Price Elasticity of Demand (PED)

CIE IGCSE Economics· 2.7· 25 min read

1. Definition and Formula for PED★★☆☆☆⏱ 8 min

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📘 Definition

Price Elasticity of Demand (PED)

PED

A unit-free measure of how much quantity demanded of a good changes when its own price changes, holding all other factors constant.

PED is calculated as the ratio of the percentage change in quantity demanded to the percentage change in price, as shown below:

PED = \frac{\% \Delta Q_d}{\% \Delta P}

Where $%Δ Q_{d} = \frac{N e w Q _{d} - O l d Q _{d}}{O l d Q _{d}} \times 100$ and $%Δ P = \frac{N e w P - O l d P}{O l d P} \times 100$ .

📐 Worked Example

The price of a loaf of bread rises from $1.00 to $1.20, and weekly quantity demanded falls from 200 loaves to 180 loaves. Calculate PED for bread.

1
Calculate percentage change in price: $\frac{1.20 - 1.00}{1.00} \times 100 = 20%$
2
Calculate percentage change in quantity demanded: $\frac{180 - 200}{200} \times 100 = - 10%$
3
Substitute into PED formula: $P E D = \frac{- 10}{20} = - 0.5$
4
Absolute value for classification: 0.5

Exam tip:

Always show full calculation steps for PED questions: marks are awarded for working even if your final answer is slightly incorrect.

2. Interpreting PED Values★★☆☆☆⏱ 10 min

We ignore the negative sign of PED when classifying elasticity, as it only reflects the inverse relationship between price and quantity demanded. The 5 standard classifications are listed below:

Absolute PED Value	Classification	Description
0	Perfectly Inelastic	Quantity demanded does not change at all when price changes
< 1	Relatively Inelastic	% change in Qd is smaller than % change in price
1	Unit Elastic	% change in Qd exactly equals % change in price
1	Relatively Elastic	% change in Qd is larger than % change in price
∞	Perfectly Elastic	Any price increase causes quantity demanded to fall to 0

📐 Worked Example

Classify each PED value below: a) 3.2 b) 0.7 c) 1 d) 0

1
a) 3.2 > 1 → Relatively elastic demand
2
b) 0.7 < 1 → Relatively inelastic demand
3
c) 1 → Unit elastic demand
4
d) 0 → Perfectly inelastic demand

Exam tip:

If an exam question asks if demand is elastic or inelastic, always explicitly compare your calculated PED to 1 after taking its absolute value to earn full marks.

3. PED and Total Revenue★★★☆☆⏱ 12 min

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Total revenue (TR) for a firm is calculated as $T R = P r i ce \times Q u an t i t y S o l d$ . The effect of a price change on total revenue depends entirely on the PED of the good:

If demand is inelastic (PED <1): Price rise → TR rises; Price fall → TR falls
If demand is elastic (PED >1): Price rise → TR falls; Price fall → TR rises
If demand is unit elastic (PED =1): Any price change leaves total revenue unchanged

📐 Worked Example

A café sells 300 lattes per week at $4 each, with a PED of 1.5 for lattes. If the café cuts price to $3.60, calculate the new total revenue and comment on whether the price cut was a good business decision.

1
Current total revenue: $300 \times 4 = $1200$
2
% change in price: $\frac{3.60 - 4}{4} \times 100 = - 10%$
3
Rearrange PED formula to find % change in Qd: $%Δ Q_{d} = P E D \times %Δ P = 1.5 \times 10 = + 15%$
4
New quantity demanded: $300 \times 1.15 = 345$ lattes per week
5
New total revenue: $345 \times 3.60 = $1242$
6
Comment: Total revenue increased by $42, so the price cut was a good decision as demand for lattes is elastic.

Exam tip:

You may be asked to link PED to a linear demand curve: the upper half of a straight-line demand curve is elastic, the midpoint is unit elastic, and the lower half is inelastic.

4. Factors Affecting PED★★☆☆☆⏱ 8 min

There are 5 key determinants of PED that you need to memorise for the exam:

Availability of close substitutes: More substitutes → more elastic demand, as consumers can easily switch alternatives if price rises
Degree of necessity: Necessities (e.g. food, medicine) have inelastic demand; luxuries have elastic demand
Proportion of income spent on the good: Goods that take up a small share of income (e.g. matches) have inelastic demand; expensive goods have more elastic demand
Time period: Demand is more elastic over longer time periods, as consumers have time to adjust their spending habits
Habit formation: Habitual goods (e.g. cigarettes) have inelastic demand, as consumers are less responsive to price changes

📐 Worked Example

Explain why demand for prescription insulin is likely to be price inelastic.

