Cambridge O Level Economics: Price elasticity of demand: calculation, determinants and revenue (2281)

This guide covers section 2.7 (price elasticity of demand, PED) of the Cambridge O Level Economics 2281 syllabus for examination in 2026. The course is not tiered, and the official text says calculators may be used in the examination. Every firm, country, market and figure below is invented for practice and is not a real statistic.

Read this alongside the revision notes and the practice questions. For the demand curve itself, see the guide to micro and macro, the market system and the demand curve. The wider topic is in the allocation of resources guide. The Cambridge O Level Economics hub and the printable checklist show where this unit fits, and the free diagnostics test your starting point.

What section 2.7 asks of you

Reference	What you must be able to do
2.7.1	Define PED
2.7.2	Calculate PED with the formula and interpret the result; draw and interpret demand curve diagrams showing different PED
2.7.3	Explain the key influences on whether demand is elastic or inelastic
2.7.4	Relate PED to total spending on a product (revenue), in a diagram and as a calculation
2.7.5	Explain the implications of PED for decisions by consumers, producers and government

2.7.1 Defining PED

Price elasticity of demand (PED) shows how strongly buyers alter the amount they purchase when the price of a good moves. Demand is elastic when quantity demanded changes by a larger percentage than price. It is inelastic when quantity changes by a smaller percentage.

PED is about responsiveness, not size. A product can be bought in huge quantities and still have inelastic demand.

2.7.2 Calculating and interpreting PED

PED = % change in quantity demanded / % change in price

% change = (new - old) / old x 100

Price and quantity demanded move in opposite directions along a demand curve, so PED is normally negative. Many answers quote the size and ignore the sign. Always show which sign you are using.

Worked example 1: inelastic. A stationery stall (invented) raises the price of a notebook from 50 to 55. Weekly sales fall from 600 to 570.

• % change in price = (55 - 50) / 50 x 100 = +10%
• % change in quantity = (570 - 600) / 600 x 100 = -5%
• PED = -5 / +10 = -0.5

The size, 0.5, is below 1. Demand is price inelastic: quantity fell proportionally less than price rose.

Worked example 2: elastic. A small cinema (invented) cuts the ticket price from 800 to 600. Weekly attendance rises from 400 to 560.

• % change in price = (600 - 800) / 800 x 100 = -25%
• % change in quantity = (560 - 400) / 400 x 100 = +40%
• PED = +40 / -25 = -1.6

The size, 1.6, is above 1. Demand is price elastic.

Reading the number

Size of PED	Description	Meaning
0	Perfectly inelastic	Quantity does not change when price changes
Between 0 and 1	Inelastic	% change in quantity is smaller than % change in price
1	Unitary	The two percentage changes are equal
Above 1	Elastic	% change in quantity is larger than % change in price
Infinite	Perfectly elastic	Buyers will pay only one price; any rise ends demand

Working backwards. PED can predict a response. Suppose PED is -0.8 and a seller raises price by 15%. Quantity changes by -0.8 x 15 = -12%. From 2,500 units, new quantity = 2,500 x 0.88 = 2,200 units.

Diagrams

Draw price on the vertical axis and quantity on the horizontal axis.

Perfectly inelastic     Perfectly elastic
P |     |               P |
  |     |                 |________________ D
  |     | D               |
  +------- Q              +---------------- Q
 vertical line          horizontal line
 PED = 0                PED infinite

• A vertical demand curve shows PED of zero. Whatever the price, buyers want the same quantity.
• A horizontal demand curve shows infinite PED. At a higher price nothing is bought.
• On the same scales, a steep curve shows relatively inelastic demand and a shallow curve shows relatively elastic demand.
• A curve bowing in towards the origin shows unitary elasticity along its whole length.

A straight sloping demand curve does not have one PED. At a high price and low quantity, a small change in price is a small percentage, while the same change in quantity is a large percentage, so demand is elastic. Lower down it is inelastic. The schedule in worked example 3 shows this.

Check the base. For large price changes, the formula can give a slightly different answer depending on which price is used as the starting point. Use the old value as the base, as above, and use the revenue test in section 2.7.4 to confirm your classification.

2.7.3 Determinants of PED

The key influences on whether demand is elastic or inelastic:

1. Availability and closeness of substitutes. If buyers can easily switch to a similar product, a rise in price sends them away, so demand is elastic. With no close substitute (for example, a prescription medicine with no alternative), they must keep buying.
2. Necessity or luxury. Necessities are bought even when price rises, so demand is inelastic. Luxuries can be postponed, so demand is elastic.
3. Proportion of income spent. If a good takes a tiny part of income, such as a box of matches, a price rise is hardly noticed, so demand is inelastic. An expensive item that takes a big share of the budget makes buyers watch the price closely.
4. Time. Over a short period, buyers cannot change habits or find alternatives. Over months or years they can, so demand becomes more elastic.
5. How narrowly the good is defined. A single brand of tea has many close substitutes, so demand is elastic. Tea in general has fewer, so demand is less elastic.

