Yr 11 IB Econ WK 8 T1
Price elasticity is an important concept in economics, with numerous applications. One of these
involves its relationship with the firm Total Revenue
Total revenue (TR) refers to the amount of money received by firms when they sell goods and
services.
Total Revenue = Price of the good
x
Quantity of the good sold
OR
TR = P x Q
Price Elasticity of demand helps firm to decide if by increasing the price of the good it produces
will impact on the levels of its Total Revenue. HOW???
The law of demand states that Price is inversely related to Quantity. Hence when prices
increase, quantity demanded decrease and vice versa. So by changing the price, would the
firm’s TR increase or decrease???
This actually depends on the Price Elasticity of demand for the good. That is if PED is elastic or
inelastic WHY???
INELASTIC DEMAND - EXAMPLE
Assume the price of chocolate milk increases from $1 to $1.20 and the quantity demanded falls
from 12 000 to 10 800 cartons. What will happen to the firm’s TR??
At P0
TR = P X Q = _______________
TR = _________
At P1
TR = P X Q = ________________
TR = _________
At the same time we need to calculate PED for chocolate milk to make a more accurate
conclusion.
PED =
Q1 – Qo
Qo
x 100
P1 – Po
x 100
=
P0
Conclusion PED is ___________________ Therefore the firm should ___________________________
1
Yr 11 IB Econ WK 8 T1
DIAGRAMTICALLY
At Po ($1) TR = area b + c
Price $
At P1 ($1.20) TR = area a + b
$1.20
a
$1.00
b
0


c
10 800
Before the Price increase at $1
After the Price increase at $1.20
D
12 000
Quantity in
cartons
TR = b + C
TR = a + b
The firm loses area C but gains A because the cartoons are now sold at the higher price of $1.20
 Revenues at (a) = __________________________________________________
 Revenues at (c) = __________________________________________________
The firm’s Total Revenue has increased by $960
($2160 - $1200 = $960)
Conclusion: if the firm has an _______________demand for its product and it wishes to
INCREASE its TOTAL REVENUE then it should do that by ____________________________.
ELASTIC DEMAND – EXAMPLE
Assume that when a hotdog price is raised from $ 2 to $2.10 a hot dog seller finds that quantity
demanded per week falls from 200 hot dogs to 180 hot dogs.
What will happen to the TR of the seller? - Again it depends on PED of hot dogs!!!.
Q1 – Qo
PED =
x 100
=
Qo
P1 – Po
x 100
P0
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Yr 11 IB Econ WK 8 T1
Price $
At Po ($2) TR = area b + c
At P1 ($2.10) TR = area a + b
$2.10
a
$2.00
b
c
D
0


Before the Price increase at $2
After the Price increase at $2.10
180
200
Quantity of hot dogs
TR = b + C
TR = a + b
 Before the Price increase at ($2)
 After the Price increase at ($2.10 )
TR = _________________________
TR = _________________________
The RISE in the PRICE has clearly caused a FALL in the Total Revenues for the hotdog seller.
 Revenues at (a) =_______________________________________________________
 Revenues at (c) = _______________________________________________________
The firm’s Total Revenue has decreased by $22
($40 – 18 = $22)
Conclusion: if the firm has an ___________________ demand for its product and it wishes to
INCREASE its TOTAL REVENUE then it should ________________________________________
Thinking Point:
Can you predict and explain what would be the likely outcome for Total Revenues if the PED for
a product is Unitary ie PED = 1 Draw a diagram to illustrate.
Student Tasks:
1. Complete questions 1 and 2 page 58
3