How does price elasticity of demand affect the total revenue of a business?

The price elasticity of demand refers to the responsiveness of the quantity demanded of a product to a change in its price. It is calculated as the percentage change in quantity demanded divided by the percentage change in price. The impact of price elasticity of demand on the total revenue of a business can be summarized as follows:

1. Elastic Demand: When the demand for a product is elastic, it means that consumers are highly responsive to changes in price. In this case, a decrease in price will lead to a proportionately larger increase in quantity demanded, and vice versa. As a result, the total revenue of a business will increase when it decreases the price, and it will decrease when it increases the price. This is because the increase in quantity demanded outweighs the decrease in price, leading to a net gain in revenue.

2. Inelastic Demand: On the other hand, when the demand for a product is inelastic, it means that consumers are not very responsive to changes in price. In this case, a decrease in price will lead to a proportionately smaller increase in quantity demanded, and vice versa. As a result, the total revenue of a business will decrease when it decreases the price, and it will increase when it increases the price. This is because the decrease in price is not enough to compensate for the decrease in quantity demanded, resulting in a net loss in revenue.

3. Unitary Elastic Demand: When the demand for a product is unitary elastic, it means that the percentage change in quantity demanded is equal to the percentage change in price. In this case, a change in price will result in an equal percentage change in total revenue. Therefore, the total revenue of a business will remain constant regardless of whether it increases or decreases the price.

In summary, the price elasticity of demand has a significant impact on the total revenue of a business. Understanding the elasticity of demand for a product is crucial for businesses to make informed pricing decisions and maximize their revenue.