How do you calculate price elasticity of demand?

PED = percentage change in quantity demanded divided by percentage change in price. If price rises 20 percent and quantity falls 8 percent, PED = -8 / 20 = -0.4, which is inelastic (absolute value below 1).

What is the difference between PED and YED?

PED measures responsiveness of quantity demanded to a change in the good's own price. YED measures responsiveness of demand to a change in income. The sign of YED classifies goods as normal (positive) or inferior (negative).

How does PED affect total revenue?

If demand is inelastic (PED below 1), raising price increases total revenue. If demand is elastic (PED above 1), raising price reduces total revenue. If demand is unit elastic, total revenue is unchanged when price changes.

Why do primary commodities have low PED and YED?

Primary commodities are often necessities with few substitutes, giving low, inelastic PED, and demand for them grows only slowly as incomes rise, giving low YED. This makes commodity-dependent economies vulnerable to volatile prices and slow demand growth.

IB Economics · Unit 2: Microeconomics · 2.5

Elasticity of Demand (PED and YED): IB Economics 2.5 notes

Elasticity of demand measures how responsive quantity demanded is to a change in price (PED) or income (YED), as a percentage change ratio.

Price elasticity of demand (PED)

Price elasticity of demand measures how responsive quantity demanded is to a change in the good's own price. The formula is PED = percentage change in quantity demanded divided by percentage change in price. Because the two move in opposite directions, PED is normally negative, but it is usually reported as an absolute value.

If PED is greater than 1, demand is price elastic (quantity is highly responsive). If PED is between 0 and 1, demand is price inelastic (quantity is unresponsive). PED = 1 is unit elastic, PED = 0 is perfectly inelastic (a vertical curve), and PED approaching infinity is perfectly elastic (a horizontal curve).

Worked PED calculation

Suppose the price of a coffee rises from 2.00 dollars to 2.40 dollars and quantity demanded falls from 500 to 460 cups per day. The percentage change in price is (2.40 - 2.00) / 2.00 = +20 percent. The percentage change in quantity demanded is (460 - 500) / 500 = -8 percent.

PED = -8 percent / +20 percent = -0.4, or 0.4 in absolute terms. Since 0.4 is less than 1, demand for this coffee is price inelastic: a 20 percent price rise cut sales by only 8 percent. You can practise this step by step with the /calculate/price-elasticity-of-demand walkthrough.

Determinants of PED

The main determinants are: the number and closeness of substitutes (more and closer substitutes make demand more elastic), the proportion of income spent on the good (big-ticket items tend to be more elastic), whether the good is a necessity or a luxury (necessities are inelastic), the time period (demand is more elastic over the long run as consumers adjust), and how narrowly the good is defined (a specific brand is more elastic than the whole product category).

For example, demand for salt is highly inelastic because it has no close substitutes, takes a tiny share of income, and is a necessity. Demand for one airline's tickets on a busy route is elastic because rival airlines are close substitutes.

PED and total revenue

Total revenue equals price times quantity, and its response to a price change depends on PED. If demand is inelastic (PED less than 1), a price rise raises total revenue because quantity falls proportionately less than price rises. If demand is elastic (PED greater than 1), a price rise lowers total revenue because quantity falls proportionately more than price rises. If demand is unit elastic, total revenue is unchanged.

In the coffee example, revenue before was 2.00 x 500 = 1000 dollars and after is 2.40 x 460 = 1104 dollars, a rise, confirming that raising price on an inelastic good increases revenue. This is why firms selling inelastic goods can raise prices to boost revenue, while those with elastic demand should be cautious.

Income elasticity of demand (YED)

Income elasticity of demand measures how responsive demand is to a change in consumer income. The formula is YED = percentage change in quantity demanded divided by percentage change in income. The sign of YED classifies the good.

