Economics for Leaders Open Markets: Demand and Supply.
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Economics for Leaders
Open Markets:Open Markets:
Demand and SupplyDemand and Supply
Economics for Leaders
Choices are made at the Margin
Our only choice is the next choiceOur only choice is the next choice
Marginal = additional, next, a little Marginal = additional, next, a little more or a little lessmore or a little less
Economics for Leaders
How much should we do?
WorkPlayStudySleep
Economics for Leaders
As long as the marginal benefit is greater than the marginal cost you should continue the activity
MB=MC
Economics for Leaders
Price IS an extremely powerful incentive
Analyze: When the money price changes, the opportunity cost of using a good or resource changes. The changed opportunity cost provides an incentive for people – consumers and producers – to change their behavior.
ERP #3:
People respond to incentives in predictable ways.
Economics for Leaders
How are prices set?
By the Market!Interaction of buyers (consumers) and sellers (producers).
Economics for Leaders
Necessary Conditions for markets
1.) Property Rights
2.) Clear “Rules of the Game”
3.) Freedom to Exchange
4.) Information
Economics for Leaders
When incentives (Prices) change, behavior changes in predictable
ways.
When prices go up consumers demand a larger/smaller quantity?
Demand
The willingnesswillingness and abilityability to purchase goods and services at various prices.
Economics for Leaders
When incentives (Prices) change, behavior changes in predictable
ways.
When prices go up consumers demand a larger/smaller quantity?
SmallerWhen prices go down consumers demand a larger/smaller quantity?
LargerAlways?Law of Demand P Q
Economics for Leaders
LAW OF DEMANDPrice
Demand
As the price of a product increases, consumers buy less of a product
~~~~~~~~~~~~~~~~~
As the price of a product decreases, consumers buy more of a product
increases
Economics for Leaders
The Law of Demand
If P then QD andIf P then QD
Note: What causes the change in the consumers’ behavior ?
(think: price effect)
Economics for Leaders
What Is the Law of Demand?
The law of demand is the result of two separate behavior patterns that overlap, the substitution effect and the income effect. These two effects describe different ways that a consumer can change his or her spending patterns for other goods.
Economics for Leaders
The Substitution Effect and Income Effect
The Substitution EffectThe substitution effect occurs when consumers react to an increase in a good’s price by consuming less of that good and more of other goods.
The Income EffectThe income effect happens when a person changes his or her consumption of goods and services as a result of a change in real income.
Economics for Leaders
The Demand ScheduleAn Individual demand schedule is a table that lists the quantity of a good a person will buy at each different price.
Chapter 4, Section 1Chapter 4, Section 1
A market demand schedule is a table that lists the quantity of a good all consumers in a market will buy at each different price.
Demand Schedules
Individual Demand Schedule
Price of a slice of pizza
Quantity demanded per day
Market Demand Schedule
Price of a slice of pizza
Quantity demanded per day
$.50
$1.00
$1.50
$2.00
$2.50
$3.00
5
4
3
2
1
0
$.50
$1.00
$1.50
$2.00
$2.50
$3.00
300
250
200
150
100
50
22 33jf What is the difference between a market and individual demand
schedule?
Economics for Leaders
The Demand CurveMarket Demand Curve
3.00
2.50
2.00
1.50
1.00
.50
0
0 50 100 150 200 250 300 350Slices of pizza per day
Pri
ce p
er s
lic
e (i
n d
oll
ars)
Demand
22 33 Chapter 4, Section 1Chapter 4, Section 1
A demand curve is a graphical representation of a demand schedule.Three characteristics of every demand curve: 1.Downward sloping2.Must assume ceteris
paribus: EVERYTHING ELSE REMAINS THE SAME
3.Relationship between price and quantity
What is the one factor that causes a shift in the quantity demanded?
PRICE!!
Economics for Leaders
Pictures of Demand
Price
QD
0
$8
90
Economics for Leaders
Movement along the demand curve 1.) is a result in a consumer changing their behavior based on a change in price.price.2.) Increase in quantity demanded is demonstrated by moving down the demand curve
• 3.) Decrease in quantity demanded is demonstrated by moving up the demand curve
• Why can’t a change in demand from other factors be demonstrated by moving along thedemand curve?
Economics for Leaders
Changes in DemandDemand Shifters:
When we drop the ceteris paribus rule and allow other factors to change we no longer move along the demand curve.
• Instead, the entire demand curve shifts
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Shift=Change in demand
Means At every price, consumer buy a different quantity than before
Economics for Leaders
Drinking beer will help you lose weight! Americans Demand more Beer!Americans demand more pints of beer at every priceAn increase in demand appears as a shift to the rightD1-origanl demand curveD2 – New demand curve adjusted for beer causing weight loss.
Economics for Leaders
Drinking beer will turn your teeth black and your skin to break-out in permanent acne!
Americans demand less beer!Americans demand less beer at every price!A decrease in demand appears as a shift to the left
• D- original demand curve
• D1-adjusting for beer causing black teeth & pimples
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What influences demand?
