Unformatted text preview: DEMAND LECTURE II 1 LETS LOOK AT THE COMMODITY WHEAT
Price Surplus P1 Supply
Pe Demand Qe Quantity / unit of time
2 A SURPLUS
A. Pe and Qe represent the market clearing price and quantity.
B. Assume the government sets a price at P1:
1. There is a surplus of goods.
2. Price must fall for the market to clear.
3 LETS LOOK AT THE COMMODITY GASOLINE
Price Supply Pe Demand
P2 Shortage Qe Quantity / unit of time4 A SHORTAGE
C. Assume the government sets a price at P2:
1. There is a shortage of goods.
2. Price must rise for the market to clear. 5 SURPLUS AND SCARCITY?
D. We could have a surplus and still have a scarce commodity, RIGHT ?
1. Yes. This is due to there not being enough goods to meet demand at a price of zero.
6 7 DETERMINANTS OF DEMAND
As a commodity's own price changes, we move along the existing demand curve. (Law of Demand)
A. Other factors affect the demand curves position, shape, and slope.
8 DETERMINANTS OF DEMAND
These other determinants, in addition to the commodity's own price are:
a. Consumer disposable income.
b. Price of substitutes.
c. Price of complements.
d. Consumer preferences.
e. Expectations about the future.
9 DETERMINANTS OF DEMAND
f. Changes in the population.
h. Length of adjustment period. i. Availability of substitutes.
j. Proportion of the consumer’s budget that a particular good represents.
10 Consumer’s Disposable Income
1. If we increase consumer's disposable income ceteris paribus, what happens?
∙ He/she is able to purchase more at all price levels. 11 2. The demand curve shifts to the right.
Price D1 D0 1 Quantity2 3. If we decrease the consumer's disposable income ceteris paribus, what happens ?
∙ The consumer cannot purchase the same amount of the commodity as before, over the entire range of prices. 13 4. The demand curve is said to shift to the left.
Price D0 D1 1 Quantity4 5. Associated with this income effect, we can create another subclassification for commodities: 15 Normal Goods or Services
An Increase in disposable income, shifts Demand curve right. ⇒ ↑ Demand
Demand ↑ Id 16 Price D1 D0 17 Quantity Normal Goods or Services
A Decrease in disposable income shifts Demand curve left ⇒ ↓ Demand
Demand ↓ Id 18 Price D0 D1 19 Quantity Inferior Good or Service
An Increase in disposable income shifts curve left. ↑ Id ⇒ ↓ Demand Demand 20 Price D0 D1 21 Quantity Inferior Good or Service
A Decrease in disposable income shifts curve right. ⇒ ↑ Demand
Demand ↓ Id 22 Price D1 D0 23 Quantity Inferior Good or Service
Macaroni and cheese dinners,
y and rice
y ROAD KILL !!
y 24 Change in the price of substitutes, ceteris paribus:
An increase in the price of a substitute will result in an increase in the demand for the commodity of interest (COI) (demand shifts right). 25 For example, lets look at beef while considering pork as a substitute: Let the quantity of pork available become restricted. What happens?
∙ There is an increase in the price of pork. 26 Increase in price of pork due to a decrease in Supply of pork:
Price S1 S0 Pork Market P1 P0 D Q1 Q0 27 There is an increase in the demand for beef (COI) because of the increase in the price of pork (SUBSTITUTE).
Price S0 Beef Market P1 P0 D1 D0 Q0 28 PORK
D0 S0 P1
P0 D0 29 Substitutes:
Therefore,an increase in the price of a substitute will shift the entire demand curve of the commodity of interest to the right. 30 Substitutes:
A decrease in the price of a substitute will shift the entire demand curve of the commodity of interest to the left. 31 Substitutes:
Immediate effect of a supply restriction for the substitute is a price increase.
This will affect the demand curve for the COI by increasing demand (shifts to the right) for the COI. 32 Substitutes:
Immediate effect of a increase in supply is a price reduction. 33 Substitutes: ↑ Psub ⇒ ↑ DCOI AND ↓ P ⇒ ↓ D 34 Reflect Back:
We have talked about what has happened in agriculture when wage rates have increased. Capital and labor are substitutes for each other. We have discussed that as the wage rate has increased, the demand for capital has increased.
35 Change in the price of a complement, ceteris paribus:
Complements are goods that go together, such as:
y left and right shoes,
y gas and cars,
y milk and cereal,
y bread and butter,
y guns and ammo,
If the price of a complement increases, then the demand for the COI decreases. ↑ Pcomp ⇒ ↓ DCOI 37 Compliments:
Price Let the price of milk increase. Since cereal is a complement of milk, its demand will decrease. D0 D1 Qd/ut 38 Compliments:
If the price of a complement decreases, the demand for the COI increases. ↓ Pcomp ⇒ ↑ DCOI 39 Compliments:
Price Let the price of milk decrease. Since cereal is a complement of milk, its demand will increase. D1 D0 Qd/ut 40 Consumer preferences and taste
As preferences change the demand curve will also change.
For example: What would be the result of the following statements, if true, on the demand curve for each commodity ? 41 Animal fat leads to a higher risk of heart attacks.
