No Free Lunch: Economics for a Fallen World: Third Edition, Revised

Chapter Three: Demand 74 this process later, but for now it should be obvious that if you are able to increase the price you receive for your product (remember, ceteris paribus !), your profits will go up. Your total revenues will go up, since we define total revenue as the product of price times quantity: TR = P × Q Perhaps you should raise your prices if you want to increase your profits. Remember, we are assuming ceteris paribus —all else equal— therefore your costs aren’t changing. As with any decision, we will answer to God for how we set a price (Matthew 12:36; Romans 14:12). If the attitude is one of increasing profits to more effectively expand the business to serve others, we’re probably ok. But if the attitude is one of how much I can “squeeze” out of my customers so I can get rich, that’s an indication that we are not acting out of love toward our neighbor. But the question you need to ask is, “if I raise my price on my signature Lecrae t-shirt, will people still keep buying them?” Here is where a new concept called elasticity will help you. The price elasticity of demand helps us understand how the quantity demanded of a good will change when its price changes. We know from the Law of Demand that if the price rises, the quantity demanded will fall; but by how much? If it only falls a little and you are able to charge a lot more, it may still make sense to raise your price. But if you raise the price a penny and everyone stops buying, you would greatly regret the change. Entrepreneurs, therefore, must understand the nature of their product’s market and have some understanding of consumer demand if they want to maximize their profits. As you may suspect, the price elasticity of demand has a relationship to the slope of the demand curve: demand curves always slope downward, but can vary in the steepness as seen in Figure 3.7 (and they aren’t necessarily linear, even though we usually show linear curves in the text for simplicity). The demand curve, D 1 , is very inelastic, which means that the quantity demanded does not change much with a change in price. An example of this type of good might be gasoline. At least in the short term, when the price of “ The price elasticity of demand helps us understand how the quantity demanded of a good will change when its price changes.” P ($) Q (#) D 1 D 2 Figure 3.7, Elasticity of Demand. Both demand curves follow the Law of Demand and slope downward. The demand curve D1 is steeply sloped and is an Inelastic demand curve, which means the quantity demanded is relatively insensitive to price changes. The Elastic demand curve D2 has a more gentle slope, and the quantity demanded is relatively sensitive to price changes price elasticity of demand: a measure of the responsiveness of the quantity demanded to a change in price elasticity: a measure of the responsiveness of a given variable to changes in another variable (usually price, but not always) total revenue: the monetary value of all sales, equal to the price of each sale multiplied by the sales price; if there is only good and one price, total revenues equals the price multiplied by the quantity sold