Unit 2 - Demand, supply and consumer choice Flashcards
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Demand
When price goes up, people buy less.
When price goes down, people buy more
Change in demand is a shift of the demand curve
Change in quantity demanded is a movement from one point to another point on a fixed demand curve.
Is downward sloping because:
1. Subsitution effect
2. Income effect
3. Law of diminishing returns
Supply
When price goes up people produce more/quanitity increases.
When price goes down people produce less/quanity decreases.
Change in supply is a shift in the supply curve.
Change in the quantity supplied represents a movement along a supply curve. Notice that price does not shift the curve, it only moves along the curve.
Single shift for supply and demand
For double shifts: Either price or quanitty will be intermediate (ambiguous)
How do changes in price of related goods affect demand? (substitute and complement)
Substitutes - increase in price of one good, increases the demand for its substitute. Decrease in the price of one good, decreases the demand for its subsitute.
Some examples: Pepsi and Coke; beef and chicken.
Complements - increases in price of one good, decreases demand for the other good. Decrease in price of one good increases demand for the other good
Some examples: cars and gasoline; cars and tires; DVD players and DVDs.
How does the changing of income affect demand of normal and inferior goods?
Normal goods - As income increases, demand increases
Inferior goods - As income increases, demand decreases
Elastic and inelastic demand
Elastic demand - Quantity is sensitive to changes in price
Characteristics:
- Many substitutes
- Luxuries
- Easticity coefficient more than 1
Perfectly elastic demand is a horizontal curve while inelastic is vertical.
Inelastic demand - Quantity is insensitive to a change in price
Characteristics
- Few substitutes
- Necessities
- Elasticity coeffiecient less than 1
Elasticity formula
% change in quantity / % change in price
Cross-price elasticity of demand
Income elasticity of demand
Cross-price elasticity
Shows how sensitive a product is to a change in price of another good. It shows if two goods are substitutes or complements.
%change in quantitiy of product b / % change in price of product a
Income elasticity
Shows how sensitive a product is to a change in income. It shows if goods are normal or inferior
%change in quantity / %change in income
Price elasticity of supply
A measure of sellers’ responsiveness to price changes.
Elastic supply: producers are responsive to price changes.
Inelastic supply: producers are not responsive to price changes.
Time is primary determinant of elasticity of supply:
Total revenue test
Only applies to demand.
Consumer and producer surplus
Consumer surplus is the difference between what you want to pay and what you do pay.
Producer surplus is the difference between the price and what someone is willing to sell for.
Price control
Price control is when the government comes in and sets prices when it is not at equilibrium.
A ceiling always goes below equilibrium if its binding. If it is above, nothing is going to change. Price and quantity will not change.
A floor always goes above equilibrium.
You should be able to spot DWL
Excise tax
Excise taxes include sales taxes where sales taxes are placed on a large range of goods and services and excise taxes are imposed on specific goods.
Tax incidence
Dead weight loss
Efficiency losses (or deadweight losses) are reductions of combined consumer surplus and producer surplus. Quantity levels that are either less than or greater than the efficient quantity, Q1, create efficiency losses. Triangle dbe shows the efficiency loss associated with underproduction at output Q2.
