Chapter 6
Supply and Demand
Law of Demand = The price of product is inversely proportional to the quantity sold. (As price decreases, demand increases. As price increases, demand decreases.) Demand is what the consumer is willing and able to pay.
Change in Price = QD (change in quantity demand = price)
Demand schedule of donut holes:
|
$1.00 |
0 |
|
.75 |
0 |
|
.50 |
2 |
|
.40 |
4 |
|
.30 |
6 |
|
.25 |
10 |
$
$1.00
.75
.50
.40
.30
.25
0 2
4 6 10
Change of price is shown
Law of diminishing utility = demand will diminish as need is satisfied. For example, the demand for pizza is decreased after one eats a couple of slices.
Change of Demand (6) (D)
1. Substitution - If the price of carrots increase,
consumers may substitute carrots for cucumbers.
$
D D1 Red – carrots
Blue – cucumbers
Q
Carrots
2. Complements –
Associated products that will be affected by other products. For example is the
price of jelly skyrockets, there would also be a resulting drop in the purchase
of peanut butter.
3. Taste and Preferences – If a product is deemed to be inferior, there would be
a decrease in demand (which would eventually lead to a drop in price.)
4. Population – An
increase or decrease in population will affect demand.
5. Price of
Expectations – If one expects an
increase in price in the future, one might stock up on products prior to the
price hike.
6. Change in Income
– An increase or decrease in income will affect spending for a consumer.
Elasticity vs inelasticity of demand
If
quantity demanded is basically unaffected by price, this product is inelastic.
(gas, medicine, insulin)
Determinants – Substitutes
are unavailable
Proportion
of income does not affect demand
Time
does not affect demand
Necessity
(not a luxury)
If
quantity demanded is affected by a small price change, this product is elastic.
(peanut butter)
Determinants – Substitutes are available
Proportion
of income does affect demand
Time
does affect demand
Luxury
(not necessity)
The more vertical a demand curve is, the more inelastic it is; conversely, the more horizontal a demand curve is, the more elastic it is.
Price Elasticity formula =
%change in qd
------------------ greater
than 1 = elastic; less than 1 = inelastic; 1 = unitary
% change in $
%change
in qd = new quantity – old quantity
old
quantity
%
change in $ = new price – old price
old price
example
10
8 B
6
4 A
2
1 2 3 4 5 6 7 8 9
%change
in qd = new quantity – old quantity
old
quantity
%change
in qd = 5 – 9
5
%change
in qd = -.8
%
change in $ = new price – old price
old price
%
change in $ = 3-6
3
%
change in $ = -1
-.8
------------------ greater than 1 = elastic; less than 1
= inelastic; 1 = unitary
-1
.8 less than 1 = inelastic