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R I C H A R D N . L A N G L O I S

Economics 1000 Essentials of Economics

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The University of Connecticut

The demand curve.

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Law of demand.

The law of demand: all other things equal, the quantity demanded is inversely related to price. Demand curves never slope upward.

Demand is about what consumers are both willing and able to buy.

Substitution effect: as price rises, consumers switch to other goods.

Income effect: as price rises, consumer’s real income falls and he or she can afford less.

Ceteris paribus

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Elasticity of demand.

Elasticity of demand: the percent change in quantity demanded with each percent change in price.

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Market demand. 5

$15

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9

6

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Pri

ce

0 8 14 20 26 32

Millions of pizzas per week

D

b

D'

f

Increase in demand.

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Variables that affect demand.

Don’t confuse a movement along a curve with a shift of a curve!

Variable: A change in this variable…

Price. Represents a movement along the demand curve.

Income. Shifts the demand curve.

Prices of related goods. Shifts the demand curve.

Changes in tastes. Shifts the demand curve.

Expectations. Shifts the demand curve.

Number of buyers. Shifts the demand curve.

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Demand for a normal good is positively related to income. An increase in income causes

increase in quantity demanded at each price, shifting the D curve to the right.

Demand for an inferior good is negatively related to income. An increase in income shifts D curves

for inferior goods to the left.

Demand curve shifters: income. 8

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

Example: pizza and hamburgers.

An increase in the price of pizza increases demand for hamburgers, shifting hamburger demand curve to the right.

Other examples: Coke and Pepsi; laptops and desktop computers; compact discs and music downloads.

Demand curve shifters: prices of related goods.

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Two goods are complements if an increase in the price of one causes a fall in demand for the other.

Example: computers and software.

If price of computers rises, people buy fewer computers, and therefore less software. Software demand curve shifts left.

Other examples: college tuition and textbooks, bagels and cream cheese, eggs and bacon.

Demand curve shifters: prices of related goods.

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Anything that causes a shift in tastes toward a good will increase demand for that good and shift its D curve to the right.

Anything that causes a shift in tastes away from a good will decrease demand for that good and shift its D curve to the left.

Example: fear of E-coli changes people’s taste for bagged spinach.

Demand curve shifters: tastes.

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Source: http://www.drfad.com/marketing/crazy_ideas.htm

If people expect their incomes to rise, their demand for

meals at expensive restaurants may increase now.

If the economy turns bad and people worry about their

future job security, demand for new autos may fall now.

Fear of a price rise or shortage shifts out demand today.

Hoarding and bank runs.

Expectation that electronics prices will continue to fall in the future

shifts inward demand today.

Demand curve shifters: expectations.

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Demand curve shifters: # of buyers.

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The supply curve.

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Supply.

In the short run, all other things equal, the quantity supplied is directly related to price. • Supply curves usually slope upward.

As price increases, other things constant, a producer becomes more willing and able to supply the good. • Higher prices attract resources from lower-valued uses.

Supply curves slope upwards because of the “law” of increasing opportunity cost. • In the short run, at least one factor of production is

fixed, and diminishing returns eventually set in.

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Elasticity of supply.

Elasticity of supply: the percent change in quantity supplied with each percent change in price.

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D

S

$9

20

S'

26

6

30

Millions of Pizzas per Week

d

c

An increase in supply.

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Variables that affect supply.

Don’t confuse a movement along a curve with a shift of a curve!

Variable: A change in this variable…

Price. Represents a movement along the supply curve.

Prices of inputs. Shifts the supply curve.

Prices of substitutes. Shifts the supply curve.

Technology. Shifts the supply curve.

Expectations. Shifts the supply curve.

Number of sellers. Shifts the supply curve.

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Prices of inputs that are employed in making the good itself. • For example, if the price

of mozzarella cheese falls, the cost of pizza production declines.

• Conversely, if the price of some relevant resource increases, supply decreases.

Supply curve shifters: input prices.

D

S

$9

20

S'

26

6

30

Millions of Pizzas per Week

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Prices of alternative goods that use some of the same inputs. • As the price of bread

increases, so does the opportunity cost of producing pizza and the supply of pizza declines.

• Conversely, a fall in the price of an alternative good makes pizza production relatively more profitable and supply increases.

Substitutes in production.

D

S

$9

20

S'

26

6

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Millions of Pizzas per Week

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A more efficient technology, a high-tech oven, is invented.

Production costs fall: Suppliers will be more willing

and more able to supply the good.

Rightward shift of the supply curve from S to S'.

Result: more is supplied at each possible price.

Supply curve shifters: technology.

D

S

$9

20

S'

26

6

30

Millions of Pizzas per Week

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When a good can be easily stored, expecting future prices to be higher may reduce current supply

More generally, any change expected to affect future profitability could shift the supply curve.

Supply curve shifters: expectations.

D

S'

$9

20

S

26

6

30

Millions of bushels of wheat per week

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Supply curve shifters: number of sellers. 23

Market equilibrium.

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Market equilibrium.

20 Millions of pizzas per week

9

0 D

S

$12

D'

24 30

Pri

ce

g c

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An increase in demand.

D

S

$9

20

S'

26

6

30 Millions of Pizzas per Week

d

c

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An increase in supply.

D

S

$9

20

S'

26

6

30 Millions of Pizzas per Week

d

c

D’

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An increase in both supply & demand.

Whether price goes up or down depends on whether demand or supply dominates.

In all cases, quantity exchanged increases.

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An increase in both supply & demand.

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An increase in both supply & demand.