Price Elasticity of Demand

OpenStax Principles of Economics defines price elasticity of demand as the percentage change in the quantity demanded of a good or service divided by the percentage change in the price.

Price elasticity of demand = % change in quantity demanded ÷ % change in price

Because quantity usually falls when price rises, the result is negative; it is normally read as an absolute value.

Elastic demand. The absolute value is greater than 1: a 10% price rise loses more than 10% of unit sales.

Inelastic demand. The absolute value is less than 1: a 10% price rise loses less than 10% of unit sales, so revenue goes up.

Unit elastic. Exactly 1: revenue stays the same.

Elasticity tells you what a price change will do to revenue before you make it. A product with inelastic demand can carry a price rise; a product with elastic demand will lose more sales than the extra margin is worth.

Online, competitors are a large part of elasticity. When a close substitute is one tab away, demand for your product is more elastic than it would be in a store with no alternative nearby. A product that is unique to you, or that a competitor has run out of, is usually less elastic. That is why the same price change can work in one month and fail in the next: the competitors' prices and stock changed, not your product.

This example is hypothetical. A brand raises the price of a candle from $40 to $44, a 10% rise. Over the next four weeks, compared with the four weeks before, unit sales fall from 1,000 to 920, an 8% fall.

Elasticity = −8% ÷ 10% = −0.8, so demand is inelastic and revenue rises from $40,000 to $40,480.

But the comparison is only clean if nothing else changed. If a main competitor ran a 20% promotion on comparable candles during those four weeks, part of the fall came from the competitor, not from the price rise, and the true elasticity of the brand's own price is closer to zero than −0.8.

1. Use your own sales data. Elasticity is measured from your prices and your unit sales, ideally from planned price tests rather than one-off changes.

2. Change one thing at a time. Keep promotions, ad spend and stock steady while you test a price, or account for them.

3. Record competitors' prices and promotions for the same dates. Without them, a competitor's sale looks like your customers' sensitivity to price.

4. Know what an outside tool can and cannot do. RivalSweeper does not see your sales and does not calculate your elasticity. It records competitors' prices, discounts and promotions with dates, checked daily, so you can see what the market was doing during each of your price tests.