MicroeconomicsSession 1-2The demand curvePQ6805000Q=q(P)The inverse demand curveQP5000680P=p(Q)The Demand CurveThe demand curve, labeled D,shows how the quantity of a good demanded by consumers depends on its price. The demand curve is downward sloping; holding other things equal, consumers will want to purchase more of a good as its price goes down. The quantity demanded may also depend on other variables, such as income, the weather, and the prices of other goods. For most products, the quantity demanded increases when income rises. A higher income level shifts the demand curve to the right (from Dto D).SUPPLY AND DEMANDFigure 2.2The Demand CurveGold demand sluggish as price hardensReuters Jul 4, 2012 Gold prices in India, one of the world's leading consumers, edged higher on Wednesday on a weak rupee, keeping demand muted as there wasn't any festival in the short-term to lure buyers."Buyers are not comfortable with the current price. Jewellers, investors all are waiting for correction," said a Mumbai-based dealer with a private bank dealing in bullion.Investors shun gold as poor monsoon spoils rural demandET Bureau Jul 5, 2012 Delayed monsoon and recovering equity markets have turned investors away from gold.A large section of traditional gold investors has moved to equity markets that rose by 9% in June compared to 2% rise in gold prices."Weak monsoon will most likely hamper gold demand in rural India, which usually contributes 60% to total consumption. Also, investors are putting their money in fixed deposits that give them more than 9% returns," says Prithviraj Kothari, president of Bombay Bullion Association.Class Participation Games 1 Show that the term demand can be used in two different senses implying either quantity demanded or demand curve using some newspaper articles.Shifts in Demand Substitutes - Two goods for which an increase in the price of one leads to an increase in the quantity demanded of the other. Complements - Two goods for which an increase in the price of one leads to a decrease in the quantity demanded of the other.SUPPLY AND DEMANDThe Supply Curve supply curveRelationship between the quantity of a good that producers are willing to sell and the price of the good.The Supply CurveThe supply curve, labeled S in the figure, shows how the quantity of a good offered for sale changes as the price of the good changes. The supply curve is upward sloping: The higher the price, the more firms are able and willing to produce and sell. If production costs fall, firms can produce the same quantity at a lower price or a larger quantity at the same price. The supply curve then shifts to the right (from S to S).Figure 2.1THE MARKET MECHANISMSupply and DemandThe market clears at price P0and quantity Q0. At the higher price P1, a surplus develops, so price falls. At the lower price P2, there is a shortage, so price is bid up.Figure 2.3CHANGES IN MARKET EQUILIBRIUMNew Equilibrium Following Shifts in Supply and DemandSupply and demand curves shift over time as market conditions change. In this example, rightward shifts of the supply and demand curves lead to a slightly higher price and a much larger quantity. In general, changes in price and quantity depend on the amount by which each curve shifts and the shape of each curve.Figure 2.6A change in quantityQP5000680P=p(Q)7004990ELASTICITIES elasticityPercentage change in one variable resulting from a 1-percent increase in another. price elasticity of demandPercentage change in quantity demanded of a good resulting from a 1-percentincrease in its price.Price Elasticity of Demand(2.1)ELASTICITIES linear demand curveDemand curve that is a straight line.Linear Demand CurveLinear Demand CurveFigure 2.11The price elasticity of demand depends not only on the slope of the demand curve but also on the price and quantity.The elasticity, therefore, varies along the curve as price and quantity change. Slope is constant for this linear demand curve. Near the top, because price is high and quantity is small, the elasticity is large in magnitude. The elasticity becomes smaller as we move down the curve.ELASTICITIES infinitely elastic demandPrinciple that consumers will buy as much of a good as they can get at a single price, but for any higher price the quantity demanded drops to zero, while for any lower price the quantity demanded increases without limit.Linear Demand Curve(a) Infinitely Elastic DemandFigure 2.12(a) For a horizontal demand curve, Q/P is infinite. Because a tiny change in price leads to an enormous change in demand, the elasticity of demand is infinite.ELASTICITIES completely inelastic demandPrinciple that consumers will buy a fixed quantity of a good regardless of its price.Linear Demand Curve(b) Completely Inelastic DemandFigure 2.12(b) For a