01 0 0 02 0 0 03 0 0 04 0 0 05 0 0 06 0 0 07 0 0 08 0 0 09 0 0 0

1 0 0 0 0

YEAR

# of Passenger cars sold

In-tro-duc-tory

Pe-riod

GrowthPeriod

MaturePeriod

DecliningPeriod

Factory Sales of Passenger Cars in the U.S.

DEMAND

What Buyers are Willing and Able to Buy, during a given Time

Period, ceteris paribus.

KEY POINTS ABOUT DEMAND

“WILLINGNESS AND ABILITY” (not stridently wanting)

“BUYERS” (not sellers) “during a given time period” is a FLOW

(not a STOCK) “ceteris paribus”- all other things are

held constant except price and quantity. Whole set of P-Q combinations (not

QUANTITY DEMANDED)

GENERALIZED DEMAND FUNCTION

f = f( Price:

Taxes,Price of Complements

Price of SubstitutesTastes for good/service

Income,Buyer Expectations,Number of buyers)

Q

P

SUPPLY

What Buyers Sellers are Willing and Able to buy Sell, during a given Time

Period, ceteris paribus.

XXXXXXXX

KEY POINTS ABOUT SUPPLY

“WILLINGNESS AND ABILITY” (not stridently wanting)

“BUYERS” (not sellers) “during a given time period” is a FLOW

(not a STOCK) “ceteris paribus”- all other things are

held constant except price and quantity. Whole set of P-Q combinations (not

QUANTITY DEMANDED)

XXXXXXXXXXXXXXXXXXX Sellers (not buyers)

XXXXXXXXXXX SUPPLIED

GENERALIZED SUPPLY FUNCTION

f = f( Price:

Price of Resources

Technology,Seller Expectations,Number of Sellers)

HOW TO BE SHERLOCK HOLMES IN READING BETWEEN THE LINES

If You Know P and Q then you know whether demand or supply is involved as well as the direction of the shift.

If You Know the shift in demand or supply, then you know what is likely to happen to price and quantity

If You Know the determinant that has changed and price, then you know what is happening to quantity demanded.

If You Know the determinant that has changed and quantity demanded, then you know what is happening to price.

Lower Price Higher Price

LowerOutput

HigherOutput

Leftward (downward)

Shift of Demand

Rightward(upward)

Shift of Demand

Rightward(downward)

Shift ofSupply

Leftward(upward)Shift of Supply

Breakdown all shifts into their output and price vectors

MARKET BOUNDARIES

BUYER POINT OF VIEW: No potential seller exists outside of the market boundaries (within a reasonable price range)

SELLER POINT OF VIEW: No potential buyer exists outside of the market boundaries (within a reasonable price range)

BOTH POINTS OF VIEW MUST HOLD CROSS PRICE ELASTICITY measures

MARKET BOUNDARIES

X

X

X

XX

O

O

O

X represents buyers

O represents sellers

MARKET DEMAND FOR CARS

30

15

Price ($1000/car)

Price ($1000/car)

Price ($1000/car)

7 9 4 5 11 14U.S quantity (mill/yr) + Foreign Q (mill/yr) = Market Demand

MUSTANG DEMAND

DEMAND

150 550 (000’s Mustangs/year)

Price of Mustangs

95108000

TR= $1426 million

TR= $4400 Million

LOSS

GAIN

GAINS-LOSS=$2974 M.

MARGINAL REVENUE (MR)

MR DEMAND

150 550 (000’s Mustangs/year)

Price

95108000

GAINS-LOSSMR= CHANGE IN CARS

$2974 M./400,000 CARS=$7,435 PER CAR

LOSS

7435GAIN

REVENUE MAXIMIZATION

MR DEMAND

(000’s Mustangs/year)

Price

5037

1,334,000 MUSTANGS

(000’s Mustangs/year)

MR=0

Price ($/car)

5037

1,334,000 MUSTANGS

Q(000’s Mustangs/year)

Total Revenue ($/year)$6.5 billion

MAXIMUMREVENUE

MR>0

|elas|>1

|elas|=1

|elas|<1

MR<0

MUSTANG DEMAND

DEMAND

150(000’s Mustangs/year)

9510

Price of Mustangs

550

1966 DEMAND

1970 DEMAND

DEMAND ELASTICITY

ALWAYS THE PERCENTAGE CHANGE IN QUANTITY DIVIDED BY THE PERCENTAGE CHANGE IN A DETERMINANT OF DEMAND

NOT THE SAME AS MARGINAL REVENUE WHICH IS THE CHANGE IN REVENUE OVER THE CHANGE IN QUANTITY

PRICE ELASTICITY

E p=

PERCENTAGECHANGE IN QUANTITYPERCENTAGE CHANGE IN PRICE

Q1-Q2Q1+Q2P1-P2P1+P2

=

Note: This formula requires the knowledge of two different situations;The price (P1) and quantity demanded (Q1) in an initial situation andA price (P2) and quantity demanded (Q2) after a change has occurred

E p =Q1-Q2Q1+Q2P1-P2P1+P2

IN EXCEL:Suppose you have the EXCEL worksheet:

A B C D

1 Quantity

3 5

2 Price 10 6

3 E = -1

4

In C3, write the formula:=((B1-C1)/(B1+C1))/((B2-C2)/(B2+C2))

IT IS UNIT ELASTIC!

