2.1: Demand

Demand Defined

• Demand: The Different Quantities Of Goods That Consumers Are willing And able To Buy At Different Prices
  • Eg. You Are able To Purchase Diapers, But If You Aren’t willing To Buy, There Is No Demand.
• Law Of Demand: There Is An Inverse Relationship Between Price And Quantity Demanded
  • Result Of Three Separate Behavior Patterns That Overlap
  • Substitution Effect: If The Price Goes Up For A Product, Consumers Buy Less Of That Product And More Of Another Substitute Product (and Vise-versa)
  • Income Effect: If The Price Goes Down For A Product, The Purchasing Power Increases For Customers, Allowing Them To Purchase More
  • Law Of Diminishing Marginal Utility: As You Consume Anything, The Additional Satisfaction That You Receive Will Eventually Start To Decrease
    • Utility = Satisfaction → We Buy Goods To Get Utility From Them
    • The More You Buy Of Any Good, The Less Satisfaction You Get From Each New Unit Consumed

Graphing Demand

• Demand Curve: A Graphical Representation Of A Demand Schedule
  • Downward Sloping, Showing The Inverse Relationship Between Price (on The Y-axis) And Quantity Demanded (on The X-axis)
  • When Reading A Demand Curve, Assume That All Outside Factors Such As Income Are Held Constant → “ceteris Paribus”

Shifts In Demand

• Ceteris Paribus: All Other Things Held Constant

  • When This Assumption Is Dropped, Movement No Longer Occurs Along The Demand Curve; Rather, The Entire Demand Curve Shifts
  • A Shift Means That At The Same Prices, More People Are Willing And Able To Purchase That Good
  • This Is A Change In Demand, Not A Change In Quantity Demanded → Price Doesn’t Shift The Curve!!

• What Causes Shifts In Demand? 5 Shifters [determinants] Of Demand

  1. Tastes And Preferences
  2. Number Of Consumers
  3. Price Of Related Goods
  • The Demand Curve Of One Good Can Be Effected By A Change In The Price Of Another Related Good
    • substitutes: Goods Used In Place Of One Another
      • If The Price Of One Increases, The Demand For The Other Will Increase (or Vise Versa)
      • Eg. If The Price Of Pepsi Falls, Demand For Coke Will Fall
    • complements: Two Goods That Are Bought And Used Together
      • If The Price Of One Increases, The Demand For The Other Will Fall (or Vise Versa)
      • Eg. If The Price Of Hot Dogs Falls, Demand For Hot Dog Buns Will Increase
  1. Income
  • The Incomes Of Consumers Change The Demand, But How Depends On The Type Of Good
    • Normal Goods — As Income Increases, Demand Increases +v/v
      • Eg. Luxury Cars, Seafood, Jewelry, Homes
    • Inferior Goods — As Income Increases, Demand Falls +v/v
      • Eg. Top Ramen, Used Cars
  1. Future Expectations

• Changes In Price Don’t Shift The Curve, They Only Cause Movement Along The Curve.

Price Elasticity Of Demand

• Law Of Demand — Consumers Will Buy More When Prices Go Down And Less When Prices Go Up
  • elasticity: The Concept Of Determining How Much More/less
• price Elasticity Of Demand (PED): Measurement Of How Sensitive Quantity Demanded Is To A Change In Price
  • Knowing How Consumers Will Respond To A Change In Price Is Extremely Useful To Firms
  • Helps Decide What To Charge, When/if To Have Sales
  • Helps Determine How Many Substitutes Are In The Market
  • Used By Government To Decide When & How Much To Tax
• Elasticity Varies Along A Linear Demand Curve; Elasticity Is Not Slope

Elastic And Inelastic Demand

Elastic Demand

• Elastic Demand: When A Quantity Is Sensitive To A Change In Price
  • If Price Increases, Quantity Demanded Will Fall A Lot
  • If Price Decreases, Quantity Demanded Will Rise A Lot
  • The Amount People Buy Is Sensitive To Changes In Price
  • Elastic Demand Curve Is Flat
  • General Characteristics Of Elastic Goods
  • Many Substitutes
  • Luxury Goods
  • Large Portion Of Income
  • Plenty Of Time To Decide On Purchases
  • Elasticity Coefficient Greater Than One

Inelastic Demand

• Inelastic Demand: When A Quantity Is Insensitive To A Change In Price
  • If Price Increases, Quantity Demanded Will Fall A Little
  • If Price Decreases, Quantity Demanded Will Rise A Little
  • People Will Continue To Buy Regardless Of Changes In Price
  • Inelastic Demand Curve Is Steep
  • General Characteristics Of Inelastic Goods
  • Few Substitutes
  • Necessities
  • Small Portion Of Income
  • Required Immediately Rather Than Later
  • Elasticity Coefficient Less Than One

Calculating Percent Change

• % Change = [(new #-old #)/(old #)] X 100

Total Revenue Test

• Total Revenue Test: Test That Uses Elasticity To Show How Changes In Price Will Affect Total Revenue (TR)
  • Elastic Demand — Price Increase = TR Decrease +v/v
  • Inelastic Demand — Price Increase = TR Increase +v/v
  • Unit Elastic — Price Changes, TR Remains Constant