Bài giảng Macroeconomics - Chapter 4: Demand and Elasticity

Chapter 4: Demand and ElasticityRelate the law of demand to the Cost-Benefit PrincipleDiscuss the relationship between the individual demand curve and the market demand curveDefine and calculate consumer surplusDefine price elasticity of demand and explain its determinantsCalculate price elasticity of demand using information from the demand curveDescribe the relationship between price elasticity of demand and total expenditureDefine cross-price elasticity of demand and income elasticity of demandCost-Benefit Principle at workDo something if the marginal benefits are at least as great as the marginal costsAn increase in the market price approaches our reservation priceIf market price exceeds the reservation price, buy no moreCosts include ALL costs – money, time, reputationConsider implicit and explicit costsLaw of DemandLaw of DemandPeople do less of what they want to do as the cost of doing it risesOrigins of DemandReservation priceIndividual tastes and preferences differBiological needs ■ Cultural influences Peer behavior ■ Individual differencesPerceived quality ■ Expected benefitsTastes may change over timeMacaroni and cheeseSpinachNew goods get incorporated into prioritiesNeeds versus WantsSome goods are required for subsistenceThese are needsBeyond subsistence, behavior is driven by wantsKidneys or hamburgerOatmeal or toaster pastriesWants depend on priceWater in CaliforniaRegulations or price mechanismRegulations are cumbersome and expensivePrice changes are fast and effectiveSubstitution at WorkSubstitution has powerful effects on our choicesNew car or used oneCar pool or busFrench restaurant, Chinese restaurant, cook at homeSoccer game or TV or read a bookGo to movies or join Netflix or get cable TVTurn on the heat or put on a hoodieNominal and Real PricesNominal price: the absolute price of a good in terms of dollarsThe price you see on a good in a storeReal price: the nominal price of a good relative to the average dollar price of all other goodsReal prices are adjusted for inflationIncome Differences MatterIncome is one of the determinants of demand"Free goods" have more takers in lower income neighborhoods than in higher income areasThe wait to get the free good is the priceWaiting times in lower income areas will be longerLower opportunity cost of the residents' timeStores in higher income areas have lower waiting times to pay for purchasesThe higher value of time causes these people to be willing to pay for more store staffIndividual and Market Demand CurvesThe market demand is the horizontal sum of individual demand curvesAt each possible price, add up the number of units demanded by individuals to get the market demandSmithJonesMarketIdentical Individual Demand CurvesIn the special case where all buyers demand exactly the same quantity at each priceMultiply the individual quantity demanded by the number of buyers to get the market demandMarketIndividualConsumer Surplus on a GraphConsumer surplus is the difference between the buyer's reservation price and the market priceWhen a product is sold in whole units, the demand curve is a stair-step functionMany goods are indivisible: movie tickets and TVsIf the market supplied only one unit, the maximum price would be $11For the second unit, the price is $10, and so onThe last buyer gets no consumer surplusDUnits/dayMarginal utility (utils/ pint)12345678910111224681012Vanilla Ice CreamConsumer Surplus on a GraphMarket price is $6 for all salesTotal consumer surplusThe first sale generates $5 of consumer surplusReservation price of $11 minus the price of $6Selling the second unit has $4 of consumer surplus, and so onTotal consumer surplus is the area under the demand curve and above market priceDUnits/dayMarginal utility (utils/ pint)12345678910111224681012Vanilla Ice CreamPrice Elasticity of DemandPrice elasticity of demand is defined as the percentage change in quantity demanded from a 1% change in priceMeasure of responsiveness of quantity demanded to changes in priceExample:Price of beef decreases 1%Quantity of beef demanded increases 2%Price elasticity of demand is – 2PQCalculate Price ElasticitySymbol for elasticity is εLower case Greek letter epsilonFor small percentage changes in priceε = Percentage change in quantity demandedPercentage change in pricePrice elasticity of demand is always negativeIgnore the signElastic DemandIf price elasticity is greater than 1, demand is elasticPercentage change in quantity is greater than percentage change in priceDemand is responsive to priceInelastic DemandIf price elasticity is less than 1, demand is inelasticPercentage change in quantity is less than percentage change in priceQuantity demanded is not very responsive to priceUnit Elastic DemandIf price elasticity is 1, demand is unit elasticPrice and quantity change by the same percentagePrice Elasticity NotationΔQ is the change in quantityΔQ / Q is percentage change in quantityΔP is change in priceΔP / P is percentage change in priceε = ΔQ / QΔP / PPrice Elasticity: Graphical View At point A P = 8 Q = 3 Slope = 20 / 5 = 4ε = 8314x= 0.67 P – Δ P PricePDAQQ + Δ Q Δ Q Δ PQuantityε = PQslope1xPrice Elasticity and SlopeWhen two demand curves crossP / Q is same for both curves(1 / slope) is smaller for the steeper curveAt the common point demand is less price elastic for the steeper curveD1D212461264QuantityPriceLess ElasticMore ElasticPrice Elasticity on a Straight-Line Demand CurvePrice elasticity is different at each pointSlope is the same for the demand curveP/Q decreases as price goes down and quantity goes upε = PQ1slopexPrice Elasticity PatternPrice elasticity changes systematically as price goes downAt high P and low Q, P / Q is largeDemand is elasticAt the midpoint, demand is unit elasticAt low P and high Q, P / Q is smallDemand is inelasticPriceb/2a/2abQuantityTwo Special CasesPerfectly Elastic DemandInfinite price elasticity of demandPerfectly InelasticDemandZero price elasticity of demandPriceQuantityDPriceQuantityDElasticity and Total ExpenditureWhen price increases, total expenditure can increase, decrease or remain the sameThe change in expenditure depends on elasticityTerminology: total expenditure = total revenueCalculate as P x QGraphing idea: total expenditure is the area of a rectangle with height P and width QExample: P = 2 and Q = 4PriceQuantityD24Expenditure = 8Price Elasticity and Total ExpenditureMovie ticket price increases from $2 to $4A and B are both below the midpoint of the curveInelastic portion of the demand curveTotal revenue increases when price increasesQuantity (00s of tickets/day)DAExpenditure = $1,000/day12Price ($/ticket)562Quantity (00s of tickets/day)4DBExpenditure = $1,600/day12Price ($/ticket)64Price Elasticity and Total ExpenditureMovie ticket price increases from $8 to $10Prices are both above the midpoint of the curveElastic portion of the demand curveTotal revenue decreasesDExpenditure = $1,600/day12Quantity (00s of tickets/day)Price ($/ticket)268YZDExpenditure = $1,000/day12Quantity (00s of tickets/day)Price ($/ticket)1610Cross-Price Elasticity of DemandSubstitutes and complements affect demandCross-price elasticity of demand is defined as the percentage change in quantity demanded of good A from a 1 percent change in the price of good BSign of cross-price elasticity shows relationship between the goodsComplements have negative cross-price elasticity Substitutes have positive cross-price elasticityIncome Elasticity of DemandIncome elasticity of demand is defined as the percentage change in quantity demanded from a 1 percent change in income.Income elasticity of demand can be positive or negative.Positive income elasticity is a normal good.Negative income elasticity is an inferior good.