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Demand

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Chapter 4: Demand

KEY CONCEPT Demand is the willingness to buy a good or service and the ability to pay for it.

WHY THE CONCEPT MATTERSThe concept of demand is demonstrated every time you buy something. Think of five goods or services that you have purchased. Which of them would you stop buying if the price rose sharply?

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The Law of DemandKEY CONCEPTS

• Demand—the desire for an item and the ability to pay for it• Law of demand

– when price of good or service goes up, quantity demand goes down

– when price of good or service goes down, quantity demand goes up

What is Demand?

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The Law of DemandEXAMPLE: Price and Demand

• Law of demand explains consumer behavior as well as economic concept

• Cheryl decides to spend $45 on DVDs– at $15 each, Cheryl demands three DVDs– at $5 each, she demands seven DVDs

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Demand Schedules

KEY CONCEPTS• Demand schedule—a table that summarizes one consumer’s

behavior– lists how much of an item an individual will buy at each price

• Market demand schedule—a table that summarizes all consumers’ behavior– lists how much of an item all consumers will buy at each price

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Demand SchedulesEXAMPLE: Individual Demand Schedule

• Demand schedule is a two-column table– left-hand column lists various prices of a good or service– right-hand column gives quantity demanded at each price

• Cheryl’s DVD Demand Schedule– quantity demanded and price have an inverse relationship

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Demand SchedulesEXAMPLE: Market Demand Schedule

• Business owners need information about consumer demand– helps them price goods to get the most sales

• Market research—gather and evaluate data about customer preferences

• Market demand schedule similar to individual demand schedule– except quantities demanded are larger (More People)– market demand also depends on price

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Demand Curves

KEY CONCEPTS• Demand curve—a graph that shows amount of an item a consumer

will buy at each price• Market demand curve—amount all consumers will buy at each price• Demand curves graphically show information found on demand

schedules

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Demand CurvesEXAMPLE: Individual Demand Curve

• Demand curve is visual representation of law of demand– assumes all economic factors except price stay the same (No

change in resources, labor or technology)• Vertical axis shows prices• Horizontal axis shows quantities demanded• Demand curves slope down from upper left to lower right

– Look at where the intersections are with price and quantity demanded.

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Demand CurvesEXAMPLE: Market Demand Curve

• Market demand curve constructed same way as individual demand curve

• Market demand curve includes all consumers of a product– quantities demanded are much larger than on individual demand

curve• Illustrates inverse relationship between price and quantity demanded

– assumes all economic factors constant except price

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Vera Wang: Designer in DemandResponding to Demand

• Sophisticated wedding gowns not available for career women• Wang created line of wedding gowns to meet demand• Style became popular; other designers imitated• Wang created more demand for her style by designing other products

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Reviewing Key ConceptsExplain the differences between the terms in each of these pairs:

• demand and law of demand• demand schedule and demand curve• market demand schedule and market demand curve

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More About Demand CurvesKEY CONCEPTS

• Law of diminishing marginal utility – marginal benefit of each additional unit declines as each unit is

used• Income effect

– amount people buy changes as purchasing power of their income changes

• Substitution effect– amount people buy changes as they buy substitute products

What Factors Affect Demand?

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Change in Quantity DemandedKEY CONCEPTS

• Change in quantity demanded– change in amount consumers buy because of change in price– each change shown by new point on demand curve– does not shift the demand curve itself– Page 108 in your book has a good example. Figure 4.7

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Change in Quantity DemandedEXAMPLE: Changes Along a Demand Curve

• Individual demand curve– change in quantity demanded shown by movement to right or left

along the curve• Market demand curve

– shows similar information for entire market

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Change in DemandKEY CONCEPTS

• Change in demand is caused by a change in the marketplace– prompts people to buy different amounts at every price– also called shift in demand

• Six factors can cause change in demand– You will need to know all 6 for your midterm so pay attention!

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Change in DemandFACTOR 1 Income

• A person’s ability to buy goods changes as his or her income changes

• As incomes of most consumers in a market change, so does total demand– normal goods—demanded more when consumers’ incomes rise

– Brand name goods, higher priced items.– inferior goods (Not as good)—demanded less when consumers’

incomes rise– Discount stores for clothes, generic brand food

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Change in DemandFACTOR 2 Market Size

• As number of consumers in an area changes, so does market size• Demand for most goods changes as market size changes

– rise in population leads to increased demand – decrease in population leads to decreased demand– A good example is China/India and their demand for good

throughout the world.

