Price Elasticity of Demand Calculator
Use our price elasticity of demand calculator to calculate the change in the demand for goods and services.
Price Elasticity of Demand:
On this page:
- How to Calculate Price Elasticity of Demand
- What is Price Elasticity of Demand?
- Price Elasticity of Demand Formula
- Example: Calculating Price Elasticity of Demand
- What Factors Affect Price Elasticity of Demand?
- Price Elasticity of Supply vs. Price Elasticity of Demand
- Price Elasticity of Supply Formula
- What is Cross-Price Elasticity?
How to Calculate Price Elasticity of Demand
There is no denying that when the price of something changes, the demand for that product will also change. When the price of a good decreases, the number of people who are willing to buy that good will directly increase.
At the same time, when the price of a good increases, fewer people will be willing to buy that good—even if that good is something that most people consider to be essential.
This behavior can be easily observed with changing gas prices. When gas is relatively inexpensive, people will be more willing to drive and use their car as their primary form of transportation.
On the other hand, when gas prices are higher, people will typically drive less or be more willing to explore other forms of transportation.
However, contrary to what some people might assume, the rate at which people’s behaviors change is rarely linear.
When measured correctly, there is usually a complex—sometimes sporadic—curve exhibiting changing demands. In other words, changes in price will usually have a somewhat elastic relationship with demand.
Whether you are an economist, a business owner, or someone who is simply curious, learning how to measure the price elasticity of demand can be very beneficial. Understanding price elasticity is crucial to determining the amount of markup a business might add to a product or service, and thus impacts the amount of margin they might earn.
What is Price Elasticity of Demand?
The price elasticity of demand is an economic concept that explains how any change in the price of a good or service will affect the demand for that given good or service.
A good is considered elastic when price changes have a strong impact on demand and inelastic if price changes have a limited effect on demand.
There are many different variables that can affect price elasticity. If the good or service in question is considered a luxury rather than a necessity, then it will likely be much more elastic. Water, for example, is considered a somewhat inelastic product.
While an increase in the price of water might mildly influence people’s behavior (taking shorter showers, running the dishwasher less, etc.), water is still an absolute necessity that people will always be willing to buy.
Going to the movie theater, on the other hand, is generally considered a luxury and, therefore, the rate at which people go to the movies will be much more likely to change along with changing prices. This means the price of a movie ticket, at least when compared to water, should be considered elastic.
Understanding the unique relationship between supply and demand&along with generally understanding the price elasticity of demand—will be crucial for anyone who is responsible for setting prices, forecasting future inventory needs, and making other important decisions.
Let’s take a closer look at how to calculate the price elasticity of demand, along with some of the related variables you will need to keep in mind.
Price Elasticity of Demand Formula
In order to calculate the price elasticity of demand, you will need to know four different variables. These include the initial price of the good or service in question, its final price, the initial quantity, and the final quantity. Once you have determined these four variables, you can then utilize the following formula:
P0 = initial price
P1 = final price
Q0 = initial quantity
Q1 = final quantity
In most cases, using a calculator like the one above will be the easiest way to find the final figure. Generally speaking, it also helps to have a frame of reference to compare the product to determine whether the product is elastic or inelastic.
Example: Calculating Price Elasticity of Demand
Now that you understand the formula needed to calculate the price elasticity of demand, let’s take a look at an example.
Suppose that a company sells a product for $10 and, at this price point, is able to sell 100 units of this product per month. However, as a result of supply chain challenges, the cost of acquiring this particular product increases, and the company then decides to increase the price of the product to $12 per month.
Following the price hike, the monthly sales drop from 100 units to only 60 units per month.
This is all of the information you need to calculate the elasticity of demand. You can now use the following variables:
P0 (initial price) = $10
P1 (final price) = $12
Q0 (initial quantity) = 100 units
Q1 (final quantity) = 60 units
You can now use the price elasticity of demand formula:
In this particular example, the product would be considered elastic. That means that a small change in the price had a strong impact on the demand for the product—after all, the price of the product only increased by $2 (in this case, a 20% increase) while the demand for the product decreased by 40%.
Generally, something is considered elastic when the PED is greater than 1 or less than -1. If it’s between -1 and 1, it would be considered inelastic.
In the example above, the revenue created from selling the product at the original price, $10, was $1,000 per month. After the price hike, due to decreasing demand, the revenue generated per month dropped down to just $720. This means the price increase resulted in a direct decrease in revenue.
What Factors Affect Price Elasticity of Demand?
There are several different factors that can affect the price elasticity of demand. The most notable factor is necessity. Goods and services that are considered necessities tend to be much more likely to be inelastic than goods and services that are considered luxuries.
Additionally, the availability of substitutes will also affect elasticity. If a person can easily replace a purchase with a comparable alternative, they will be more likely to stop buying the item following a price hike (meaning the item is elastic).
Other variables, such as changes in income level and the general state of the economy, will also play an important role.
Price Elasticity of Supply vs. Price Elasticity of Demand
The price elasticity of supply is very similar to the price elasticity of demand. Comparably, the price elasticity of supply demonstrates how changes in price will directly affect the supply of a good or service.
When the price elasticity of a given good is high, that means that the general availability of the product is more likely to change whenever prices change (which might happen for a variety of different reasons).
When the price elasticity is low, or inelastic, that means that general changes in price are unlikely to influence the product’s general availability.
Price Elasticity of Supply Formula
In order to calculate the price elasticity of supply (PES), you’ll need to know the original price, the final price, the original quantity, and the final quantity. Once you have determined these variables, you can then use the following formula:
Suppose that the current price of a given unit is $20 and the product has an original supply of 100 units. Eventually, the price of the product increases to $25 and the supply of that product simultaneously increases to 150 units.
In this particular example, the price would have changed by 25% and the quantity being supplied would have changed by 33%.
To calculate the price elasticity of supply, simply divide 33% by 25%, which in this case would equal 1.32. In this case, the product would be considered somewhat elastic because the change in supply was greater than the change in price.
What is Cross-Price Elasticity?
Cross-price elasticity is a concept used to describe how changes in the price of one product will affect the demand for another product.
The prices of many products are heavily connected to the price of other products because, although they are usually sold separately, these products are usually bought together.
There are quite a few examples of products with high levels of cross-price elasticity. For example, when the cost of owning a bicycle significantly increases, fewer people will choose to purchase bicycles and the demand for bicycle helmets will go down. In this case, bicycles and helmets have high cross-price elasticity.
On the other hand, an increase in the cost of a bicycle would be unlikely to change how many apples people buy from the grocery store; therefore, cross-price elasticity between these products would be considered low.
Our economy is complex. Changes in price will almost always affect corresponding supplies and demand, but these relationships are far from linear.
Understanding how to calculate price elasticity can help us better understand these complex relationships.