Chapter 4

Individual and market demand

What is individual demand and market demand?

• Individual demand is the demand of one individual consumer in the market for a good or service.

• Market demand is the total combined demand of all consumers in the market for a good or service.

Derivation of Market Demand from Individual Demand

Derivation of Market Demand from Individual Demand – Horizontal Summation

Price Consumer 1 Consumer 2 Market Demand

3 0 0 0

2 1 0 1

1 2 1 3

0 3 2 5

Problem 1:

Solution 1

Problem 2

• Q1 = 100 – 5P• Q2 = 160 - 10P• Q3 = 200 – 10P• Find the Market Quantity equation from these

3 individual demand quantity equations? Then draw the graph for all the lines?

Solution 2

• Qt = Q1 + Q2 + Q3

• Qt = 100 – 5P + 160 - 10P + 200 – 10P• Qt= 460 - 23P

Problem 3

• Use the following 2 individual demand equations to find the market demand equation:

• Qh = 300 – 5P• Qs = 100 – 10P• Draw the graph for all 3 equations.

Solution 3

• If P > 10– Then Qt = Qh = 300 – 5PIf P =< 10Then Qt = Qh + Qs = 400 – 15P

Problem 4

• Domestic demand for wheat is given by the equation: QDD = 1430 - 55P

• Export demand is given by: QDE = 1470 - 70P • Where P is the price in Dollars. • Find the Market Demand equations for US

wheat?• Draw the graph for all 3 lines.

Solution 4

Substitution and Income effects

• A fall in the price of a good has two effects: • Consumers will tend to buy more of the good that has become

cheaper and less of those goods that are now relatively more expensive. This response to a change in the relative prices of goods is called the substitution effect.

• Because one of the goods is now cheaper, consumers enjoy an increase in real purchasing power. They are better off because they can buy the same amount of the good for less money, and thus have money left over for additional purchases. The change in demand resulting from this change in real purchasing power is called the income effect.

• Total Effect = Substitution Effect + Income Effect

Example of Total effects

Example of Substitution effect

Example of Income effect

Example of Substitution and Income effect

Inferior vs. Normal vs. Giffen goods

• An Inferior good is a good that decreases in demand when consumer income rises.

• Normal goods are those for which consumers' demand increases when their income increases.

• A special type of inferior good may exist known as the Giffen good, which would disobey the "law of demand". Quite simply, when the price of a Giffen good increases, the demand for that good increases. This would have to be a good that is such a large proportion of a person or market's consumption that the income effect of a price increase would produce, effectively, more demand.

Example of a Giffen good

• It was noted by Sir Robert Giffen III that in Ireland during the 19th century there was a rise in the price of bread. The poor people were forced to reduce their consumption of meat and expensive items like eggs etc. Now bread being still the cheapest food, so they started consuming more of it though its price was rising. This phenomenon is often described as "Giffen's Paradox".