Price Result: ↓ Demand for red meat
Demand for red meat D0 D1 Qd/ut
42 Nitrites in bacon have been linked to cancer.
Price Result: ↓ Demand for bacon
Demand for bacon D0 D1 Qd/ut
43 Increasing fiber in the diet reduces the chance of getting colon cancer.
Price Result: ↑ Demand for high fiber
cereals and popcorn. D1 D0
Quantity / unit of time 44 Trichinae can be eliminated in pork by a new irradiation process Price Result: ??????? D0
Quantity / unit of time 45 National Inquirer says that people who own and care for rose bushes live 20 years longer than the average person. Price Result: ↑ Demand for rose bushes D1 D0
Quantity / unit of time 46 Expectations about the future
The peanut butter scare: a news release said that the peanut crop would be short that year and peanut butter prices were expected to double. 47 Expectations about the future
Result: People bought 3 lbs. of peanut butter that month instead of 1lb. ↑ Demand for peanut butter.
Due to Expectations of higher Price.
48 Expectations: The SelfFullfilling Prophecy !
Since consumers expect prices to increase, they all run out to buy NOW.
This causes demand to increase, and prices are pushed up very quickly! 49 Graphically Speaking:
Price $2.00 D1 D0 1 3 50 lbs. per month NOTE:
If the commodity we were analyzing was not storable, then the demand curve may NOT shift. 51 Changes in the population of consumers
Price Increase in population will result in increase in Demand for G&S. D1 D0 Quantitiy/unit time 52 Changes in the population of consumers
Price Decrease in population will result in decrease in Demand for G&S. D0 D1 Quantitiy/unit time 53 Length of the Adjustment Period
This is tied to, or related to the availability of substitutes. Price Short Run: Consumers have little time to find suitable substitues.
Demand is not very sensitive
to price changes, c.p. D We say demand is relatively inelastic
Quantity per Unit of Time 54 Length of the Adjustment Period
Price Long Run: Consumers have time to find suitable substitutes.
Demand becomes more
sensitive to prices changes
as time progresses, c.p. D We say demand
elastic. Quantity Demanded per Unit of Time 55 An Example: Demand for Gasoline
If the price of gas increases from $1.20 per gallon to $2.20 per gallon, how will consumers respond?
Are we asking how consumers will respond over the next day, week, month, year, etc. 56 It makes a difference!
Demand for gas will be different for different time periods
The longer the time period considered, the flatter the demand curve becomes; or the more elastic it becomes.
The more responsive demand becomes to changes in price! 57 What Occured in the 1970’s?
What was a simplified sequence of events that occurred when gas prices at the pump increased so dramatically in the 1970's? 58 The Sequence of Events:
(1) People griped.
(2) Car pools formed, and bus usage increased.
(3) Big cars were replaced with small ones.
(4) Some people moved closer to work.
(5) New technology that decreased fuel consumption was developed.
59 What was the result of this sequence of events on Demand? Price In Short Run, the very large increase
in gas price resulted in a very small decrease in consumption of gasoline. $2.20 Consumption of gas will not be very
responsive to the increase in price. $1.20 D
Q1 Q0 We say demand is relatively inelastic Quantity demanded 60 As time progressed: In Long Run, consumers have time to
find substitutes, and the very large
increase in gas price will eventually
result in a significant decrease in
consumption of gasoline. Price $2.20 This of course assumes that consumers perceive the increased
price of gas to be persistant, not just a temporary price increase. $1.20 D
Q1 Q0 Quantity demanded1
6 The Availability of Substitutes
P1 If a commodity has FEW substitutes,
demand for the commodity will tend
to be more inelastic or less responsive
to price changes.
Demand curve will tend to have a
very steep slope. P0 D
Q1 Q0 Quantity/unit time
62 The Availability of Substitutes
If a commodity has MANY substitutes,
demand for the commodity will tend
to be more elastic or more responsive
to price changes. Price
P1 Demand will tend to have
a very flat slope. P0 D Q1 Q0 Qd/unit time
63 Proportion of the Consumers Budget a Good or Service Represents
Salt Price If the price of SALT doubles, how much
will this price increase affect the consumption
of salt? $1.00 Why? $.50 D
Q1 Q0 Qd/u.t. 64 Proportion of the Consumers Budget a Good or Service Represents
The less of a consumers budget a commodity represents, the more
inelastic the demand curve will tend to be.
The price of salt is such a small percentage of our budgets, that consumption of salt will not be affected very much by a price increase.
65 Proportion of the Consumers Budget a Good or Service Represents
Price Automobile If the average price of an AUTO doubles,
how much will this price increase affect the
consumption of Automobiles? $40,000 Why? $20,000 D
Q1 Q0 Qd/u.t. 66 Proportion of the Consumers Budget a Good or Service Represents
The more of a consumers budget a commodity represents, the more
elastic the demand curve will tend to be.
The price of an automobile is such a large percentage of our budgets, that consumption of automobiles will be affected very much by a price increase.
67 Automobile Prices:
Business Week reported on Feb. 7, 1994 that the 1993 average price of a car was
This was a 69% increase from 1983. What was the average price of a car in 1983?
68 Real Price of a Car?
Based on median household income:
In 1983, it required 22 weeks of wages to purchase a new car.
In 1993, it required 26 weeks of wages to purchase a new car.
69 Real Price of a Car?
What did the real price of a car do between 1983 and 1993 based on median household income?
It Went Up! 70 ...
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