Bài giảng Microeconomics - Chapter 5 Demand: The Benefit Side of the Market

Competition and the Invisible HandPart 21What is Part 2 About?2The Benefit Side (Ch. 5): Preview3The Cost Side (Ch. 6): Preview4Efficiency and Exchange (Ch. 7): Preview5The Invisible Hand (Ch. 8): Preview6Demand: The Benefit Side of the Market7What is Chapter 5 about?8I. Needs, Wants and Demand5 - 99Prices and Quantity DemandedIn markets, the price rations goods and services among competing usersThe demand curve is a relationship between the quantity demanded and its priceHolding all else constant – e.g. quality10Law of DemandPeople do less of what they want to do as the cost of doing it risesWhy ? Cost-Benefit PrinciplePursue an action if and only if its benefits are at least as great as its costsReservation Price sets the limit The highest price we’d be willing to pay11Fig. 5.1 The Effect of Crop Failure on Consumption80050045Q (1000s of kg/day)P ($/kilo)S′SD12UtilityUtility - the satisfaction people derive from consumption activitiesUtility Maximization – we assume people try to allocate their incomes to maximize their satisfactionAssumption: the more we consume, the more utility we have (up to a point)Economics is only part of life – but it is an important part 13Fig. 5.2 Total Utility from Ice Cream Consumption14Table 5.2 Total and Marginal Utility from Ice Cream Consumption15Marginal UtilityThe additional utility gained from consuming an additional unit of a goodDiminishing Marginal UtilityAs consumption of a good increases, the additional utility gained from an extra unit of the good tends to declineI.E., the “next” unit of the good does not give as much utility as the previous one16Optimal ConsumptionThe affordable combination of goods consumed that yields the highest total utility for the individual consumer17Rational Spending RuleAllocate spending across goods so that the marginal utility per dollar is the same for each goodThe marginal utility per dollar =- follows directly from the cost ($) benefit (MU) principle18Table 5.3 $10 to spend on two types of ice-cream. Cones $1; Sundaes $219Role of SubstitutionWhen the price of a good or service goes up Rational consumers seek out relatively less expensive substitutesWhen prices return to their original levelsPeople often return to the original good20Real vs. NominalNominal PriceThe absolute price in dollar termsReal PriceThe dollar price relative to the average dollar price of all other goods and servicesReal price = the opportunity cost of the good21Demand and Income DistributionIf income distribution becomes more unequal, the premium for luxury goods increasesMore people with higher income vying for luxury goods tends to bid up priceHow much ? – Depends on Supply Curve“Positional Goods” are inherently limited in supply 22Figure 5.3 Price of a house with a view23III. Individual and Market Demand Curves5 - 2424Fig. 5.4 Individual and Market Demand Curves for Canned TunaMarket demand curve25Fig. 5.5 Individual and Market Demand Curves When All Buyers Have Identical Demand Curves26Forms of Demand CurvesDemand curves can be shownIn a graphIn a tableIn an equation27Equation for a Straight Line Demand CurveP is for the price of the goodQ is for the quantity demandedb is the vertical interceptm represents the slope28Fig. 5.6 The Market Demand Curve for Canned Tuna29Total ExpenditureTotal Expenditure equalsThe number of units bought multiplied by the price of the goodTotal Expenditure of consumers = Total Revenue of Producers30Fig. 5.7The Demand Curve for Movie Tickets012345624681012DQuantity (100s of tickets/day)Price ($/ticket)An increase in price from $2 to $4 per ticket increases total expenditure on tickets for “Inelasticity”31Fig. 5.8The Demand Curve for Movie TicketsQuantity (100s of tickets/day)(a)Quantity (100s of tickets/day)(b)Price ($/ticket)Price ($/ticket)141210864201412108642012345612345632The Law of Demand and Total Expenditure“Will consumers spend more on my product if I sell more units at a lower price or fewer units at a higher price?”Depends upon price elasticity of demandWhen price rises, total expenditure may increase, decrease, or stay the sameWhat is the relative size of demand response ?As price rises, is % change in quantity demanded more – or less- than the % price rise ?As price falls, is % change in quantity demanded more – or less- than the % price fall ?33Fig. 5.10 Total Expenditure as a Function of Price34IV. Price Elasticity of Demand5 - 3535Price Elasticity of DemandIn order to predict what will happen to total expenditures,We must know how much quantity will change when the price changesPrice elasticity of demand isthe percentage change in the quantity demanded that results from a one-percent change in its price36Calculating Price Elasticity[Proportional (%) change in quantity demanded] divided by [the proportional (%) change in price]elasticity ε = (ΔQ/Q)/(ΔP/P)In another form, ε = (P/Q)(1/slope). (slope of the demand curve is ΔP/ΔQ)37Price Elasticity ValuesElastic Demandprice elasticity is greater than one (ΔQ/Q dominates)Inelastic Demandprice elasticity is less than one (ΔP/P dominates)Unit elastic Demandprice elasticity equals one (dividing line case)When calculating price elasticity of demand, you will always get a negativeFor convenience we will take the absolute value38Fig. 5.11 Elastic and Inelastic Demand39Price Elasticity and ExpendituresFor an elastic productQuantity demanded is highly responsivePercentage change in quantity dominatesAn increase in price will reduce total expenditureA decrease in price will increase total expenditureFor an inelastic productQuantity demanded is not responsivePercentage change in price dominatesAn increase in price will increase total expenditureA decrease in price will decrease total expenditure40Determinants of ElasticitySubstitution possibilitiesPrice elasticity of demand will be relatively high if it is easy to substitute between productsBudget shareItems that take up a larger share of the budget tend to have higher price elasticities of demandTimeBecause substitution takes time, price elasticity will be higher in the long run than in the short run41Fig. 5.12 Graphical Interpretation of Price Elasticity of Demand42Perfect ElasticityPerfectly Elastic demandPrice elasticity of demand is infiniteEven the slightest change in price leads consumers to find substitutesPerfectly Inelastic demandPrice elasticity of demand is zeroConsumers do not switch to substitutes even when price increases dramatically43Fig. 5.14Perfectly Elastic, Perfectly Inelastic, and Unit Elastic Demand Curves44Other Elasticities of Demand (a)Income Elasticity of DemandThe % amount by which the quantity demanded changes in response to a one-percent change in income45Other Elasticities of Demand (b)Cross Price Elasticity of DemandThe % amount by which the quantity demanded of one good changes in response to a one-percent change in the price of another good46End of Chapter SlidesConcept Maps meant for student printouts follow.Concept Map slides are also available in pdf format.Slide 5 - 4747What is Chapter 5 about?48I. Needs, Wants, and the Law of Demand49II. Translating Wants into Demand and the Rational Spending Rule50III. Individual and Market Demand Curves51IV. Price Elasticity of Demand52Summary of Chapter 553