Finance and the Economy · Seminar 3 · Elasticity

Using elasticity to set a price

If PED is known, the price change needed for a target fall in smoking follows from rearranging the formula: % change in price = % change in quantity ÷ PED. Questions 4 and 5, adapted from Economics for Business (Sloman, Garratt, Guest & Jones) and Business Economics (Mankiw, Taylor & Ashwin, ch. 5).

Pick a scenario or set PED, the target cut and the current price yourself. Quantity is indexed so that today’s consumption = 100.

Price elasticity of demand (|PED|)

inelasticelastic

Target cut in smoking (%)

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Current price per pack (£)

Required price rise

New price

Consumption index

Reading

Caution. The formula treats PED as constant along the curve, which is a fair approximation for modest changes. For a 50% price rise the true response could differ, and the elasticity itself drifts as price climbs along a straight-line demand curve.

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