Professional Documents
Culture Documents
James R. McGuigan
R. Charles Moyer
Frederick H. deB. Harris
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PART II – DEMAND AND FORECASTING
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Chapter 3 – Demand Analysis
Overview
• DEMAND RELATIONSHIPS
• THE PRICE ELASTICITY OF DEMAND
• THE INCOME ELASTICITY OF DEMAND
• CROSS ELASTICITY OF DEMAND
• THE COMBINED EFFECT OF DEMAND ELASTICITIES
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distributed with a certain product or service or otherwise on a password-protected website or school-approved learning management system for classroom use.
Chapter 3 – Demand Relationships
The Demand Schedule Defined (1 of 2)
• The demand schedule is the simplest form of the
demand relationship
• It is merely a list of prices and corresponding quantities of a
product or service that would be demanded over a particular
time period by some individual or group of individuals at
uniform prices
• Table 3.1 shows the demand schedule for gasoline
• Note the inverse relationship between price and quantity
demanded; this is referred to as the law of demand
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Table 3.1 – U.S. Household Demand for
Gasoline
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Chapter 3 – Demand Relationships
The Demand Schedule Defined (2 of 2)
• Demand schedules shift when one determinant of
demand changes
• Example: the demand schedule for gas-guzzling SUVs in 1999
reflected low gasoline prices ($2.00/gal); Ford sold 428,000 Ford
Explorers
• By 2007, with gas at $3.50/gal, Ford sold 127,000 Explorers
despite deep discounts
• By 2008, with gas prices over $4.00/gal, the Ford Explorer sold
fewer than 30,000 units, and was withdrawn from the market
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Figure 3.1 – Demand for SUV (Ford Explorer)
as Gasoline Price Doubled
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Chapter 3 – Demand Relationships
Constrained Utility Maximization & Consumer Behavior (1 of 4)
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distributed with a certain product or service or otherwise on a password-protected website or school-approved learning management system for classroom use.
Chapter 3 – Demand Relationships
Constrained Utility Maximization & Consumer Behavior (2 of 4)
• Purchasing Power Effect
• When the price of a good declines, the purchasing power of the
consumer has increased
• Sometimes the effect is small because little of the household
budget is expanded on that good
• Substitution Effect
• When the price of a good such as movies declines, it is less
expensive than other forms of entertainment; a consumer can
purchase more of the good whose price has declined, and less of
the substitute
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Figure 3.2 – Consumption Choice on a Business
Trip
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Chapter 3 – Demand Relationships
Constrained Utility Maximization & Consumer Behavior (3 of 4)
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distributed with a certain product or service or otherwise on a password-protected website or school-approved learning management system for classroom use.
Chapter 3 – Demand Relationships
Constrained Utility Maximization & Consumer Behavior (4 of 4)
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distributed with a certain product or service or otherwise on a password-protected website or school-approved learning management system for classroom use.
Chapter 3 – Demand Relationships
Price Elasticity Defined (2 of 3)
• Price elasticity of demand (ED) is the ratio of the
percentage change in quantity demanded to the
percentage change in price, assuming all other
factors remain unchanged
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distributed with a certain product or service or otherwise on a password-protected website or school-approved learning management system for classroom use.
Chapter 3 – Demand Relationships
Price Elasticity Defined (3 of 3)
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distributed with a certain product or service or otherwise on a password-protected website or school-approved learning management system for classroom use.
Figure 3.3 – Two-person Urban Household
Demand for Gasoline
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Figure 3.4 – Two-person Urban Household Gasoline
Demand, Worldwide 2010 (Fuel tax per gallon)
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distributed with a certain product or service or otherwise on a password-protected website or school-approved learning management system for classroom use.
Chapter 3 – Demand Relationships
Interpreting Price Elasticity: … Price Elasticity and Sales (1 of 3)
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Figure 3.5 –
Perfectly Elastic and Inelastic Demand Curves
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Table 3.3 –
Partial List of Factors Affecting Supply
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Figure 3.6 –
Price Elasticity over Demand Function
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distributed with a certain product or service or otherwise on a password-protected website or school-approved learning management system for classroom use.
Chapter 3 – Demand Relationships
Interpreting Price Elasticity: … Price Elasticity and Sales (2 of 3)
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distributed with a certain product or service or otherwise on a password-protected website or school-approved learning management system for classroom use.
Chapter 3 – Demand Relationships
Interpreting Price Elasticity: … Price Elasticity and Sales (3 of 3)
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distributed with a certain product or service or otherwise on a password-protected website or school-approved learning management system for classroom use.
Chapter 3 – Demand Relationships
The Importance of Elasticity-Revenue Relationships (1 of 1)
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Figure 3.7 – Raising Price with Demand in the
Inelastic Range for the VW Beetle
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Chapter 3 – Demand Relationships
Factors Affecting the Price Elasticity of Demand (1 of 1)
• Price inelasticities vary greatly among products
• Some factors that account for the differing
responsiveness of consumers to price changes are:
• The availability and Closeness of Substitutes
• Percentage of the Consumer’s Budget
• Positioning as Income Superior
• Time Period of Adjustment
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Table 3.4 –
Empirical Price Elasticities (1 of 2)
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Table 3.4 –
Empirical Price Elasticities (2 of 2)
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Chapter 3 – Demand Relationships
The Income Elasticity of Demand (1 of 2)
• Income Elasticity is the ratio of the percentage
change in quantity demanded to the percentage
change in income, assuming all other factors
influencing demand remain unchanged
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distributed with a certain product or service or otherwise on a password-protected website or school-approved learning management system for classroom use.
Chapter 3 – Demand Relationships
The Income Elasticity of Demand (2 of 2)
• Interpreting the Income Elasticity
• For most goods, income elasticity is expected to be positive,
Ey>0 (income-superior goods)
• Those that are negative are called inferior goods
• Advertising Elasticity
• Measures the responsiveness of sales to changes in
advertising expenditures as measured by the ratio of the
percentage change in sales to the percentage change in
advertising expenditures
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Chapter 3 – Demand Relationships
Cross Elasticity of Demand (1 of 3)
• Cross Price Elasticity Defined
• The ratio of the percentage change in the quantity
demanded of Good A to the percentage change in the
price of Good B, assuming that all other factors
influencing demand remain unchanged
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Chapter 3 – Demand Relationships
Cross Elasticity of Demand (2 of 3)
• Interpreting Cross Price Elasticity
• If the cross price elasticity between products A and B is
positive, the products are referred to as substitutes for
each other
• A negative cross price elasticity indicates that the
products are complementary
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Table 3.5 – Empirical Income Elasticities
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Chapter 3 – Demand Relationships
Cross Elasticity of Demand (3 of 3)
• Antitrust and Cross Price Elasticities
• The number of close substitutes may be an important
determinant of the degree of competition in a market
• The fewer the number of close substitutes that exist for a
product, the greater the amount of market power possessed by
the selling firm
• An important issue in antitrust cases involves the appropriate
definition of the relevant product market to be used in
computing statistics of market control (Example: cellophane
only, or all flexible packaging materials?)
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Chapter 3 – Demand Relationships
Empirical Illustration of Price, Income, & Cross Elasticities (1 of 1)
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Table 3.6 – Electricity-Use Elasticities
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Chapter 3 – Demand Relationships
The Combined Effect of Demand Elasticities (1 of 1)
• When two or more factors that affect demand
change simultaneously, one may be interested in
determining their combined impact on quantity
demanded
• The combined use of income and price elasticities
can be generalized to include any of the elasticity
concepts developed earlier in this chapter
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