Demand Elasticity Analysis

Pricing Power: Are Your Customers Sensitive to Price?

Knowing this is key to smart pricing.

1. Price Elasticity of Demand (PED)

• Definition: How much your sales quantity changes when you change your price.
• Calculation: (% Change in Quantity Demanded) / (% Change in Price)

2. Interpret Your PED Score:

• If |PED| > 1 (Elastic Demand):

  • What it means: Customers are very sensitive to price.
  • Example: Luxury items, products with many substitutes (e.g., a specific brand of cereal).
  • Action:
    • Raising Prices: Revenue likely goes DOWN.
    • Lowering Prices: Revenue likely goes UP.

• If |PED| < 1 (Inelastic Demand):

  • What it means: Customers are not very sensitive to price.
  • Example: Necessities, unique products with few substitutes (e.g., life-saving medicine, brand-loyal customers).
  • Action:
    • Raising Prices: Revenue likely goes UP.
    • Lowering Prices: Revenue likely goes DOWN.

3. What Makes Demand Elastic or Inelastic?

• Substitutes: More substitutes = more elastic.
• Necessity: Necessity = more inelastic.
• Budget Share: Big purchase = more elastic.

Golden Rule: Measure your PED before making any major pricing changes!