unit 3 price determination

demand def

the quantity of a good or service that consumers are willing and able to buy at a given price

law of demand

price up = demand down

price down = demand up

income effect

as prices go up, real income decreases, leading to a decrease in quantity demanded

substitution effect

as a price of a good goes up, other substitute goods become more competitive

factors effecting demand

• Population

• Advertising

• Substitutes

• Income

• Fashion / Trends

• Interest rates

• Complements

supply def

quantity of a good or service producers are willing and able to supply at a given price

factors effecting supply

• Productivity

• Indirect tax

• Number of substitutes

• Technology

• Substitutes

• Weather

• Coast of production

free market def

anywhere buyers and sellers meet to exchange goods or services

equilibrium

demand = supply

excess demand

• signal

• incentive

• ration

• allocate

excess supply

consumer surplus

consumers above P1 are willing to pay more but paid 20 dollars

producer surplus

producers below p1 are willing to sell/produce the good for a lower price

joint demand (complements)

• demand for one good generates demand for another related good

• printers and ink

competitive demand (substitutes)

• demand for a good when there are many substitutes available

• coke and pepsi

derived demand

• demand for a good comes from demand for another good

• plane tickets and holidays

composite demand

• two goods require the same input to make them

• cheese butter

• demand up for cheese = less supply of butter

joint supply

• a product that can be used to produce multiple goods

• an increase in the production of one good leads to an increase in the supply of another

• beef and leather

PED

• measures the responsiveness of QD given a change in price

• (% change in QD / % change in price) x 100

• PED is always negative

  • >1 = elastic, change in QD is proportionally greater than change in price

  • <1 = inelastic

  • 0 = perfectly inelastic

  • infinite = perfectly elastic

determinants of PED

• number of substitutes

• necessity or not

• % of income

• habit forming

PED elasticity graphs

PES

• measures the responsiveness of quantity supplied to a change in price

• (% change in QS / % change in price) x 100

• PES is always positive

  • >1 = elastic

  • <1 = inelastic

  • 0 = perfectly inelastic

  • infinite = perfectly elastic

determinants of PES

• time and production speed / lag

  • more elastic if time in longer they can adject production level

• stock

  • more = easier to meet demand = elastic

• space productive capacity

  • more capacity = easy to increase out put = elastic

• substitutes FOP

  • easier to get = more elastic

PES elasticity graphs

short run vs long run

• short run - at least 1 FOP is fixed

• long run = all FOP are variable

XED (cross price elasticity)

• measures the responsiveness of quantity demand of good A given a change in price of good B

• (% change in QD of good A / % change in price of good B) x 100

• positive = substitutes

  • 0 to 1 = weak substitute, inelastic

  • >1 = strong substitute, elastic

• negative = complement

  • 0 to -1 =weak complement, inelastic

  • <-1 = strong complement, elastic

YED (income)

• measures the responsiveness of quantity demand given a change in income

• (%change in QD / % change in income) X 100

• positive = normal good

• negative = inferior good

normal good

• demand increased as incomes rise

• necessities, essential goods

  • 0 to 1, inelastic

• luxury goods

  • >1, elastic

inferior good

demand falls as incomes rise

competing supply

• increase in supply of good A causes a decrease in supply of good B

• same FOP are required to produce both