MGEB02 – Lecture 4

Individual & Market Demand (II)

Ata Mazaheri

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 Lecture Outline

• Review
• Market Demand
• Consumer Surplus

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 Market Demand

●Market demand curve Curve relating the

quantity of a good that all consumers in a
market will buy to its price.

●If you have the individual demand then the

market demand is the horizontal sum of the
individual demands.

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 Market Demand

Summing to Obtain a Market Demand

Curve

Three consumers (A, B, C) with

given demands
=> Market demand curve:
Sum the three demand curves:
DA, DB, and DC.
=> At each price, the quantity
demanded by the market is the
sum of the quantities demanded
by each consumer.
- Price of $4,
=> Market demand = 11 units
(sum of the quantity demanded by
A (no units), B (4 units), and C (7
units).

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 Market Demand

Two Notes:
1. The market demand curve will shift to the right as more
consumers enter the market.
2. Factors that influence the demands of many consumers will also
affect market demand.

Example, we might obtain information about the demand for home

computers by adding independently obtained information about the
demands of the following groups:
• Households with children
• Households without children
• Single individuals

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 Market Demand
Elasticity of Demand

Denoting the quantity of a good by Q and its price by P, the price

elasticity of demand is

Inelastic Demand
|Ep |< 1 (absolute value is less than one): The quantity demanded not
responsive to changes in price.
=> Total expenditure on the product increases when the price
increases.

Elastic Demand
|Ep |> 1 (absolute value is more than one): The quantity demanded
responsive to changes in price.
=> Total expenditure on the product declines when the price increases. 5
 Market Demand
Elasticity of Demand

Isoelastic Demand
● Isoelastic demand curve Demand curve with a constant price
elasticity.

Unit-Elastic Demand Curve

When the price elasticity of

demand is −1.0 at every
price, the total expenditure
is constant along the
demand curve D.

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 Market Demand

Domestic demand for wheat:

QDD = 1430 – 55P
QDD: number of bushels (in millions) demanded domestically, and P is
the price in dollars per bushel.

Export demand is:

QDE = 1470 − 70P
QDE: number of bushels (in millions) demanded from abroad.

Market (aggregate) Demand:

QDD + QDE = (1430 − 55P) + (1470 − 70P) = 2900 − 125P

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 Market Demand

The Aggregate Demand for

Wheat

Horizontal sum of the

domestic demand AB
and the export demand
CD.

Note: Each individual

demand curve is linear,
but the market demand
curve is kinked.
- No export demand
when the price of wheat
is greater than $21.

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 Consumer Surplus
● consumer surplus Difference between what a consumer is willing to
pay for a good and the amount actually paid.

Consumer Surplus and Demand

Consumer Surplus

The total benefit from the

consumption of a product
Minus
The total cost of purchasing it.

Consumer surplus for the

purchase of six concert tickets
at $14 =the yellow-shaded
area.

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 Consumer Surplus
Consumer Surplus and Demand

Consumer Surplus Generalized

For the market: Consumer surplus is

the area under the demand curve and
above the line representing the
purchase price of the good.

The yellow-shaded triangle =

1/2 × ($20 − $14) × 6500 = $19,500.

Applying Consumer Surplus

A tool for welfare analysis, discussed in ECMC02: In aggregate, it measures
the total 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. 10
 Consumer Surplus (Application)

The effect of Clean Air Act in 1977.

Valuing Cleaner Air

The yellow-shaded triangle: The

consumer surplus generated when
air pollution is reduced by 5 parts
per 100 million of nitrogen oxide at a
cost of $1000 per part reduced.

The surplus is created because

most consumers are willing to pay
more than $1000 for each unit
reduction of nitrogen oxide.

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 Numerical Example
• There are 100 consumers in the economy. Half of them live in
city A and demand popcorn according to the individual inverse
demand curve P = 10 − 2Q. The other half live in city B and
demand popcorn according to the individual inverse demand
curve P = 16−4Q. Suppose that the market-clearing price for
popcorn is $4.

a) At the market-clearing price, how many popcorns does each

resident of city A buy? What is the price elasticity of demand
by residents of city A at this point?
b) Repeat (a) for residents of city B.

c) What is the market demand for popcorn in this

economy? Is the market demand function linear? If not,
where is the kink?
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 Numerical Example
d) Using the market demand function derived in
part (c), what is the total quantity demanded in
this economy at the market-clearing price? What
is the price elasticity of market demand at this
point? Is the absolute value of the price elasticity
of market demand larger than the absolute value
of the price elasticity of individual demand?

e) If the price increases from $4 to $10, how

does the consumer surplus change? Graph the
demand curve with quantity on the horizontal
axis and price on the vertical axis, and show the
change in consumer surplus.
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