Learn › Economic theory › Markets

Markets · 12 of 17

Price elasticity and total revenue

Use price elasticity to say whether a price change raises revenue

Key terms
Total revenue
Total revenue is the income a firm generates from selling its products, found by multiplying the price by the quantity sold.
Economic profit
Economic profit is total revenue minus total cost, including both explicit and implicit costs.

Whether a price rise brings in more revenue depends on the elasticity

Total revenue is price times the quantity sold, so a price change pulls it two ways: more per unit, fewer units. If demand is elastic, a given rise in price is more than offset by a larger percentage fall in quantity, so total revenue falls, and a price cut raises it. If demand is inelastic, the fall in quantity is proportionally smaller, so a price rise raises total revenue. If demand is unitary, the two offset each other exactly and total revenue is unchanged.

A price rise on the inelastic part of a demand curveVertical axis: Price. Horizontal axis: Quantity. D: a downward-sloping line. A point at price P1 and quantity Q1. A point at price P2 and quantity Q2. Shaded area A: revenue kept. Shaded area B: revenue gained. Shaded area C: revenue lost.ABCQ1P1Q2P2D
1 of 2

At P1At price P1 the firm sells Q1. Total revenue is the rectangle P1 times Q1: areas A and C together.

On this lower stretch the demand curve is inelastic: the price rises by a third and quantity falls by a seventh. The gain, B, is larger than the loss, C, so total revenue rises.