Elements of Microeconomics

DEMAND: Chapter 3

Section 1: Nature of DemandHow does your demand and time relate?What is demand? The amount of a good or

service that a consumer is willing and able to buy at various possible prices during a given time period.Consumer must be willing and able to buy the

good or serviceMust be examined for a specific time period be it

a day, a week, a month, a year, or some other definite period

Law of demand: an increase in a good’s price causes a decrease in the quantity demanded AND that a decrease in price causes an increase in the quantity demanded.How does this hold true?What affects this?

Income effect: any increase or decrease in consumers’ purchasing power caused by a change in price. Example - more CDs with same money, how does this look in your life?

Substitution effect: tendency of consumers to substitute a similar, lower-priced product for another product that is relatively more expensive - generic products

Diminishing marginal utility: at some point, consumers cannot use any more of a product - a LIMIT TO CONSUMERS’ DEMAND

Demand Schedules: as price increases, the quantity demanded decreases

Price per watch Quantity Demanded

$600 0

$500 1,500

$400 2,750

$300 3,750

$200 4,500

$100 5,000

Demand Curves: plots relationship between price of a product and the quantity demanded (the demand schedule)

Why? Can show at a glance the rate of change at each price

Section 2: Changes in DemandMarkets do not stand still! Factors can shift the entire demand curve of

a product to the right or leftDeterminants of demand:

Consumer tastes and preferences: popularity rises and falls

Market Size: example, more people take up hiking, grander market for sale; example, government influence with global trade; example, technology can create new products and markets

Income: higher income, more spending; also, change in price can shift demand

Prices of Related Goods: substitute goods - affects consumers’ tendency to switch to lower-priced substitutes, an increase in a product’s price leads to increased demand for product’s substitute goods (vice versa); complementary goods - paintbrushes and paint, increase in product’s price causes decreased demand for product’s complementary goods

Consumer Expectations: optimism versus pessimism

Section 3: Elasticity of DemandQuestions and concerns of manufacturers,

sellers, businesses: How much does the quantity demanded decrease when a product’s price increases? How many fewer people will go use the product?

Elasticity of demand: degree to which changes in a good’s price affect the quantity demanded by consumers

Elastic Demand: exists when a small change in a good’s price causes a major, opposite change in the quantity demandedDepends on:

If the product is not a necessityIf there are readily available substitutesIf the product’s cost represents a large portion of

consumers’ income

Inelastic Demand: exists when a change in a good’s price has little impact on the quantity demanded

Depends on: If the product is a necessity If there are few or no readily available substitutes for the

product If the product’s cost represents a small portion of

consumers’ income

How to look at elasticity?

It depends on what market you want to analyzeGeneral or specificThink about milk - generally it is an

inelastic product, but when you take a closer look it is very elastic…

Measuring Elasticity: How do we measure this? Total revenue test - by

monitoring any changes in a business’s (or market’s) total revenue before and after changes in the price of a product, you can determine the elasticity of demand for the product.A drop in a business’s total revenue from a price

increase indicates elastic demand for the product (or vice versa)

A rise in total revenue because of a price increase indicates inelastic demand for business’s good or services