What Is Total Revenue in Economics?

Businesses determine their total revenue by multiplying the price of one unit that they are selling by the number of units they sold. Demand for products, which can be elastic, affects the total revenue of the companies that sell those items.

Definition

In the field of economics, total revenue is the price of an item multiplied by the number of units of that item sold.

Influences

A phenomenon called "elasticity of demand" affects a business's total revenue. Elasticity of demand equals the percentage of change in the number of items purchased, divided by the percentage of change in the price of the individual item. If, for instance, a company manufacturing fishing rods has previously sold 2,000 units at $50 each, the total revenue of that transaction is $10,000. If demand drops for the fishing rods and the company drops the price per rod to $40 each, the company would have to sell 2,500 units, or an additional 500 fishing rods, to bring in the same total revenue.

Elasticity Values

In the second case, the elasticity of demand equals 1.5625. An elasticity value of less than 1.0 indicates that the demand for the item is inelastic. A value of 1 indicates that the demand is unit-elastic. A value greater than 1.0 indicates that demand is elastic.

Elasticty Values and Total Revenue

Elasticity values indicate how dropping the price of an item may affect the total revenue of the firm. If demand is elastic, cutting the price of the fishing rod by 20 percent (to $40 from $50) will increase total revenue by more than 20 percent. If demand is unit-elastic, a 20 percent price cut will bring in exactly 20 percent more revenue. If demand is inelastic, dropping the price by 20 percent will bring in less than 20 percent additional revenue.

What Affects Elasticity of Demand?

The decision to cut prices to increase total revenue has to be driven by the demand for the product. Obviously, no company officials would ever consider cutting prices if their product is in high demand and their customers are showing no resistance to the established price.
If, on the other hand, the customer can find another, similar product at a lower price and chooses to buy the less expensive product, the manufacturer of the more expensive item faces a decrease in sales and a consequent drop in total revenue.
If other items that a customer has to pay for suddenly increase in price, the customer has less disposable income to spend, and demand for some items that are not considered necessities will drop.
If the customer has a long period to get used to increased prices, the customer will find substitutes for more expensive purchases and demand will drop at a greater rate than if price hikes came on suddenly.