Question

A consumer spends Rs. 400 on a good priced at Rs. 4 per unit. When the price rises by 25 per cent, the consumer continues to spend Rs. 400. Calculate the price elasticity of demand by percentage method.

Answer 1

Initial price (P) = Rs. 4

Rise in price by 25 per cent $=4\times \frac{25}{100}=Rs.1$

New price $\left(p_1\right)=Rs.4+Rs.1=Rs.5$

Given, $P=Rs.4$; $P_1=Rs.5$; $\Delta P=P_1-P=Rs.5-Rs.4=Rs.1$

$Q=\frac{400}{4}=100\text{units}$

$Q_1=\frac{400}{5}=80\text{units}$

$\Delta Q=Q_1-Q=(80-100)\text{units}=(-)20units$

Price elasticity of demand

$\left(E_d\right)=(-)\frac{P}{Q}\times \frac{\Delta Q}{\Delta P}$

$=(-)\frac{4}{100}\times \frac{-20}{1}=\frac{4}{5}=0.8$

Price elasticity of demand = 0.8