Aggregate Demand

• How do we get aggregate demand from individual demands?

• Two people with demands xA(p1,p2,m) and xB(p1,p2,m).

• Aggregate demand X=xA+xB.

• What does this look like with demand curves? Horizontal or Vertical addition?

Information Technology

• Phones, Faxes, e-mail, etc. all have the following property: – Network externalities: The more people using it the

more benefit it is to each user.

• Computers, VCRs, PS2s, also have this property in that both software can be traded among users and the larger the user market, the larger number of software titles are made.

• How do markets operate with such externalities?

Competition & Network Externalities

• Individuals 1,…,1000 (call this number v)

• Each can buy one unit of a good providing a network externality.

• Person v values a unit of the good at nv, where n is the number of persons who buy the good.

Competition & Network Externalities

• What is the demand at price p?

• If v is the marginal buyer, valuing the good at nv = p, then all buyers v’ > v value the good more, and so buy it.

• Quantity demanded is n = 1000 - v.

• So inverse demand is p = n(1000-n).

• Graph this!

• What is the supply curve if marginal cost c<250,000?

Competition & Network Externalities

• What are the market equilibria?

• Zero.

• A large numbers of buyers buy.– large n* large network externality value n*v– good is bought only by buyers with n*v c;

i.e. only large v v* = c/n*.• The other point is unstable and called a threshold

point. Below this, demand will go to zero. Above this, the product would be a hit.

Discussion points

• Competitors: Sony vs. Beta, Qwerty vs. Dvorak, Windows vs. Mac, Playstation vs. Xbox.

• Does the best always win?

Demand Review

• What is aggregate demand if – XA=10-p.– XB=20-p.

• What about if they only consume positive amounts of a good?– XA=Max{10-p,0}.– XB=Max{20-p,0}.