E p =Q1-Q2Q1+Q2P1-P2P1+P2

IN EXCEL:Suppose you have the EXCEL worksheet:

A B C D

1 Quantity

3 5 to 6

2 Price 10 6

3 E = -1.333

4In C3, write the formula:=((B1-C1)/(B1+C1))/((B2-C2)/(B2+C2))

XXXNOW IT IS ELASTIC!

E p =Q1-Q2Q1+Q2P1-P2P1+P2

IN EXCEL:Suppose you have the EXCEL worksheet:

A B C D

1 Quantity

3 5 to 4

2 Price 10 6

3 E = -.57143

4In C3, write the formula:=((B1-C1)/(B1+C1))/((B2-C2)/(B2+C2))

XXXNOW IT IS INELASTIC!

TOTAL REVENUE RULE

IF PRICE RISESTHEN:

IF PRICE FALLSTHEN:

ELASTIC(MR>0,|E|>1)

UNIT ELASTIC(MR=0,|E|=1)

INELASTIC(MR<0,|E|<1

IF ELASTI-CITY IS:

TR

TR stays same TR stays same

TR TR

TR

REVENUE MAXIMIZATION

MR DEMAND

150 550 (000’s Mustangs/year)

Price

951080007435

5037

1,334,000 MUSTANGS

LOSS

GAIN4000

BIG LOSS IN REVENUEIF PRICES BELOW REV-ENUE MAXIMIZING PRICE

CROSS-PRICE ELASTICITY

EX,Y=

PERCENTAGECHANGE IN QUANTITY (X)PERCENTAGE CHANGE IN PRICEOF ANOTHER GOOD (Y)

Qx-QxQx+QxPy-PyPy+Py

=

CROSS-PRICE ELASTICITY

Exy<0===> x and y are complements

Exy>0 ===> x and y are substitutes (or in same market)

Exy =0 ==> x and y are unrelated

MARKET BOUNDARIES

X

X

X

XX

O

O

O

X represents buyers

O represents sellers

U represents your firm

UN

N represents a new firm

Cross Price Elasticity w.r.t. New Firm?

MARKET BOUNDARIES

X

X

X

XX

O

O

O

X represents buyers

O represents sellers

U represents your firm

U

N represents a new firm

Cross Price Elasticity w.r.t. New Firm?

N

Positive , Negative, or Zero

-0.5

-0.4

-0.3

-0.2

-0.1

0

0.1

0.2

0.3

0.4

0.5

75 85 95

Oil

Line 2

Auto Sales

Percentage Change

-0.5

-0.4

-0.3

-0.2

-0.1

0

0.1

0.2

0.3

0.4

0.5

75 85 95

Oil

Line 2

Auto Sales

Percentage Change

INCOME ELASTICITY

EY=

PERCENTAGECHANGE IN QUANTITYPERCENTAGE CHANGE IN INCOME

Q1-Q2Q1+Q2Y1-Y2Y1+Y2

=

INCOME ELASTICITY

Ey<0===> An INFERIOR GOOD

Ey>0 ===> A NORMAL GOOD Ey >1 ==> A SUPERIOR GOOD 0<Ey<1=> A NECESSITY

-0.3

-0.2

-0.1

0

0.1

0.2

0.3

0.4

75 85 95

Line 1GDPAuto Sales

Percentage Change

-0.5

-0.4

-0.3

-0.2

-0.1

0

0.1

0.2

0.3

0.4

0.5

Oil

GDP

Auto Sales

Line 4

MR=0

Price ($/car)

Q(000’s Mustangs/year)

MR>0|elas|>1

|elas|=1 |elas|<1

MR<0

Price ($/car)

Q(000’s Mustangs/year)

LIINEAR DEMANDMAXIMUM REVENUE

MULTIPLICATIVE DEMANDCONSTANT REVENUE FLAT MARGINAL REVENUE CURVE

Q

MULTIPLICATIVE DEMAND

Price ($/car)

(000’s Mustangs/year)