Economics Perfect Competition Questions Long
In perfect competition, the relationship between price elasticity of demand and total revenue is inverse or negative. This means that as the price elasticity of demand increases, total revenue decreases, and vice versa.
Price elasticity of demand measures the responsiveness of quantity demanded to a change in price. It is calculated as the percentage change in quantity demanded divided by the percentage change in price. When demand is elastic, a small change in price leads to a relatively larger change in quantity demanded. On the other hand, when demand is inelastic, a change in price leads to a relatively smaller change in quantity demanded.
In perfect competition, firms are price takers, meaning they have no control over the price of their product. They can only adjust their quantity supplied based on the market price. Therefore, in order to increase their total revenue, firms in perfect competition need to sell more units of their product.
When demand is elastic, a decrease in price will lead to a proportionally larger increase in quantity demanded. As a result, the increase in quantity sold will outweigh the decrease in price, leading to an overall increase in total revenue. Conversely, an increase in price will lead to a proportionally larger decrease in quantity demanded, causing the decrease in quantity sold to outweigh the increase in price, resulting in a decrease in total revenue.
On the other hand, when demand is inelastic, a decrease in price will lead to a proportionally smaller increase in quantity demanded. Therefore, the decrease in price will outweigh the increase in quantity sold, leading to a decrease in total revenue. Similarly, an increase in price will lead to a proportionally smaller decrease in quantity demanded, causing the increase in price to outweigh the decrease in quantity sold, resulting in an increase in total revenue.
In summary, in perfect competition, the relationship between price elasticity of demand and total revenue is inverse. When demand is elastic, a decrease in price leads to an increase in total revenue, while an increase in price leads to a decrease in total revenue. When demand is inelastic, a decrease in price leads to a decrease in total revenue, while an increase in price leads to an increase in total revenue.