Question

Write short answer for the following question :

Total outlay method of measuring price elasticity of demand.

Answer 1

Total Outlay Method

Total outlay method, also known as total expenditure method of measuring price elasticity of demand was developed by Professor Alfred Marshall. According to this method, price elasticity of demand can be measured by comparing total expenditure on a commodity before and after the price change.

 

From the changes in the total expenditure made on a good as a result of changes in its price, we can know the price elasticity of demand for the good. But it should be remembered that with the total outlay method we can know only whether elasticity is equal to one, greater than one or less than one. With this method we cannot find out the exact and precise coefficient of elasticity.

 

In order to understand it better see the table given below.

Price of Pen in Rs.	Quantity Demanded	Price Outlay	Elasticity of Demand
5.00	30	150	e>1
4.75	40	190	e>1
4.50	50	225	e>1
4.25	60	255	e>1
4.00	75	300	e=1
3.75	80	300	e<1
3.50	84	294	e<1
3.25	87	292.75

We have calculated the total outlay by multiplying the quantity demanded with the corresponding price of the pen. It will be observed from the table that when price of pen falls from Rs. 5 to Rs. 4.75, from Rs. 4.75 to Rs. 4.50, from 4.50 up to Rs. 4.25 and from Rs. 4.25 to Rs. 4, the quantity demanded increases so much that the total outlay on pen increases indicating thereby that elasticity of demand is greater than one at these prices.

When the price falls from Rs. 4.00 to Rs. 3.75, the quantity demanded increases from 75 pens to 80 pens so that total outlay remains the same at Rs. 300. This shows that price elasticity of demand is unity. When the price of pen further falls from Rs. 3.75 to Rs. 3.50 and then to Rs. 3.25, the total outlay spent on pen decreases. Thus, the elasticity of demand for pen at these prices is less than unity.