ch 5_Econ 281_Fall_20100

# ch 5_Econ 281_Fall_20100 - 1. 1 1 ofDemand 1...

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1 1.  Individual Demand Curves 1. Constructing Aggregate Demand 1. Income and Substitution Effects and the Slope  of Demand 1.  A measure of consumer satisfaction:  Consumer Surplus

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2 From the consumer optimal choice to the demand curve The Individual Demand Curve for good x plots the quantity consumed of good x as the PRICE of x varies (on a graph with P X on the vertical axis and the quantity of good X on the horizontal axis) Example: Example: Tina’s consumes bottles of water (BoW) and chewing gums To derive Tina’s demand curve for bottled water: Vary the price of BoW DO NOT change Income and the price of chewing  gum Work out Tina’s optimal consumption of BoW
3 Figure shows how to derive Tina’s demand curve When the price of water is \$1 a bottle, Tina’s best affordable point is C in part (a) and thus point A is on Tina’s demand curve (part (b)) When the price of water is 50 cents a bottle, Tina’s best affordable point is K in part (a) and thus point B on Tina’s demand curve (part (b))

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4 Tina’s demand curve in part (b) passes through points A and B .
5 Example: In order to make Tina purchase 4 BoW, the price might be at most \$0.5. Her willingness to pay for the forth unit is \$0.5 The demand curve is also called the willingness to pay curve. Why? The demand curve shows: The demand shows the maximum price willingly paid for each unit

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6 Important Examples Let U=(XY) 0.5 then MU x =0.5 (Y/X) 0.5 and MU y =0.5 (X/Y) 0.5 Question 1: find the demand of good X. Answer: denote by P x the price of good x and by P y the price of good y. Impose MU x /P x =MU y /P y and find Y/X=(P x /P y ), That is Y=X(P x /P y ). Now in the Budget Line X(P x )+ Y(P y )=I plug X(P x /P y ) instead of Y and solve for X. X(P x )+ Y(P x /P y ) (P y )=I, that is 2X(P x )=I or X=I/(2P x ) You are done: X=I/(2P x ) is the demand of good X. Question 2: find the demand of good Y. Use the answer of Question 1. Plug X=I/(2P x ) in the BL X(P )+ Y(P )=I and get (I/(2P )) P +Y(P )=I. Solve for Y
U(x,y)=Y+2(X) 0.5 (quasi-linear utility) MU x =1/(X) 0.5 and MU y =1 Question 1: Find the demand of good X Answer: denote by P x the price of good X and by P y the price of good Y. Impose MU x /P x =MU y /P y and find 1/(X) 0.5 =(P x /P y ), that is (X) 0.5 =(P y /P x ) or X=(P y /P x ) 2 X=(P y /P x ) 2 is the demand of good X. Question 2: Find the demand of good Y Use the answer of Question 1, X=(P y /P x ) 2 , and in the Budget line X(P x )+ Y(P y )=I plug (P y /P x ) 2 instead of X. Then solve for Y. (P

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ch 5_Econ 281_Fall_20100 - 1. 1 1 ofDemand 1...

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