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Ch. 4 - Demand Sect. 1 - Understanding Demand Demand The desire to own something and the ability to pay for it Law of Demand The lower the price of a good, the higher the quantity demanded - the higher the price, the lower the quantity demanded Demand Curve A graph that represents the law of demand for a given good or service 5 Price $ 4 3 2 1 0 1 2 3 Quantity 4 5 Demand Curve 5 Price $ 4 3 2 1 0 1 2 3 Quantity 4 5 Law of Demand Sect. 2 - Shifts in the Demand Curve Ceteris paribus Latin for “all other things held constant” - a demand curve is accurate only as long as this is true - Increase in demand - shifts demand curve to the right - Decrease in demand - shifts demand curve to the left 5 Price $ 4 3 Increase in Demand 2 1 0 1 2 3 Quantity 4 5 5 Decrease in Demand Price $ 4 3 2 1 0 1 2 3 Quantity 4 5 Sect. 2 - Shifts in the Demand Curve Ceteris paribus Latin for “all other things held constant” - a demand curve is accurate only as long as this is true - Increase in demand - shifts demand curve to the right - Decrease in demand - shifts demand curve to the left Causes of shift in demand curve: Change in Income Increased income increases demand for “normal goods” - decreases demand for “inferior goods” Sect. 2 - Shifts in the Demand Curve Ceteris paribus Latin for “all other things held constant” - a demand curve is accurate only as long as this is true - Increase in demand - shifts demand curve to the right - Decrease in demand - shifts demand curve to the left Causes of shift in demand curve: Change in income Increased income increases demand for “normal goods” - decreases demand for “inferior goods” Quick Check: If your income increases, your demand for inferior decrease goods will _____________? If your income decreases, your demand for normal decrease goods will _____________? 13 Change in population / demographics Increase or decrease will shift demand curve Consumer expectations Expectations about the future can affect our demand for certain goods Example: Hurricane is coming Change in tastes and advertising Fads and promoted goods Demand Curve for Fad Items 5 Price $ 4 3 2 1 0 1 2 3 Quantity 4 5 6 Demand Curve for Fad Items 5 Price $ 4 3 2 1 0 1 2 3 Quantity 4 5 6 Change in population / demographics Increase or decrease will shift demand curve Consumer expectations Expectations about the future can affect our demand for certain goods Example: Hurricane is coming Change in tastes and advertising Fads and promoted goods Change in Demand Curve Substitute Goods Goods that are used in place of another good - as the price of a good increases consumers buy less of it - so the demand for its substitute increases Decrease in Quantity Demanded for Butter Increase in Demand for Margarine 5 5 4 4 3 Price $ Price $ B 2 3 2 A 1 1 0 1 2 3 Quantity 4 0 1 2 3 Quantity 4 Compliments Two goods that are bought and used together - as the price of a good increases consumers buy less of it - so the demand for its compliment also decreases Decrease in Quantity Demanded for Hotdogs 5 Decrease in Demand for Buns 5 4 4 3 Price $ Price $ B 2 3 2 A 1 1 0 1 2 3 Quantity 4 0 1 2 3 Quantity 4 Quick Check: If the price of a good increases, the demand for a increase substitute good will _____________? If the price of a good decreases, the demand for a increase compliment good will _____________? 25 Section 3 - Elasticity of Demand Elasticity of Demand A measure of how consumers respond to price changes Elastic - demand is very sensitive to price change small change in price = large change in quantity demanded Inelastic - demand is not very sensitive to price change large change in price = small change in quantity demanded 5 Elastic or Inelastic? Elastic - Small change in price = large change in quantity demanded Price $ 4 3 2 1 0 1 2 3 Quantity 4 5 Price $ 5 Elastic or Inelastic? 