Lecture Two: Demand

Managerial Economics

Lecturer: Jack Wu

Individual Demand Curve, I

Definition: graph of quantity that buyer will purchase at every possible price Construction -- “Other things equal, how many would you buy at a price of ….?’’ vertical axis -- price horizontal axis -- quantity

Individual Demand Curve

Price Quantity

($ per movie) (movies per month)

10.00 0

7.50 1

5.00 2

2.50 4

0.00 7

0

2.50

5

7.50

10

1 4 72

individual demand curve

Quantity (Movies a month)

Pri

ce (

$ p

er

movie

)

Individual Demand Curve

Two Views

for every possible price, it shows the quantity demanded

for each unit of item, it shows the maximum price that the buyer is willing to pay

Demand Curve: Slope

diminishing marginal benefit -- each additional unit of consumption/usage provides less benefit than the preceeding unit

demand curve slopes downward

Consumer Differences

individual preferences different demand curves changes in consumer's preferences, eg,

age different consumers

Hoover, 1992

A negative price case:

Hoover’s special promotion -- two free air tickets (worth more than £400) for purchase of appliance over £100. promotion attracted over 100,000

customers Hoover incurred £48 million loss

Demand and Income

Changes in income normal product – demand

increases with income inferior product – demand falls

with income

Demand and Other Factors

prices of related products substitutes complements

advertising

Quantity (Movies a month)

0 1 2 7

2.50

5

7.50

10

demand curve with $1 popcorn

demand curve with $1.50 popcorn

Pri

ce (

$ p

er

movie

)Complement

Recorded Music

Argentina Canada

CD purchases 0.5 2.6

cassette purchases

0.2 0.4

GDP/capita $9,413 $19,831

CD price $13.80 $11.55

cassette price $ 7.80 $ 6.06

Recorded Music

Why the average Canadian bought more of both CDs and cassettes?

Why the ratio of CD to cassette purchases was relatively higher in Canada?

Recorded Music

Canadians enjoyed higher incomes Cassettes were a relatively inferior

product compared to CDs Another possible explanation: difference

in the relative prices of CDs and cassettes _ Canada: 11.55/6.06=1.9 _ Argentina: 13.80/7.80=1.77 * don’t not explain why Canadians bought

relatively more CDs than Argentines.

Football: To broadcast?

Live broadcasting of away games and attendance at home games are complements

Live broadcasting of home games and attendance at home games are both substitutes and complements

Used Cars

1990 1997/98

avg car age 7.5 yr 8.7 yr

median household income

up 29.9%

avg new car price up 48.4%

Used Cars

Reasons for the increasing demand for used cars:

_ fast rising price of new cars

_ increasing quality of used cars

_ auto manufacturer reduced frequency of changing designs

_ financial institutions began to offer more favorable rates.

Market Demand

Price Joy Max Lucas Market

$10 0 0 0 0

$7.50 1 0 0 1

$5 2 1 0 3

$2.50 4 2 3 9

$0 7 6 4 17

Market demand = horizontal summation of individual demands

Market Demand

Market demand = horizontal summation of individual demands

Market Demand Factors --own price (move along the demand curve) --other factors (shift the demand curve) _ income level and distribution _ prices of related goods _ population _ demographics _ consumer tastes

Buyer Surplus

individual buyer surplus: difference between consumer’s benefit and price she must pay for the item

market buyer surplus: sum of individual buyer surpluses.

0

2.50

5

7.50

10

1 2 4 7

c b e

h

j

g

d a

individual buyer surplus at $2.50 price

individual demand(marginal benefit) curve

Quantity (Movies a month)

Pri

ce (

$ p

er

movie

)

c

f

Individual Buyer Surplus

Gains from price cut

lower price on the quantity that he/she would have purchased at the original price (inframarginal units)

he/she can buy more (marginal units) Case: Student discount price for movie

Package Deal

charge buyer just a little less than her/his total benefit

leave buyer with almost zero surplus

Two-Part Tariff

fixed payment usage charge

usage charge

fixed payment

Business Demand, I

Business demands items as inputs into further production, not for consumption finished/semi-finished components -- raw materials and energy labor and other services capital

Business Demand, II

Demand for inputs depends on quantity of final output prices of complements and substitutes

in production

Business Demand Curve

marginal benefit = increase in revenue arising from an additional unit of the input

diminishing marginal benefit downward-sloping demand

Automated Teller Machines

increase in wages teller service became increasingly costly

banks used ATMs to substitute for tellers compare use of ATMs in US vs India

GM: What metal to use?

aluminium vis-à-vis steel auto weight

fuel consumption emissions

price

Discussion Question 1

In 1998, the value of worldwide sales of recorded music in the form of singles, music cassettes, and CDs was $38.7 billion. Americans bought 3.1 CDs and 0.6 music cassette per capita, while Mexicans bought 0.5 CD and 0.3 music cassette per capita.

Explain why per capita CD sales were relatively

higher while per capita sales of music cassettes were relatively lower in the United States than in Mexico.

Discussion Question 1 continued

On a suitable diagram, draw the U.S. demand for music CDs. Explain how the following changes would affect the demand curve: (i) increase in the price of CDs; (ii) rise in the ownership of CD players; and (iii) fall in the price of music cassettes.

Discussion Question 1 continued

On another diagram, draw the demand for music CDs in Mexico. Explain how the following changes would affect the demand curve: (i) fall in advertising by music publishers such as Sony and Time Warner; (ii) reduction in the penalty for copyright infringement; and (iii) increase in the price of hamburgers.

Discussion Question 2

Suppose that a typical household's demand for long-distance calls is represented by the equation, D = 200 - 4p + 0.4Y, where D is the quantity demanded in minutes a month, p is the price of calls in cents per minute, and Y is the household's income in thousands of dollars a year. Assume that Y = 100.

Discussion Question 2 continued

Draw the household's demand curve. How many minutes will the household

buy at a price of 25 cents a minute? What is the maximum lump sum that a

long-distance carrier can charge the household for a package of 140 minutes of calls?