AP_Krugman_Textbook

Panel (c) shows a case of elastic demand when the toll is raised from $0.90 to $1.10.

The 20% price increase causes the quantity demanded to fall from 1,200 to 800, a 40%

decline, so the price elasticity of demand is 40%/20% =2.

Why does it matter whether demand is unit-elastic, inelastic, or elastic? Because this

classification predicts how changes in the price of a good will affect thetotal revenue

earned by producers from the sale of that good. In many real-life situations, such as the

one faced by Med-Stat, it is crucial to know how price changes affect total revenue.

Total revenueis defined as the total value of sales of a good or service: the price multi-

plied by the quantity sold.

(47-1) Total revenue =Price ×Quantity sold

Total revenue has a useful graphical representation that can help us understand

why knowing the price elasticity of demand is crucial when we ask whether a price rise

will increase or reduce total revenue. Panel (a) of Figure 47.3 shows the same demand

curve as panel (a) of Figure 47.2. We see that 1,100 drivers will use the bridge if the toll

468 section 9 Behind the Demand Curve: Consumer Choice

Total revenueis the total value of sales of a
good or service. It is equal to the price
multiplied by the quantity sold.

900 1,100

B

A

0

$1.10

0.90

Quantity of

crossings

(per day)

Price of

crossing

(a) Unit-Elastic Demand: Price Elasticity of Demand = 1

(c) Elastic Demand: Price Elasticity of Demand = 2

(b) Inelastic Demand: Price Elasticity of Demand = 0.5

A 20%

increase

in the

price...

... generates a 20%
decrease in the quantity
of crossings demanded.
... generates a 10%
decrease in the quantity
of crossings demanded.
... generates a 40%
decrease in the quantity
of crossings demanded.

D 1

800 1,200

B

A

0

$1.10

0.90

Quantity of

crossings

(per day)

Price of

crossing

A 20%

increase

in the

price... D 3

950 1,050

B

A

0

$1.10

0.90

Quantity of

crossings

(per day)

Price of

crossing

A 20%

increase

in the

price...

D 2

figure 47.2 Unit-Elastic Demand, Inelastic Demand, and Elastic Demand

Panel (a) shows a case of unit-elastic demand: a 20% in-

crease in price generates a 20% decline in quantity de-

manded, implying a price elasticity of demand of 1. Panel (b)

shows a case of inelastic demand: a 20% increase in price

generates a 10% decline in quantity demanded, implying a

price elasticity of demand of 0.5. A case of elastic demand is

shown in Panel (c): a 20% increase in price causes a 40%

decline in quantity demanded, implying a price elasticity of

demand of 2. All percentages are calculated using the mid-

point method.