Demand ShiftersIncomeConsumer ExpectationsPopulationTaste and preference and advertising Price of related goods
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1.) Income
Most products we purchase are normal goodsIf, Ben’s income increases from $200 per week to $300 per week, it will cause him of buy more Starbuck’s ground coffee at every price level. If we plotted his new demand schedule on a graph it would produce a curve to the right of Ben's original curve. For each of the prices on the vertical axis, the quantity demanded will be greater for normal goods This is called an increase in demand
Economics for Leaders
Inferior goods are goods that you would buy in smaller quantities, or not at all, if you income were to rise and you could afford something better. Ben gets demoted. He takes a pay-cut - his income decreases He now instead of making $200 dollars a week, he is making $50. He can’t afford his Starbucks! He now has to buy Folgers; and less Starbucks This causes a decrease in his demand for Starbucks & the demand curve to shift to the left.
Income increases-Starbucks demand increases at every price
Income decreases:Starbucks demand decreases at every price
Economics for Leaders
2.) Consumer Expectations:
Our expectations about the future can affect our demand for certain goods todayMs. Morse has been eyeballing a pair of Jimmy Choos for months. A very nice salesperson lets me know the price on the shoes will go up in a weekI’m buying the shoes today to make sure I get the lower priceThe expectation of a higher price in the future causes my immediate demand to increase!
Economics for Leaders
• What if the salesperson lets me know that the shoes are going to be on sale next week!
• My immediate demand for my Jimmy Choos is going to fall to zero!
• I’m going to wait to buy the shoes next week
• If expectation that price will drop, current demand will decrease.
Economics for Leaders
3.) Population
When the population grows, what do they need; what do they demand?
there is an increase in demand for goods and services
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4.) Consumer Tastes and Advertising
Fanny packs – who would have thunk this would trend?How about Ed Hardy? People used to pay $65-$100 per t-shirt. Now you can get them for $4.99 at Ross! Rock Rivals, Uggs, Air Jordans – how long will these trends last?Changes in taste and preferences cannot be explained by changes in income or populations or worries about future price increase
Economics for Leaders
Companies spend copious amounts of money on advertising; hoping to increase demand – seems like it’s paying off. All you
have to do is consider the amount of money spent on one minute of advertising during the Super Bowl every year.
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5.) Price of Related Goods
The demand curve for one good can be affected by a change in the demand for anotherComplements:Demand for skis go upDemand for ski boots go upPrice $ increase in skis go upWhat happens to the demand for skis?How about the demand for ski boots?
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SubstitutesIf the price of snowboard rises, what would the effect on the demand for skis?Snowboards are considered a substitute for skis, because consumer often buy one or the other, but not both.Demand for skis will increaseWhat if there is a decrease in the price of snowboards? How would this affect the demand for skis?Consumer will buy fewer skis at every price.
Economics for Leaders
Demand shifters: examples
What will happen to the demand for hamburger if the price of hotdogs increases?What will happen to the demand for Snickers if it is discovered that chocolate makes you beautiful?
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Shifting the Curve (cont.)An increase in demand is shown by moving the demand curve to the right–What would cause an increase in demand?
A decrease in demand is shown by moving the demand curve to the left–What would cause a decrease in demand?
~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~
Economics for Leaders
What Is Elasticity of Demand?
Demand for a good that consumers will continue to buy despite a price increase is inelastic.
Elasticity of demand is a measure of how consumers react to a change in price.
Demand for a good that is very sensitive to changes in price is elastic.
Chapter 4, Section 3Chapter 4, Section 32211Why would a prescription drug, like insulin, have inelastic demand for a person with
diabetes?
Economics for Leaders
The elasticity of demand determines how a change in prices will affect a firm’s total revenue or income.
Elasticity and Revenue:
A company’s total revenue is the total amount of money the company receives from selling its goods or services. Firms need to be aware of the elasticity of demand for the good or service they are providing. If a good has an elastic demand, raising prices may actually decrease the firm’s total revenue.
Economics for Leaders
Elasticity and Revenue
Elastic Demand:Elastic Demand:
Total revenue
risesAs the price is
lowered….
As the price is raised….
Total revenue
falls
Economics for Leaders
Elasticity and Revenue
Inelastic Demand:
Total revenue
falls
As the price is raised….
Economics for Leaders
Factors Affecting ElasticityFactors Affecting Elasticity
1. Availability of Substitutes
If there are few substitutes for agood, then demand will not likelydecrease as price increases. The
opposite is also usually true.
2. Relative Importance
Another factor determining elasticityof demand is how much of yourbudget you spend on the good.
3. Necessities versusLuxuries
Whether a person considers a goodto be a necessity or a luxury has a
great impact on the good’s elasticityof demand for that person.
4. Change over Time
Demand sometimes becomes moreelastic over time because peoplecan eventually find substitutes.
Chapter 4, Section 3Chapter 4, Section 32211What are some other factors that you feel could impact a
consumers response to a change in the price of a product?
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