Demand

Junhel Dalanon, DDM, MAT

MODEL OF DEMAND• The model of demand is an attempt to

explain the amount demanded of any good or service.

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DEMAND DEFINED

The amount of a good or service a consumer wants to buy, and is able to buy per unit time.

THE “STANDARD” MODEL OF DEMAND

• The DEPENDENT variable is the amount demanded.• The INDEPENDENT variables are:

– the good’s own price– the consumer’s money income– the prices of other goods– preferences (tastes)

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YOU COULD WRITE THE MODEL THIS WAY:

• The demand for tacos

• QD(tacos) = D(Ptacos, Income, Pspaghetti, Pbeer,

• tastes)

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• ECONOMISTS HAVE HYPOTHESES ABOUT HOW CHANGES IN EACH INDEPENDENT

VARIABLE AFFECT THE AMOUNT DEMANDED

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THE DEMAND CURVE

• The demand curve for any good shows the quantity demanded at each price, holding constant all other determinants of demand.

– The DEPENDENT variable is the quantity demanded.

– The INDEPENDENT variable is the good’s own price.

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THE LAW OF DEMAND

• The Law of Demand says that a decrease in a good’s own price will result in an increase in the amount demanded, holding constant all the other determinants of demand.

• The Law of Demand says that demand curves are negatively sloped.

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A DEMAND CURVE

• A demand curve must look like this, i.e., be negatively sloped.

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own price

quantity demanded

demand

Market for tacos

The demand curve means:

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You pick a price, such a p0, and the demand curve shows how much is demanded.

own price

quantity demanded

demand

p0

Q0

Market for tacos

What if the price of tacos were less than p0?

How do you show the effect on demand?

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AN IMPORTANT POINT

• When drawing a demand curve notice that the axes are reversed from the usual convention of putting the dependent (y) variable on the vertical axis, and the independent (x) variable on the horizontal axis.

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Other factors affecting demand

• The question here is how to show the effects of changes in income, other goods’ prices, and tastes on demand.

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• Suppose people want to buy more of a good when incomes rise, holding constant all other factors affecting demand, including the good’s own price.

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own price

quantity of beer

demand @ I = $1000

Market for beer

How does this affect the demand curve?

How does this affect the demand curve?

$1/can

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Normal and inferior goods defined

• Normal good: When an increase in income causes an increase in demand.

• Inferior good: When an increase in income causes a decrease in demand.

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Pizza is a normal good.

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own price

quantity

demand @ I = $1000

Market for pizza

What’s the effect on the demand curve for pizza if income risesto $2,000?


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Suppose instead that pizza was an inferior good.

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own price

quantity

demand @ I = $1000

Market for pizza



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Substitutes defined

• Substitutes: Two goods are substitutes if an increase in the price of one of them causes an increase in the demand for the other.

• Thus, an increase in the price of pizza would increase the demand for spaghetti if the goods were substitutes.

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The graph shows the demand curve for spaghetti when pizzas cost $10 each.

Demand slide 22

own price

quantity

demand @ pizza price of $10

Market for spaghetti

What’s the effect of an increase in the price of pizza to $15?

What’s the effect of an increase in the price of pizza to $15?

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Complements defined

• Complements: Two goods are complements if an increase in the price of one of them causes a decrease in the demand for the other.

• Thus, an increase in the price of pizza would decrease the demand for beer if the goods were complements.

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The graph shows the demand curve for beer when pizzas cost $10 each.

Demand slide 25

price of beer

quantity

demand @ pizza price of $10

Market for beer

What is the effect on the market for beer of an increase in the price of pizza to $15?

What is the effect on the market for beer of an increase in the price of pizza to $15?

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The graph shows the demand curve for umbrellas on sunny days.

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price of umbrellas

quantity

demand on sunny days

Market for umbrellas

What’s the effect on demand ofit being a rainy day?

What’s the effect on demand ofit being a rainy day?

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DEMAND SUMMARY

• Demand is a function of own-price, income, prices of other goods, and tastes.

• The demand curve shows demand as a function of a good's own price, all else constant.

• Changes in own-price show up as movements along a demand curve.

• Changes in income, prices of substitutes and complements, and tastes show up as shifts in the demand curve.

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The Law of Demand

An increase in price will cause a decrease in the quantity demanded (inverse relationship)

EXPLAINERS:

Income effect

Substitution effect

The Law of Demand

EXPLAINERS:

Income effect

Substitution effect

Diminishing Marginal Utility

The Law of Demand

P

Q

A

B

P

Q

D1D2

CHANGE IN PRICE=

change in quantity demanded

CHANGE IN OTHER=change in demand

P1

P2

Q1 Q2

The Law of Demand

P

Q

D1D2

CHANGE IN OTHER=change in demand

Determinants of Demand

Things other than price that cause the whole curve to shift

Increase: shift to the rightDecrease: shift to the left


Change in consumer tastes

Change in people’s income

normal goods

inferior goods


Change in prices of related goods

complementary goods (inverse effect)

substitute goods (direct effect)

Change in expectations

Change in size of market

What Happens to Demand if…?

SITUATION: You’re the owner of a hot dog making company:

(a) people change their preference from hamburgers to hot dogs?



(b) U.S. negotiates a deal w/ China to trade hot dogs for egg rolls?



(c) the price of ground beef plummets?



(d) the minimum wage rises?



(e) the MWU threatens a strike if owners fail to meet their demands?



(f) unemployment hits an all-time high?



(g) the price of buns increases due to a wheat shortage?