1
Insulin is a life-saving necessity for people with diabetes, with no close substitutes available.
2
Even if the price of insulin rises significantly, patients will still purchase almost the same quantity to manage their condition.
3
This means the percentage change in quantity demanded is far smaller than the percentage change in price, so PED < 1, making demand inelastic.

5. Real-World Applications of PED★★★☆☆⏱ 10 min

PED is used by both businesses and governments to make decisions:

Firms: Use PED to set prices to maximise total revenue, e.g. cinemas cut ticket prices for off-peak screenings where demand is elastic to raise revenue
Governments: Use PED to predict the effect of indirect taxes on consumption and tax revenue, e.g. taxes on inelastic goods like cigarettes raise large tax revenue even if they have a small effect on consumption

📐 Worked Example

A government imposes a tax on cigarettes to reduce smoking rates. If PED for cigarettes is 0.3, explain whether the tax will be effective at reducing smoking, and whether it will raise significant tax revenue.

1
PED = 0.3 < 1, so demand for cigarettes is relatively inelastic.
2
Effect on smoking: The tax will raise cigarette prices, but the percentage fall in quantity demanded will be much smaller than the percentage rise in price, so the tax will have limited effectiveness at reducing smoking rates.
3
Effect on tax revenue: Since consumption of cigarettes falls very little after the tax, the government will earn a large amount of tax revenue from each pack sold, making the tax a good source of government income.

Exam tip:

When answering application questions, always explicitly reference the PED value or classification in your explanation to earn full marks.

6. Common Pitfalls

Wrong move:

Keeping the negative sign when classifying PED, leading you to incorrectly state that a PED of -2 is less than 1 and therefore inelastic.

Why:

The negative sign only reflects the inverse relationship between price and quantity demanded, not the size of the responsiveness.

Correct move:

Always take the absolute value of PED before comparing it to 1 to classify elasticity.

Wrong move:

Mixing up the PED formula by putting percentage change in price as the numerator.

Why:

This reverses the calculated value, leading to incorrect elasticity classification.

Correct move:

Remember that PED measures the response of quantity demanded to price changes: quantity change is always the numerator.

Wrong move:

Stating that necessities have perfectly inelastic demand.

Why:

Even necessities have some price responsiveness: for example, consumers may cut back on food waste if food prices rise, so PED is usually less than 1 but not zero.

Correct move:

Clarify that necessities have relatively inelastic demand, not perfectly inelastic, unless explicitly stated.

Wrong move:

Assuming a price rise always increases total revenue.

Why:

This is only true if demand is inelastic: if demand is elastic, a price rise will reduce total revenue.

Correct move:

First identify the PED classification of the good, then apply the PED-total revenue rule to predict the effect of a price change.

Wrong move:

Calculating percentage change using the new value as the denominator instead of the original value.

Why:

This produces an incorrect percentage change, leading to a wrong PED calculation.

Correct move:

Use the formula $%Δ = \frac{N e w - O l d}{O l d} \times 100$ for both price and quantity changes.

7. Quick Reference Cheatsheet

Concept	Key Exam Reference
PED Formula	$\frac{%Δ Q _{d}}{%Δ P}$ , drop negative sign for classification
Inelastic Demand	PED <1: Price rise → Total revenue rises
Elastic Demand	PED >1: Price rise → Total revenue falls
Unit Elastic	PED =1: Price change leaves total revenue unchanged
PED Determinants	Substitutes, necessity, income share, time, habit formation

8. Frequently Asked

Do I need to keep the negative sign when classifying PED?

No. PED is always negative due to the downward-sloping demand curve, so we use the absolute value to compare to 1 for classification.

How many marks are PED questions worth in Paper 2?

Calculation questions are usually 2-3 marks, while explanation questions linking PED to revenue or policy are worth 4-6 marks, with marks awarded for clear reasoning.

Going deeper

official_syllabusCIE IGCSE Economics 0455 2023-2026 SyllabusRefer to section 2.7 for PED specification

What's Next

Now that you have mastered Price Elasticity of Demand for CIE IGCSE Economics 0455, you can apply this knowledge to related microeconomic topics in Unit 2: The Allocation of Resources. Next, you will explore how PED interacts with government interventions like indirect taxes and price controls to determine market outcomes, a common topic for 6-mark structured questions in Paper 2. You will also use PED to analyse real-world case studies, such as the impact of fuel taxes or minimum alcohol pricing, that appear frequently on past exams. Make sure to practice full structured PED questions to build your answer-writing skills for the exam.