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Change in DemandFACTOR 3 Consumer Tastes

• Consumer tastes change; products gain and lose popularity• Consumers demand a greater amount of popular items at every price• Sellers advertise to create demand for products

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Change in DemandFACTOR 4 Consumer Expectations

• Expectations about future price of items affect individual behavior– expected rise or fall in price can decide whether to buy now or wait

• Expectations of all consumers in a market affect demand – example: because cars go on sale at end of summer, demand

goes up then

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Change in DemandFACTOR 5 Substitutes

• Substitutes—products used in place of each other – if price of substitute drops, people buy it instead of original item– if price of original item rises, people will buy substitute

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Change in DemandFACTOR 6 Complements

• Complements—goods that are used together• Rise in demand for one increases the demand for the other• If price of one product changes, demand for both changes in same

way– if price of one rises, demand for both will drop

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Reviewing Key ConceptsExplain the differences between the terms in each of these pairs:

• change in quantity demanded and change in demand• income effect and substitution effect• normal goods and inferior goods• substitutes and complements

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Homework

Chapter 4Section 1 & 2Questions 1-5

Typed Due June 25th

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Elasticity of DemandKEY CONCEPTS

• Buying habits affected by type of product and importance to consumer

• Elasticity of demand– measure of how responsive consumers are to price changes– Elastic—quantity demanded changes greatly as price changes– Inelastic—quantity demanded changes little as price changes

What is Elasticity of Demand?

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Elasticity of DemandEXAMPLE: Elasticity of Demand for Goods and Services

• Goods with substitutes have elastic demand since choices are available

• Needed goods without substitutes have inelastic demand• Elasticity changes if substitutes created or goods taken off market• Unit elastic—same percentage change in price and quantity

demanded– useful concept for determining elasticity of demand

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What Determines Elasticity?KEY CONCEPTS

• Three factors affect elasticity of demand– availability of substitutes– proportion of income spent on good or service– whether product is a necessity or luxury

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What Determines Elasticity?FACTOR 1 Substitute Goods or Services

• If no substitute for a product, demand tends to be inelastic– when price of insulin goes up, diabetics still need the same

amount• If there are substitutes for a product, demand tends to be elastic

– when price of beef goes up, consumers can buy other meats

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What Determines Elasticity?FACTOR 2 Proportion of Income

• Demand for expensive items tends to be elastic – if percentage of income needed to buy item increases, demand

decreases. (If the price of a good increases drastically)– Luxury Items

• Demand for inexpensive items tends to be inelastic – rise in price requires small additional part of income

• Rise in income can lead to greater demand for some goods or services

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What Determines Elasticity?FACTOR 3 Necessity or Luxury

• Necessity—something needed for life – demand for necessities is inelastic

• Luxury—something desired but not essential – demand for luxuries tends to be elastic

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Calculating Elasticity of DemandKEY CONCEPTS

• Knowing elasticity of demand tells sellers whether to cut prices– if demand is elastic, price cuts might increase earnings – if demand is inelastic, price cuts will not increase earnings

• formulas used to calculate elasticity – Is change in quantity demanded greater than change in price?

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Total Revenue TestKEY CONCEPTS

• Total revenue—amount of money company gets for selling its products– Formula: TOTAL REVENUE = P (price) x Q (quantity sold)

• Total revenue test—shows total revenue from item at various prices– if total revenue increases after price drops, demand is elastic– if total revenue decreases after price drops, demand is inelastic

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Total Revenue TestEXAMPLE: Revenue Table

• Revenue table shows elasticity of demand by listing– prices at which item can be sold– quantity of item demanded at each price– total revenue received from sale of item at each price

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Reviewing Key ConceptsUse each of these terms in a sentence that gives an example of the term:

• elastic• inelastic• total revenue

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Case Study: Fueling Automobile DemandBackground

• Demand for automobiles and all services connected with them is high• Car dealers want to sustain and increase demand for their product

What’s the Issue• How does demand affect your selection of a vehicle?

Thinking Economically1. How would the demand for automobiles be affected by information presented in

each of these documents? Support your answer with examples from the documents.

2. Identify and discuss the factors that affect elasticity of demand illustrated in these documents.

3. Explain how Documents B and C illustrate a cause and effect relationship in the demand for SUVs. Use evidence from these documents to support your answer.