Supply, Demand and Market Equilibrium

Demand: Raw dataName Quantity Maximum price

willing to pay

Mary 1 4

Bob 1 1

Jane 1 5

Ed 1 3

Alice 1 21

Demand Schedule

Price Quantity Total QuantityDemanded

5 1 1

4 1 2

3 1 3

2 1 4

1 1 51

Demand Curve

0

1

2

3

4

5

6

1 2 3 4 5

Quantity demanded

Pri

ce

D

Demand: Definition

• Relationship between price and quantity demanded at a given price

Demand Curve

0

1

2

3

4

5

6

1 2 3 4 5

Quantity demanded

Pri

ce

D

Demand Curve

0

1

2

3

4

5

6

1 2 3 4 5

Quantity demanded

Pri

ce

I

D

Change in quantity demanded due to change in price

0

1

2

3

4

5

6

1 2 3 4 5

Quantity demanded

Pri

ce

I

II

D

Shifts in the Demand Curve

• income• related goods• tastes• number of consumers• expectations of future prices

Demand curve shifts to the right

0

1

2

3

4

5

6

1 2 3 4 5

Quantity demanded

Pri

ce

D

Demand curve shifts to the left

0

1

2

3

4

5

6

1 2 3 4 5

Quantity demanded

Pri

ce

D

Demand for an intangible good

• For example, a promise exchanged for money• Value of the promise depends on future

events• Examples

– loans– insurance

Demand for an intangible good

• Application: a futures contract– value based on a future event– possible events

• price of a bushel of wheat in October• Microsoft stock price on 3rd Friday of June• value of the Euro in $ on February 1st• price of oil on April 21st

Assignment

• Political futures contract– pays $1 if Bradley is the Democratic nominee for

2000– pays $0 otherwise

• Price that someone is willing to pay is based on their own prediction of a particular outcome

• Assignment: graphing a real demand curve

Graph of Bradley demand data

0

0.05

0.1

0.15

0.2

0.25

0.3

0.35

0.4

0 5 10 15 20 25 30 35 40

Quantity Demanded

Pri

ce

The effect of NBA party on demand for Bradley contracts

00.05

0.10.15

0.20.25

0.30.35

0.4

0 5 10 15 20 25 30 35 40

Quantity Demanded

Pric

e

Supply: Raw dataCompany Name Quantity Minimum price

willing to accept

ADC 1 3

SSW 1 2

QWE 1 5

YYJ 1 1

AQD 1 41

Supply Schedule

Price Quantity Total QuantitySupplied

1 1 1

2 1 2

3 1 3

4 1 4

5 1 51

Supply Curve

0

1

2

3

4

5

6

1 2 3 4 5

Quantity supplied

Pri

ce

S

Supply: Definition

• Relationship between price and quantity supplied at a given price

Supply Curve

0

1

2

3

4

5

6

1 2 3 4 5

Quantity supplied

Pri

ce

I

S

Change in quantity supplied due to a change in price

0

1

2

3

4

5

6

1 2 3 4 5

Quantity supplied

Pri

ce

I

II

S

Shifts in the Supply Curve

• prices of relevant resources• technology• taxes• number of sellers• expectations of future prices

Supply curve shifts to the right

0

1

2

3

4

5

6

1 2 3 4 5

Quantity supplied

Pri

ce

S

Supply curve shifts to the left

0

1

2

3

4

5

6

1 2 3 4 5

Quantity supplied

Pri

ce

S

Supply for an intangible good

• Simplified insurance example• Why would anyone supply car insurance?• Seller expects that you will not have an

accident during the next year• If you do, they pay the bills. If not, they still

keep the premium (price of policy)• Prices depend on how likely there will be a

claim

Political Futures Contract

• Recall our example political futures contract• People holding this contract get $1 if Bradley

is the Democratic nominee for 2000 and $0 otherwise

• They may be willing to sell if they are not 100% sure that Bradley will be the nominee

• Assignment 4: graphing a real supply curve

Graph of Bradley supply data

0

0.1

0.2

0.3

0.4

0.5

0.6

0 5 10 15 20 25 30 35

Quantity supplied

Pri

ce

Effect of internet taxes on supply of Bradley contracts

0

0.1

0.2

0.3

0.4

0.5

0.6

0 5 10 15 20 25 30 35

Quantity supplied

Pri

ce

A Market

0

1

2

3

4

5

6

1 2 3 4 5

Quantity

Pri

ce

S

D

Surplus

0

1

2

3

4

5

6

1 2 3 4 5

Quantity

Pri

ce

S

D

Surplus

Qd Qs

Market adjustment to surplus

0

1

2

3

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5

6

1 2 3 4 5

Quantity

Pri

ce

S

D

Surplus

Qd Qs

Shortage

0

1

2

3

4

5

6

1 2 3 4 5

Quantity

Pri

ce

S

DShortage

QdQs

Market adjustment to shortage

0

1

2

3

4

5

6

1 2 3 4 5

Quantity

Pri

ce

S

DShortage

Qd Qs

Equilibrium

0

1

2

3

4

5

6

1 2 3 4 5

Quantity

Pri

ce

S

D

Eq.Q

Eq.P

Government interventions: Price controls

• The government sets a maximum price– Example: the price of basic commodities in many

countries (milk, flour, bread, rice)– what happens to the availability of this good?

• The government sets a minimum price for wages – Example: minimum wage– what happens to the supply of labor?

Equilibrium in the Bradley market

Bradley Nomination Market (6/99-9/99)

0

0.1

0.2

0.3

0.4

0.5

0.6

0 10 20 30 40Quantity

Pri

ce

S

D

Supply and demand information available in a real market

Price

Quantity

S

D

Exchangesthat already have occurred

Offers to sell (ask price)

Offers to buy (bid price)

Market price (observed)

Supply and demand information available in a real market

Price

Quantity

S

D

Eq.Q Eq.Q +1

Best Ask

Best Bid

Last Trade

Note: Eq.Q. is equilibrium quantity

Demand

Education

Transcript of Demand