4 Inelastic - Large change in price = small change in quantity demanded 3 2 1 0 1 2 3 Quantity 4 5 Section 3 - Elasticity of Demand Elasticity of Demand A measure of how consumers respond to price changes Elastic - demand is very sensitive to price change small change in price = large change in quantity demanded Inelastic - demand is not very sensitive to price change large change in price = small change in quantity demanded Calculating Elasticity of Demand Elasticity = Percentage change in quantity demanded Percentage change in price Greater than 1 = elastic Less than 1 = inelastic Elasticity of 1 = Unitary Elastic 5 % change in quantity demanded - 50 % change in price - 33 = 1.5 (elastic) Price $ 4 3 2 1 0 1 2 3 Quantity 4 5 5 % change in quantity demanded - 100 = 4 (elastic) % change in price - 25 Price $ 4 3 2 1 0 1 2 3 Quantity 4 5 5 % change in quantity demanded - 20 % change in price - 50 = .4 (inelastic) Price $ 4 3 2 1 0 1 2 3 Quantity 4 5 5 % change in quantity demanded - 25 % change in price - 33 = .75 (inelastic) Price $ 4 3 2 1 0 1 2 3 Quantity 4 5 Section 3 - Elasticity of Demand Elasticity of Demand A measure of how consumers respond to price changes Elastic - demand is very sensitive to price change small change in price = large change in quantity demanded Inelastic - demand is not very sensitive to price change large change in price = small change in quantity demanded Calculating Elasticity of Demand Elasticity = Percentage change in quantity demanded Percentage change in price Greater than 1 = elastic Less than 1 = inelastic Elasticity of 1 = Unitary Elastic Factors Affecting Elasticity Availability of Substitutes Less substitutes = less elastic demand More substitutes = more elastic demand Luxury vs. Necessity Pepsi / Coke vs. prescription medicine Elasticity Ch. 5 - Supply Sect. 1 - Understanding Supply Supply - The amount of goods or services available Law of Supply - Producers offer more of a good as its price increases and less as its price falls Market entry - Rising prices draw new firms into a market and add to the quantity supplied of a good Supply Curve A graph that represents the law of supply for a good or service 5 Price $ 4 3 2 1 0 1 2 3 Quantity 4 5 Supply Curve 5 Price $ 4 3 2 1 0 1 2 3 Quantity 4 5 Supply Curve A graph that represents the law of supply for a good or service Supply Curve Supply Curve A graph that represents the law of supply for a good or service Elasticity of Supply - How firms respond to changes in the price of a good - Supply is inelastic in the short term - More elastic in the long term Sect. 2 - Costs of Production Marginal Product of Labor The change in output from hiring one more worker - measures the change in output at the margin Increasing Marginal Returns When the marginal product of labor increases as the number of workers increases Diminishing Marginal Returns When the marginal product of labor decreases as the number of workers increases Sect. 2 - Costs of Production Marginal Product of Labor The change in output from hiring one more worker - measures the change in output at the margin Increasing Marginal Returns When the marginal product of labor increases as the number of workers increases Diminishing Marginal Returns When the marginal product of labor decreases as the number of workers increases Fixed Costs A cost that does not change no matter how much of a good is produced. - cost of the building, machinery, rent, property taxes Variable Costs Costs that rise or fall depending on the quantity produced - the cost of raw materials, labor, electricity Total Cost Fixed costs + variable costs Production Costs Fixed Costs A cost that does not change no matter how much of a good is produced. - cost of the building, machinery, rent, property taxes Variable Costs Costs that rise or fall depending on the quantity produced - the cost of raw materials, labor, electricity Total Cost Fixed costs + variable costs Marginal Cost The additional cost of producing one more unit Marginal Revenue - The additional income from selling one more unit - Does not change because each unit sells for the same price Total Revenue The price of each unit X total units sold Output The best level of output is where marginal revenue is equal to marginal cost (new marginal price) (marginal price) Optimum Output Oil Changes per Hour Fixed Cost 0 $35 $0 $35 $0 $20 $0 $–35 1 $35 $11 $46 $11 $20 $20 $–26 2 $35 $20 $55 $20 3 $35 $24 $59 $20 4 $35 $31 $66 $20 5 $35 $40 $75 $20 6 $35 $51 $86 $20 7 $35 $64 $99 $20 8 $35 $82 $117 $20 9 $35 $107 $142 $20 10 $35 $137 $172 $20 Variable Total Cost Cost Marginal Marginal Total Profit Cost Revenue Revenue Oil Changes per Hour Fixed Cost 0 $35 $0 $35 $0 $20 $0 $–35 1 $35 $11 $46 $11 $20 $20 $–26 2 $35 $20 $55 9 $20 3 $35 $24 $59 4 $20 4 $35 $31 $66 7 $20 5 $35 $40 $75 9 $20 6 $35 $51 $86 11 $20 7 $35 $64 $99 13 $20 8 $35 $82 $117 18 $20 9 $35 $107 $142 25 $20 10 $35 $137 $172 30 $20 Variable Total Cost Cost Marginal Marginal Total Profit Cost Revenue Revenue Oil Changes per Hour Fixed Cost 0 $35 $0 $35 $0 $20 $0 $–35 1 $35 $11 $46 $11 $20 $20 $–26 2 $35 $20 $55 9 $20 40 3 $35 $24 $59 4 $20 60 4 $35 $31 $66 7 $20 80 5 $35 $40 $75 9 $20 100 6 $35 $51 $86 11 $20 120 7 $35 $64 $99 13 $20 140 8 $35 $82 $117 18 $20 160 9 $35 $107 $142 25 $20 180 10 $35 $137 $172 30 $20 200 Variable Total Cost Cost Marginal Marginal Total Profit Cost Revenue Revenue Oil Changes per Hour Fixed Cost 0 $35 $0 $35 $0 $20 $0 $–35 1 $35 $11 $46 $11 $20 $20 $–26 2 $35 $20 $55 9 $20 40 -15 3 $35 $24 $59 4 $20 60 1 4 $35 $31 $66 7 $20 80 14 5 $35 $40 $75 9 $20 100 25 6 $35 $51 $86 11 $20 120 34 7 $35 $64 $99 13 $20 140 41 8 $35 $82 $117 18 $20 160 43 9 $35 $107 $142 25 $20 180 38 10 $35 $137 $172 30 $20 200 28 Variable Total Cost Cost Marginal Marginal Total Profit Cost Revenue Revenue Marginal Cost The additional cost of producing one more unit Marginal Revenue - The additional income from selling one more unit - Does not change because each unit sells for the same price Total Revenue The price of each unit X total units sold Output The best level of output is where marginal revenue is equal to marginal cost Sect. 3 - Changes in Supply Effect of Rising Costs A rise in the cost of inputs will cause a fall in supply because the good is more expensive to produce - a fall in the cost of an input will cause an increase in supply 5 Price $ 4 3 Decrease in Supply 2 1 0 1 2 3 Quantity 4 5 5 4 Price $ Increase in Supply 3 2 1 0 1 2 3 Quantity 4 5 Sect. 3 - Changes in Supply Effect of Rising Costs A rise in the cost of inputs will cause a fall in supply because the good is more expensive to produce - a fall in the cost of an input will cause an increase in supply Technology Advances in technology can lower production costs - causes a rightward shift in the supply curve Sect. 3 - Changes in Supply Effect of Rising Costs A rise in the cost of inputs will cause a fall in supply because the good is more expensive to produce - a fall in the cost of an input will cause an increase in supply Technology Advances in technology can lower production costs - causes a rightward shift in the supply curve Subsidy A government payment that supports a business or market - A payment to increase or decrease production Excise Tax A tax on the production or sale of a good - Increases cost - reduces supply Regulation Government intervention in a market that increases production cost - reduces supply Where Firms Produce Transportation costs - cost to transport raw materials vs. cost to transport finished good Ch. 6 - Prices Sect. 1 - Combining Supply and Demand Equilibrium - The point at which the demand for a good is equal to supply Equilibrium 5 Price $ 4 3 2 1 0 1 2 3 Quantity 4 5 Equilibrium Ch. 6 - Prices Sect. 1 - Combining Supply and Demand Equilibrium - The point at which the demand for a good is equal to supply Disequilibrium When quantity supplied is not equal to quantity demanded Shortage When quantity demanded is greater than quantity supplied - solved by raising price and increasing production Shortage 5 Price $ 4 3 2 1 0 1 2 3 Quantity 4 5 Ch. 6 - Prices Sect. 1 - Combining Supply and Demand Equilibrium - The point at which the demand for a good is equal to supply Disequilibrium When quantity supplied is not equal to quantity demanded Shortage When quantity demanded is greater than quantity supplied - solved by raising price and increasing production Surplus When quantity supplied is greater than quantity demanded - solved by lowering price and decreasing production Surplus 5 Price $ 4 3 2 1 0 1 2 3 Quantity 4 5 Ch. 6 - Prices Sect. 1 - Combining Supply and Demand Equilibrium - The point at which