vertical demand curve, Q/P is zero.Because the quantity demanded is the same no matter what the price, the elasticity of demand is zero.A change in quantity (algebra) Total Revenue TR(Q) = p(Q) Q Marginal Revenue MR(Q) = TR(Q) TR(Q) = p(Q) + p(Q) Q= p(Q) [ 1 + p(Q) Q / p(Q)]= p(Q) [ 1 + 1/e]where e = p / (p(Q) Q)Price elasticity of demand e = p Q(p) / Q(p) TR(Q) = MR(Q) = p(Q) [ 1 + 1/e] Abs(e) > 1 ; demand is elastic; TR(Q) > 0 Abs(e) < 1 ; demand is inelastic; TR(Q) < 0ELASTICITIES income elasticity of demandPercentage change in the quantity demanded resulting from a 1-percent increase in income.Other Demand Elasticities cross-price elasticity of demandPercentage change in the quantity demanded of one good resulting from a 1-percent increase in the price of another. price elasticity of supplyPercentage change in quantity supplied resulting from a 1-percent increase in price.Elasticities of Supply(2.2)(2.3)DemandSHORT-RUN VERSUS LONG-RUN ELASTICITIES(a) Gasoline: Short-Run and Long-Run Demand CurvesFigure 2.13(a) In the short run, an increase in price has only a small effect on the quantity of gasoline demanded. Motorists may drive less, but they will not change the kinds of cars they are driving overnight. In the longer run, however, because they will shift to smaller and more fuel-efficient cars, the effect of the price increase will be larger. Demand, therefore, is more elastic in the long run than in the short run.DemandSHORT-RUN VERSUS LONG-RUN ELASTICITIES(b) Automobiles: Short-Run and Long-Run Demand CurvesFigure 2.13(b) The opposite is true for automobile demand. If price increases, consumers initially defer buying new cars; thus annual quantity demanded falls sharply. In the longer run, however, old cars wear out and must be replaced; thus annual quantity demanded picks up. Demand, therefore, is less elastic in the long run than in the short run.Demand and DurabilityDemandSHORT-RUN VERSUS LONG-RUN ELASTICITIESIncome ElasticitiesIncome elasticities also differ from the short run to the long run.For most goods and servicesfoods, beverages, fuel, entertainment, etc.the income elasticity of demand is larger in the long run than in the short run.For a durable good, the opposite is true. The short-run income elasticity of demand will be much larger than the long-run elasticity.MARKET DEMAND market demand curveCurve relating the quantity of a good that all consumers in a market will buy to its price.From Individual to Market DemandTABLE 4.2Determining the Market Demand Curve(1) (2) (3) (4) (5)Price Individual A Individual B Individual C Market($) (Units) (Units) (Units) (Units)1 6 10 16 322 4 8 13 253 2 6 10 184 0 4 7 115 0 2 4 6MARKET DEMANDFrom Individual to Market DemandSumming to Obtain a Market Demand CurveThe market demand curve is obtained by summing our three consumers demand curves DA, DB, and DC. At each price, the quantity of coffee demanded by the market is the sum of the quantities demanded by each consumer. At a price of $4, for example, the quantity demanded by the market (11 units) is the sum of the quantity demanded by A (no units), B (4 units), and C (7 units).Figure 4.10CONSUMER SURPLUS consumer surplusDifference between what a consumer is willing to pay for a good and the amount actually paid.Consumer Surplus and DemandConsumer SurplusConsumer surplus is the total benefit from the consumption of a product, less the total cost of purchasing it. Here, the consumer surplus associated with six concert tickets (purchased at $14 per ticket) is given by the yellow-shaded area.Figure 4.13CONSUMER SURPLUSConsumer Surplus and DemandConsumer Surplus GeneralizedFor the market as a whole, consumer surplus is measured by the area under the demand curve and above the line representing the purchase price of the good. Here, the consumer surplus is given by the yellow-shaded triangle and is equal to 1/2 ($20 $14) 6500 = $19,500.Figure 14.4Applying Consumer SurplusWhen added over many individuals, it measures the aggregate benefit that consumers obtain from buying goods in a market. When we combine consumer surplus with the aggregate profits that producers obtain, we can evaluate both the costs and benefits not only of alternative market structures, but of public policies that alter the behavior of consumers and firms in those markets.Consumer and Producer Surplus Individual consumer surplus is the difference between the maximum amount that a consumer is willing to pay for a good and the amount that the consumer actually pays. Producer surplus for a particular unit of output is the difference between the price at which it is sold and the marginal cost of producing it. Total producer surplus is the sum of producer surplus over all units sold. It equals the difference between revenue and variable costs.