitary elastic, perfectly and relatively elastic, and perfectly and relatively inelastic o income elasticity of demand: inferior, normal and luxury goods; relatively elastic and relatively inelastic o cross elasticity of demand: substitutes, complementary and unrelated goods
d) The factors influencing elasticities of demand
e) The significance of elasticities of demand to firms and government in terms of:
o the imposition of indirect taxes and subsidies
o changes in real income
o changes in the prices of substitute and
complementary goods
f) The relationship between price elasticity of demand and
total revenue (including calculation)

3. Price elasticity of demand
The responsiveness of demand to a change in price.
Calculated by:
% change in quantity demanded
% change in price

4. Key terms:
Price inelastic demand: The demand for a product changes relatively less than the change in price
Price elastic demand: The demand for a product changes relatively more than the change in price

5. Calculate PED up to 2 decimal places
a) A fall in price from £10 to £6 causes demand to extend from 100 to 150 b) A rise in price from 90p to £1.20 results in a contraction in demand from 300 to 200 c) The price of a product increases from £8 to £9, which causes demand to contract from 800 to 200 d) A cut in price from 48 Euros to 36 Euros causes demand to rise from 200 to 210 e) Demand extended from 2580 to 3120 whenp rice falls from £12 to £9. f) Demand contracts from 19,000 to 10,000 when price rises from 65p to 75p

6. Price Inelastic Demand
Relatively Inelastic Demand
a large price change results in only a small change in Qd P1 P0 D Q1 Q0 Q

7. Price Elastic Demand Relatively Elastic Demand
a small price change results in a large change in Qd P1 P0 D Q1 Q0 Q

11. Perfectly Price Inelastic Demand
Perfectly Inelastic Demand
any price change does not change quantity demanded
PED = 0 P1 P0 D Q1 Q Q0

12. Perfectly Price Elastic Demand
Perfectly Elastic Demand
infinite demand at one market price
any price change results in no demand at all
PED = ∞ P1 P0 D P2 Q Q Q

13. EXERCISE
1a) When prices for Blue Jeans increase by 5%, the quantity of Blue Jeans that are demanded decrease by 2.5%. What is the price elasticity of demand for Blue Jeans?
1b) Are Blue Jeans relatively elastic or relatively inelastic in relation to price?
2a) When prices for Sailboats increase by 6%, the quantity of sailboats demanded decreases by 12%. What is the price elasticity of demand for Sailboats?
2b) Are Sailboats relatively elastic or relatively inelastic in relation to price?
3a) When prices for fresh water increase by 5%, the demand does not change. In this situation, what would be the price elasticity of demand for water?
3b) Does this make Water perfectly inelastic or perfectly elastic?
4a)When Petrol Prices rise from £0.75/litre to £0.80/litre, demand for petrol does not appear to decrease. In this situation, is Petrol perfectly elastic or perfectly inelastic?

14. PED changes along demand
At small Qd, PED will be higher
At large Qd, PED will be lower
Somewhere in the middle, PED = 1 P
Elastic
Unitary Elasticity (PED = 1)
Inelastic D Q

15. Assess the factors that influences PED?
Necessity
Habit
Availability of substitutes
Brand loyalty
Proportion of income spent on a product
Income of consumer

16. Inelastic or elastic? Toothpaste Champagne Cut flowers Bandages
One brand of ground pepper

17. A little case study…
A UK travel agent specialises in holidays to Spain, Greece and China. It estimates that it faces the following price elasticities of demand for these holidays:
Spain: -2.0
Greece: -1.1
China: -0.6
Discuss the possible reasons why the PED may vary between the countries.

18. PED and Revenue Total revenue = P x Q
A firm’s revenue will change with changes in either P or Q
Depending on elasticity, changes in price will either increase or decrease total revenue

19. PED and Revenue Inelastic DemandQ1 Q0 Q
Lost revenue from Qd < gain in revenue from P
 P → Revenue

20. PED and Revenue Elastic DemandQ1 Q0 Q
Lost revenue from Qd > gain in revenue from P
 P → Revenue

21. PED and Revenue
So:
Firms facing inelastic demand curves can increase revenue by increasing price
Firms facing elastic demand curves can increase revenue by decreasing price

22. Page 49

23. Debate Will a ‘fat tax’ benefit those on low incomes?
Write the costs and benefits on post-its and prioritise which are the most important factors?
Do the costs outweigh the benefits?
Will a ‘fat tax’ benefit those on low incomes?