the demand for a good is equal to supply Disequilibrium When quantity supplied is not equal to quantity demanded Shortage When quantity demanded is greater than quantity supplied - solved by raising price and increasing production Surplus When quantity supplied is greater than quantity demanded - solved by lowering price and decreasing production Price Ceiling Maximum price that can legally be charged for a good or service Price Ceiling 5 Price $ 4 3 2 Shortage 1 0 1 2 3 Quantity 4 5 Price Ceiling Maximum price that can legally be charged for a good or service Price Floor Minimum price that must be paid for a good or service Price Floor 5 Surplus Price $ 4 3 2 1 0 1 2 3 Quantity 4 5 Price Ceiling 5 Price $ 4 3 2 Shortage 1 0 1 2 3 Quantity 4 5 Price Floor 5 Surplus Price $ 4 3 2 1 0 1 2 3 Quantity 4 5 5 Price $ 4 3 2 1 0 1 2 3 Quantity 4 5 5 Price $ 4 3 2 1 0 1 2 3 Quantity 4 5 Price Ceiling Maximum price that can legally be charged for a good or service Price Floor Minimum price that must be paid for a good or service Minimum Wage - Minimum price that an employer can pay a worker for one hour of labor - set by federal government Minimum Wage 10 $8.00 Wage $ $6.00 4 2 0 10 30 40 20 Quantity of Workers 50 10 $8.00 Wage $ $6.00 4 2 0 10 30 40 20 Quantity of Workers 50 Minimum Wage Price Ceiling Maximum price that can legally be charged for a good or service Price Floor Minimum price that must be paid for a good or service Minimum Wage - Minimum price that an employer can pay a worker for one hour of labor - set by federal government Sect. 2 - Changes in Market Equilibrium Increase in Supply A shift to the right in the supply curve will change the equilibrium price and quantity 5 Price $ 4 X 3 New Equilibrium 2 1 0 1 2 3 Quantity 4 5 Digital Cameras Price Ceiling Maximum price that can legally be charged for a good or service Price Floor Minimum price that must be paid for a good or service Minimum Wage - Minimum price that an employer can pay a worker for one hour of labor - set by federal government Sect. 2 - Changes in Market Equilibrium Increase in Supply A shift to the right in the supply curve will change the equilibrium price and quantity Supply Curve Shift Decrease in Supply When factors cause a supply curve to shift to the left - An increase in the costs of resources to produce a good - An increase in labor costs 5 Price $ 4 3 New Equilibrium X 2 1 0 1 2 3 Quantity 4 5 Decrease in Supply When factors cause a supply curve to shift to the left - An increase in the costs of resources to produce a good - An increase in labor costs Increase in Demand Shift in demand curve to the right - Leads to a shortage / new equilibrium price 5 4 Price $ New Equilibrium 3 X 2 1 0 1 2 3 Quantity 4 5 Decrease in Supply When factors cause a supply curve to shift to the left - An increase in the costs of resources to produce a good - An increase in labor costs Increase in Demand Shift in demand curve to the right - Leads to a shortage / new equilibrium price Decrease in Demand Shift in demand curve to the left - Leads to a surplus / new equilibrium price 5 4 Price $ X 3 New Equilibrium 2 1 0 1 2 3 Quantity 4 5 Decrease in Supply When factors cause a supply curve to shift to the left - An increase in the costs of resources to produce a good - An increase in labor costs Increase in Demand Shift in demand curve to the right - Leads to a shortage / new equilibrium price Decrease in Demand Shift in demand curve to the left - Leads to a surplus / new equilibrium price Draw and label graphs for each including demand & supply curves, shift arrows, equilibrium points, and if price and quantity increase or decrease. 1) Increase in demand 2) Decrease in demand 3) Increase in supply 4) Decrease in supply Demand Curve Shift Sect. 3 - The Role of Price Price as an Incentive Financial reward motivates both consumers and producers - rising prices for producers / falling prices for consumers Rationing Response to a shortage - forced decrease in demand - Resources used where most needed Black Market When producers and consumers conduct business outside of Govt. control of price or quantity - Illegal - throws the system out of balance The End