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ECON 160

ECON 160. Week 5 February 16-18, 2010. Review. Markets are the interaction of buyers and sellers. Focus on buyers and sellers separately. Ceteris paribus : look at one thing at a time; All other things held equal. Demand for X. $ P x.

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ECON 160

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  1. ECON 160 Week 5 February 16-18, 2010

  2. Review • Markets are the interaction of buyers and sellers. • Focus on buyers and sellers separately. • Ceteris paribus: look at one thing at a time; All other things held equal.

  3. Demand for X $ P x $ 10 $ 9 $ 8 $ 7 $ 6 $ 5 $ 4 $ 3 $ 2 $ 1 Dx Demand shows the amounts purchased at alternative prices(horizontal distances at each price) Demand x Dx Qtyx /T 1 2 3 4 5 6 7 8 9 10

  4. Supply Curve $Price $10 8 6 4 2 2 4 6 8 10 12 14 16 Qty x/ T

  5. $Price $ 4 3 2.50 2.00 1.50 1.00 .50 .25 Demand Surplus at this $ Price Supply 100 200 300 400 500 600 700 800 900 1000 1100 Q x/ T

  6. $Price $ 4 3 2.50 2.00 1.50 1.00 .50 .25 Demand Supply Shortage at this $ Price 100 200 300 400 500 600 700 800 900 1000 1100 Q x/ T

  7. Market Equilibrium $Price 4 3 2.50 2.00 1.50 Pe 1.00 .50 .25 Demand Supply Qty D = Qty S 100 200 300 400 500 600 700 800 900 1000 1100 Q x/ T Qe

  8. Total Revenue = P X Q $ P x Demand $ 10 $ 9 $ 8 $ 7 $ 6 $ 5 $ 4 $ 3 $ 2 $ 1 Supply Pe $6x5 = $30 Dx Qtyx /T 1 2 3 4 5 6 7 8 9 10 11 12 Qe

  9. Effects of Increase in Demand on Price and Quantity $ P x D1 Do $ 10 $ 9 $ 8 $ 7 $ 6 $ 5 $ 4 $ 3 $ 2 $ 1 Supply Increases Price and Quantity Pe D1 Sx Do Qtyx /T 1 2 3 4 5 6 7 8 9 10 11 12 Qe

  10. Demand Determines Price $ P x D3 $ 10 $ 9 $ 8 $ 7 $ 6 $ 5 $ 4 $ 3 $ 2 $ 1 Supply: Response D2 Demand pulls forth output D1 D3 Sx D2 D1 Qtyx /T 1 2 3 4 5 6 7 8 9 10 11 12

  11. Effects of an Increase in Supply on Price and Quantity $ P x S0 Demand $ 10 $ 9 $ 8 $ 7 $ 6 $ 5 $ 4 $ 3 $ 2 $ 1 S1 Pe Price decreases and Quantity increases S0 Dx S1 Qtyx /T 1 2 3 4 5 6 7 8 9 10 11 12 Qe

  12. Transaction Costs of Exchange • Information Costs • Search Costs • Quality Identification Cost • Negotiating Costs: Cost of agreeing on what and how much will be exchanged • Transportation Costs: Cost of moving goods between parties

  13. Slope Shows Responsiveness of Quantity to a Change in Price B A Px Px P0 P0 Dx P1 P1 Dx Q0Q1 Qx/T Q0 Qx/T Q1

  14. Slope of Supply Shows responsiveness of quantity to a change in Price A B Px Px P1 P1 P0 P0 Qx/T Q0 Qx/T Q1 Q0 Q1

  15. Elasticity: a Measure of responsiveness of Quantity to a Change in Price • Ed = % Δ Qd/ % Δ price • Es = %  Qs / %  price

  16. Measures of Elasticity • Demand is Elastic : %Δ Qd > %Δ P; ie |Ed| >1. A decrease in Price  an increase in Total Revenue. • Demand is Unitary Elastic: %ΔQd = %ΔP; ie |Ed| = 1. A Change in price  no change in Total Revenue. • Demand is Inelastic: %ΔQd < %ΔP; i.e. |Ed| < 1. An increase in Price  an increase in Total Revenue.

  17. Elasticity, Price Change & Total Revenue Elastic Inelastic $Px $Px P1 P0 P0 P1 Qty/T Q0 Q1 Q1 Q0

  18. Increased Demandwith elastic Supply $ P x $ 10 $ 9 $ 8 $ 7 $ 6 $ 5 $ 4 $ 3 $ 2 $ 1 Dx Pe` Pe Sx Sx Dx` Dx Qtyx /T 1 2 3 4 5 6 7 8 9 10 11 12 Qe Qe`

  19. Increased Demand ,Inelastic Supply $ P x $ 10 $ 9 $ 8 $ 7 $ 6 $ 5 $ 4 $ 3 $ 2 $ 1 Sx Dx Pe’ Pe Dx’ Sx Dx Qtyx /T 1 2 3 4 5 6 7 8 9 10 11 12 Qe Qe’

  20. Decrease in Supply, Elastic Demand $ P x $ 10 $ 9 $ 8 $ 7 $ 6 $ 5 $ 4 $ 3 $ 2 $ 1 Sx’ Dx Sx Pe` Pe Dx Qtyx /T 1 2 3 4 5 6 7 8 9 10 11 12 Qe` Qe

  21. Decrease in Supply, Inelastic Demand $ P x $ 10 $ 9 $ 8 $ 7 $ 6 $ 5 $ 4 $ 3 $ 2 $ 1 Dx Sx’ Sx Pe’ Pe Dx Qtyx /T 1 2 3 4 5 6 7 8 9 10 11 12 Qe’ Qe

  22. Determinants of Price Elasticity of Demand • Number & Closeness of Substitutes. • Information about price change and availability of substitutes. • Percentage of Income Spent on good. • Period of time: Second Law of Demand: Demand is more elastic over a longer period of time.

  23. Other Elasticity's A Measure of responsiveness of Quantity to a Change in some other factor

  24. Income Elasticity: Measure of responsiveness of Quantity to a Change in Income • EdI = % Δ Qd/ % Δ income • EdI = 100 * ΔQ/Q = I * ΔQ 100 * ΔI/I Q * ΔI • Normal Goods: Positive • Clothing: .95: 10%  income → 9.5%  • Stereo: 27.2: 10%  income → 27.2%  • Increase may be Quantity or Quality • Inferior Goods: Negative

  25. Cross Price Elasticity: Measure of responsiveness of Quantity to a Change Price of other good • Exy = % Δ Qx/ % Δ Py • EdI = 100 * ΔQx/Qx = Py * ΔQx 100 * ΔPy/Py Qx * ΔPy • Substitutes: Positive • Complements: Negative

  26. Uses of Cross Price Elasticity • Magnitude of cross price elasticity reflects closeness of substitutes or complements • Able to identify your closest competitors • Courts use cross-price to measure monopoly power

  27. Transaction Costs of Exchange • Information Costs • Search Costs • Quality Identification Cost • Negotiating Costs: Cost of agreeing on what and how much will be exchanged • Transportation Costs: Cost of moving goods between parties

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