Demand

Chapter 2

1

Demand analysis - intuition

Marginal Cost/Marginal Benefit analysis of consumers

If Marginal Benefit > Marginal Cost, buy it

If Marginal Benefit < Marginal Cost, don’t buy it

Marginal Benefit is reflected by what consumer is willing to pay. Marginal Cost is price of item.

2

Individual’s Demand for Gasoline (based on individual’s willingness to pay)

Depends on, Individual’s Income Price of Gasoline Prices of Related Goods (automobiles,

bus ticket, etc.) Individual’s Tastes/Preferences Individual’s expectation of future prices

3

Market Demand for Gasoline

Obtained by summing all individual demands.

Depends on, All factors that affect individuals’ demands Number of Individuals (population)

4

Graphing Demand

• The demand schedule is a table that shows the relationship between the price of the good and the quantity demanded - fixing all the other factors that affect quantity demanded.

• The demand curve is the line relating price to quantity demanded - fixing all the other factors that affect quantity demanded.

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Graphing DemandSchedule:

QuantityPrice Demanded

10 09 18 27 36 45 54 63 72 81 90 10

Gasoline Market

0123456789

10

0 1 2 3 4 5 6 7 8 9 10

D

Q=Quantity of Gas

P=Price of Gas = $/Q

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Law of Demand

 Is the relationship between price and quantity demanded positive or negative?Negative (Price and quantity demand move in opposite directions)

Law of demand More of a good will be demanded, the lower its price.

7

Change in quantity demanded

results from a change in price, all else equal

shown as a movement along the demand curve

8

Change in demand

results from a change in a factor other than price

shown as a shift of the entire demand curve

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Notation

D=Demand QD=Quantity Demanded

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Example of Change in Demand due to income change Income Increases At every price, do people

want to buy more or less? For Gasoline, More! Demand increases Shifts right

Gasoline Market

0

2

4

6

8

10

12

0 1 2 3 4 5 6 7 8 9 10

Quantity of Gas = Q

Pri

ce/G

allo

n of

Gas

= P

D0

D1

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Normal Good

A good for which demand increases when income increases

Examples:

Premium Beers and wine

Disneyland

Gasoline

Lego Robotic

12

Income Increases for an Inferior Good

Inferior goods are goods where demand decreases when income increases.

Examples:

Pabst Blue Ribbon Beer

Certain Products at Wal-Mart

Generic Diapers

Yugos (perhaps)13

Income Increases for an Inferior Good Income Increases At every price, do

people want to buy more or less?

Less! Demand

decreases Shifts left

Q

P

D0D1

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Change in demand due to change in the price of a related good Substitutes

Two goods that satisfy similar needs or desires

Examples:

Diet Pepsi and Diet Coke Strawberries and Raspberries

Gasoline and Manual Lawn Mowers 15

Change in demand due to change in the price

of a related good: Substitutes Price of a

substitute good decreases

Demand Decreases

Shifts Left

D1

Q

P

D0

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Change in demand due to change in the price

of a related good: Substitutes

What happens if the price of a substitute increases?

Demand Increases/Shifts Right

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Change in demand due to change in the price of a related good:

Complements Two goods that are used jointly in consumption.

Examples:Tires and GasolineTires and AutomobilesBeer and Pizza

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Change in demand due to change in the price

of a related good: Complements Price of a

complementary good decreases

Demand Increases

Shifts right

D1

Q

P

D0

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Change in demand due to change in the price

of a related good: Complements

What happens if the price of a complement increases?

Demand decreases/Shifts left

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Change in demand due to...

Tastes: Positive Change

demand increasesshifts curve right

Negative Changedemand decreasesshifts curve left

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Change in demand due to...

Population... Increase

demand increasesshifts curve right

Decreasedemand decreasesshifts curve left

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Change in demand due to...

Expected: Price Increase

demand increasesshifts curve right

Price Decreasedemand decreasesshifts curve left

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Change in demand

results from a change in a factor other than price

shown as a shift of the entire demand curve

change in anything other than price

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Demand = Willingness to PayGasoline Market

0123456789

10

0 1 2 3 4 5 6 7 8 9 10

D

Q=Quantity of Gas

P=Price of Gas = $/Q

P=

Consumer Surplus(The value consumers get from a good but do not have to pay for.)

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Demand Function for Good X

QDx = f(Px, PY, M, H1 , H2, …)

where,

Px is the price of good X,PY is the price of good Y,M is income,H1 is size of population,H2 is consumers’ expectations,…

On the prior graph for gasoline, QDx = 10 - Px

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