A positive YED means a normal good (demand rises with income). Within normal goods, YED greater than 1 is a luxury or income-elastic good (demand rises faster than income), while YED between 0 and 1 is a necessity or income-inelastic good. A negative YED means an inferior good, where demand falls as income rises, such as bus travel or supermarket own-brand basics as people grow richer.

Worked YED calculation and Engel curve

Suppose incomes rise by 10 percent and a household's demand for restaurant meals rises by 25 percent. YED = +25 percent / +10 percent = +2.5. This is positive and greater than 1, so restaurant meals are a luxury (income-elastic normal good).

The Engel curve plots quantity demanded against income. For a normal good it slopes upward; for a luxury it gets steeper as income rises; for an inferior good it eventually bends backward as demand falls with higher income. YED therefore tells you the shape of the Engel curve for each type of good.

Primary commodities versus manufactured products

Primary commodities (agricultural goods, minerals, raw materials) tend to have low, inelastic PED and low, positive YED: they are often necessities with few substitutes, and demand for them grows slowly as incomes rise. Manufactured products and services tend to have higher, more elastic PED and higher YED, often behaving as luxuries.

This has real consequences. Countries that rely on exporting primary commodities, such as some low-income agricultural exporters, face volatile prices and slow demand growth, while economies exporting manufactured goods enjoy faster-growing, more stable demand. This is a core reason development economists worry about commodity dependence.

Why governments care

Governments use elasticity to design policy. Indirect taxes raise the most revenue and change behaviour least when placed on inelastic goods such as tobacco, fuel, or the UK sugar levy on soft drinks, though the goal there is partly to change consumption. Understanding PED tells the government how much of a tax consumers will bear and how much sales will fall.

YED helps governments and firms forecast how demand will shift as an economy grows: demand for luxuries and manufactured goods will rise fastest, while demand for inferior goods and some primary staples will grow slowly or fall. This informs everything from infrastructure planning to trade strategy.

HL extension

HL does not add separate content to 2.5 beyond precise calculation, but HL Paper 3 expects exact numerical work. Be ready to calculate PED and YED to two decimal places from data, use PED to predict the effect of a specific price change on total revenue in dollar terms, and combine PED with tax analysis: for a specific indirect tax, the more inelastic demand is, the larger the share of the tax burden (incidence) that falls on consumers rather than producers, and the smaller the fall in quantity.

You should also be able to work backward, for example calculating the new quantity demanded given a known PED and a stated price change.

How this is examined

Elasticity calculations appear on Paper 2 (data response) and, with exact numbers, on HL Paper 3. Always show the formula, substitute the numbers, and state the unit-free result with its interpretation.
State PED as an absolute value but note it is negative; for YED the sign is essential because it classifies the good as normal, luxury, or inferior. Never drop the sign on YED.
Link PED to total revenue explicitly: examiners reward stating whether revenue rises or falls and why, ideally with a quick numerical check.
Use the correct base for percentage changes (the original value) and do not confuse a change in demand with a change in quantity demanded. Round only at the final step.

Key terms

price elasticity of demand income elasticity of demand determinants of price elasticity of demand normal good inferior good price elasticity of supply

Frequently asked

How do you calculate price elasticity of demand?: PED = percentage change in quantity demanded divided by percentage change in price. If price rises 20 percent and quantity falls 8 percent, PED = -8 / 20 = -0.4, which is inelastic (absolute value below 1).
What is the difference between PED and YED?: PED measures responsiveness of quantity demanded to a change in the good's own price. YED measures responsiveness of demand to a change in income. The sign of YED classifies goods as normal (positive) or inferior (negative).
How does PED affect total revenue?: If demand is inelastic (PED below 1), raising price increases total revenue. If demand is elastic (PED above 1), raising price reduces total revenue. If demand is unit elastic, total revenue is unchanged when price changes.
Why do primary commodities have low PED and YED?: Primary commodities are often necessities with few substitutes, giving low, inelastic PED, and demand for them grows only slowly as incomes rise, giving low YED. This makes commodity-dependent economies vulnerable to volatile prices and slow demand growth.