COMPUTING THE PRICE ELASTICITY OF DEMAND
Now that we have discussed the price elasticity of demand in general terms, let’s be more precise about how it is measured. Economists compute the price elasticity of demand as the percentage change in the quantity demanded divided by the percentage change in the price. That is,
Price elasticity of demand = Percentage change in quantity demanded
Percentage change in price
For example, suppose that a 10 percent increase in the price of an ice-cream cone causes the amount of ice cream you buy to fall by 20 percent. We calculate your elasticity of demand as
Price elasticity of demand = 20 percent = 2.
In this example, the elasticity is 2, reflecting that the change in the quantity demanded is proportionately twice as large as the change in the price.
Because the quantity demanded of a good is negatively related to its price, the percentage chan e in quantity will always have the opposite sign as the percentage change in price. In this example, the percentage change in price is a positive 10 percent (reflecting an increase), and the percentage change in quantity demanded is a negative 20 percent (reflecting a decrease). For this reason, price elasticities of demand are sometimes reported as negative numbers. In this book, we follow the common practice of dropping the minus sign and reporting all price elasticities as positive numbers. (Mathematicians call this the absolute value.) With this convention, a larger price elasticity implies a greater responsiveness of
quantity demanded to price.
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