A pharmaceutical company raises the price of a patented drug by 20%, and its total sales revenue increases. What does this tell you about the price elasticity of demand for this drug?
ADemand is elastic — a 20% price increase caused such a large revenue gain that elasticity must exceed 1
BDemand is inelastic — when a price increase raises revenue, quantity fell less than proportionally, so |ε| < 1
CDemand is unit elastic — price and quantity changed by equal percentages, leaving revenue unchanged
DYou cannot determine elasticity without knowing the exact percentage change in quantity
The relationship between elasticity and total revenue is the key application: if a price increase raises revenue, it means the quantity drop was proportionally smaller than the price increase — |ε| < 1 (inelastic). If demand were elastic, the quantity fall would dominate and revenue would decline. Revenue going up after a price increase is diagnostic of inelastic demand.
Question 2 Multiple Choice
Along a single linear demand curve, a firm sells at a high price with low quantity. As it lowers price and moves to the high-quantity end of the curve, what happens to elasticity?
AElasticity increases — lower prices always mean more elastic demand
BElasticity decreases — at lower prices and higher quantities, the same absolute price change represents a smaller percentage change, making demand less elastic
CElasticity stays constant — a linear demand curve has constant elasticity by definition
DElasticity becomes unit elastic throughout — linear curves always have |ε| = 1
Elasticity varies along a linear demand curve because elasticity is a percentage concept while slope is an absolute concept. At the high-price, low-quantity end, a price drop represents a large percentage change — so elasticity is high. At the low-price, high-quantity end, the same absolute price change is a small percentage — making demand inelastic there. The slope is constant; elasticity is not.
Question 3 True / False
A steeper demand curve is generally less elastic than a flatter demand curve.
TTrue
FFalse
Answer: False
This is the most common misconception in elasticity. Slope and elasticity are related but distinct. While a steeper curve tends toward inelasticity and a flatter curve tends toward elasticity when compared at the same point, elasticity also varies along any given curve. A point on a steep curve at high prices could be more elastic than a point on a flat curve at low prices. You cannot compare elasticities without specifying where on each curve you are measuring.
Question 4 True / False
If demand for a product is elastic and a firm raises its price, the firm's total revenue will decrease.
TTrue
FFalse
Answer: True
Total revenue = price × quantity. With elastic demand (|ε| > 1), a price increase causes a proportionally larger decrease in quantity demanded. The quantity effect dominates, and revenue falls. This is why airlines use aggressive sales and dynamic pricing in leisure markets — raising price too much causes enough customers to switch alternatives that revenue actually drops.
Question 5 Short Answer
Why does elasticity vary along a linear demand curve even though the slope is constant? Explain using the concept of percentage changes.
Think about your answer, then reveal below.
Model answer: Elasticity is calculated as (% change in quantity) / (% change in price). A percentage change depends on the base value: a $1 change in price from $100 is 1%, but the same $1 change from $10 is 10%. On a linear demand curve, the absolute changes in price and quantity are constant (slope is constant), but the percentage changes vary because the base values — the current price and quantity — change at every point. At high prices and low quantities, the same absolute changes represent large percentages, making elasticity high. At low prices and high quantities, those same absolute changes are small percentages, making elasticity low.
This is why the slope-elasticity confusion persists: students see a straight line and assume constant slope means constant elasticity. But elasticity requires percentage thinking, and percentages depend on the base, which changes continuously as you move along the curve.