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Econ 301

Econ 301. January 16, 2008. Class Plan. Demand Supply Market Equilibrium Shifts in Supply and Demand (Comparative Statics) Elasticities. Demand. Quantity Demanded depends on price of the good prices of substitutes and complements Income Other factors… Demand function is given by.

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Econ 301

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  1. Econ 301 January 16, 2008

  2. Class Plan • Demand • Supply • Market Equilibrium • Shifts in Supply and Demand (Comparative Statics) • Elasticities

  3. Demand • Quantity Demanded depends on • price of the good • prices of substitutes and complements • Income • Other factors… • Demand function is given by

  4. Demand Curve

  5. Demand Curve • Example from Moschini and Meilke, 1992 (demand for pork in Canada) • Need econometric techniques to estimate coefficients of the demand function • Can you guess how demand depends on the price of pork, price of beef and price of chicken? (hint: are beef and chicken substitutes or complements?)

  6. Estimating Demand for Pork

  7. Movement Along vs Shift • A change in P causes movement along demand curve • Change in other factors affecting demand, shift the curve • The Law of Demand: dQ/dP <0 • dQ/dP = -20 (quantity demanded falls by 20 times as much as the price rises)

  8. Shift in the demand curve • Increase in the price of substitute (beef)

  9. Examples • Pinot Noir vs Merlot (after movie Sideways) • (US sales of Pinot Noir increased 16% and 34% in CA) • Other examples?

  10. Supply • Quantity supplied depends on the price of the good and other factors such as prices of inputs • Processed pork example

  11. Supply

  12. Movement Along Supply • No such thing as “the Law of Supply” • But still can find out what happens to quantity supplied as P increases • dQ/dP =? • In our example, dQ/dP=40 (upward sloping supply)

  13. Shift of Supply Curve • Change in a price of an input (increase in price of hog)

  14. Market Equilibrium

  15. Equilibrium Adjustment

  16. What Shifts Demand Curves? • Change in income • Change in a price of a substitute • Change in a price of a complement • Change in composition of population • Change in tastes • Change in information • Change in availability of credit • Change in expectations

  17. What Shifts Supply Curve? • Change in price of inputs • Change in technology • Change in natural environment • Change in availability of credit • Change in expectations

  18. Elasticities • The effect of a change in a supply curve depends on the shape of the demand curve

  19. How to measure elasticity? • It is important to measure how sensitive Demand is to changes in Prices • Preferably, this measure should not depend on units: are we counting in dollars, cents, or euros? Pounds, Kilograms or Tons? • The price elasticity of demand provides such a measure: In words, it is the % change in quantity for (or divided by) a given % change in prices (sometimes, the elasticity is defined as the opposite number: the precise convention does not matter, as long as one realizes that the law of demand applies)

  20. Elasticity Price elasticity of demand: percent change in quantity over percent change in price

  21. Elasticity along Linear Demand Curve

  22. The Importance of Elasticity • The Concept of Elasticity is used for other concepts: - Income elasticity of Demand: - Price Elasticity of Supply: • What affects the Slope? When is it steep? It is steep when there is no good substitute

  23. Using Calculus

  24. Examples • Linear Demand • Q = a – bP • Elasticity =

  25. Elasticity • Q=a-bp • Elasticity= -b p/Q • Plug in for p and Q to find point elasticity • Note that while slope is constant, elasticity is different at every point of a linear demand curve

  26. Elasticity - Intuition • Elastic – responsive to price changes • Inelastic – not responsive to price changes Examples: - An unconscious bleeding man is brought to the hospital emergency room. - Among hospital patients whose insurance will pay all charges, what would the demand be like for nurse-administered propoxyphene (Darvon), a pain-killer? - Now suppose that the patients are in managed care plans that pressure physicians to use lower-price drugs. What might demand for the Darvon be? - A patient is given a presciption for a drug to control high blood pressure. The patient's insurance doesn't cover drugs, so the patient must pay out of pocket.

  27. Elasticity • Demand is more elastic if the decision-maker has an incentive to save money and if there is an adequate substitute for the product or service.

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