In an answer, link each factor to the named good. “Because there are few substitutes” scores less than “Because there is no other supplier of rail travel on that line, commuters cannot switch, so demand is inelastic”.

2.7.4 PED and total spending (revenue)

Total spending by consumers on a product is price x quantity. This is the same amount as the seller’s total revenue.

Type of demand	If price rises	If price falls
Inelastic	Total revenue rises	Total revenue falls
Unitary	Little or no change	Little or no change
Elastic	Total revenue falls	Total revenue rises

The reason is a race between two percentages. On elastic demand quantity changes by more, so quantity decides the outcome. On inelastic demand price changes by more, so price decides it.

Worked example 3: from a schedule. Demand for a good in Market K (invented) follows Q = 100 - 4P.

Price	Quantity	Total revenue	PED when price falls to the next row
20	20	400	-4.0 (elastic)
16	36	576	-1.8 (elastic)
12	52	624	-0.9 (inelastic)
8	68	544	-0.5 (inelastic)
4	84	336

Working:

• 20 to 16: % change in price = -20%, % change in quantity = (36 - 20) / 20 x 100 = +80%, PED = -4.0. Revenue rises from 400 to 576.
• 16 to 12: % change in price = -25%, % change in quantity = (52 - 36) / 36 x 100 = +44.4%, PED = -1.78. Revenue rises from 576 to 624.
• 12 to 8: % change in price = -33.3%, % change in quantity = +30.8%, PED = -0.92. Revenue falls from 624 to 544.

Revenue peaks at around a price of 12 to 13, where PED is close to 1. Cutting price beyond that point lowers revenue.

In a diagram. Revenue is a rectangle under the demand curve. Its height is the price and its width is the quantity. After a price cut, the rectangle gains a wide strip on the right (the extra units sold) and loses a flat strip along the top (the lower price on the units that were already selling). If demand is elastic, the gained strip is bigger and revenue rises. If demand is inelastic, the lost strip is bigger and revenue falls.

Price
 20 |--+
    |  |  old revenue = 20 x 20
 16 |--+----+   new revenue = 16 x 36
    |       |
    +-------+---- Quantity
      20    36

2.7.5 Why PED matters

For consumers

If demand is inelastic, a price rise leaves buyers paying noticeably more in total because they cannot cut back much.

Worked example 4. A household (invented) spends 400 a month on a staple food with PED of -0.3. The price rises 10%. Quantity falls 3%. New spending = 400 x 1.10 x 0.97 = 426.80, so the household pays 26.80 more for a little less food. Where PED is elastic, consumers can protect themselves by switching to substitutes, and sellers have less power to raise price.

For producers

Firms use estimates of PED to set prices and forecast revenue.

Worked example 5. A firm sells 1,000 units at 30, so revenue is 30,000. It considers a 10% cut to 27.

• If PED is -0.7, quantity rises 7% to 1,070. Revenue = 27 x 1,070 = 28,890, a fall of 1,110. The cut is a mistake.
• If PED is -1.8, quantity rises 18% to 1,180. Revenue = 27 x 1,180 = 31,860, a rise of 1,860. The cut raises revenue.

Revenue is not profit. A firm must also compare the extra revenue with the extra cost of making the extra units. Firms also try to make demand less elastic, for example by building brand loyalty.

For government

Governments use PED when choosing goods to tax or to subsidise.

Worked example 6. Country D (invented) taxes a product. The price rises from 40 to 44 (+10%), with a tax of 4 a unit. Sales were 10,000 units before the tax.

• If PED is -0.4: quantity falls 4% to 9,600. Tax revenue = 9,600 x 4 = 38,400.
• If PED is -1.5: quantity falls 15% to 8,500. Tax revenue = 8,500 x 4 = 34,000.

A tax on an inelastic good raises more revenue. That also means it cuts consumption less, so it is a weaker way to discourage a harmful good. Where demand is elastic, a tax cuts consumption more but raises less revenue, and workers or firms in the industry may lose jobs or sales.

Common errors

• Putting the percentage changes the wrong way round. Quantity goes on top.
• Starting a percentage change from the final figure instead of the original one.
• Dropping the sign without saying so, then calling a PED of -0.5 “elastic” because 0.5 “looks small”.
• Confusing a steep curve with a good that is “important”. PED is about response, not importance.
• Saying revenue rises when price rises, without checking whether demand is inelastic.
• Writing “price elastic” when the question asks about the result: always say what it means for the seller, buyer or government in the context given.

Where to go next

Test yourself with the practice questions and condense the unit with the revision notes.

Official syllabus

This guide follows the Cambridge O Level Economics 2281 syllabus for examination in 2026, published by Cambridge Assessment International Education, section 2.7.