Demand Curves

Do you own an iPod?

1) Yes2) No

Clicker Test

Press the Letter A on your clicker.

What is the most you would be willing to pay for an iPod Nano? (if you didn’t have an iPod and couldn’t

get one for less)

1) Less than $1002) $101-$1503) $151-$2004) $201-$2505) $251-$3006) $301-$3507) $351-$4008) $401-$5009) $501-$60010)More than $600

Do you own an iPhone?

1) Yes2) No

What is the most you would be willing to pay for an iPhone? (if you couldn’t get one for less)

1) Less than $1002) $101-$2003) $201-$3004) $301-$4005) $401-$5006) $501-$6007) $601-$7008) $701-$8009) $801-$100010)More than $1000

Price and Quantity

• Apple recently announced that it had sold a total of 1 million iPhones.

• Price was $599 when introduced in July, 2007.• In September, 2007 Apple cut the price to

$399.• How will this affect Apple sales?

Demand function

• The demand function for a good reports the number of units that demanders will want to buy as a function of the price of the good.– Individual demand function: Number of units one

person will buy as function of price.– Market demand: Total number of units bought as

a function of price.

Drawing demand curve

• Economics tradition: Put quantity on horizontal axis, price on vertical axis.

• Typically demand curve slopes down: Higher price means lower quantity demanded.

Quantity

Price

Individual demand: reservation price model

• Consider a good, like an iPod, or a refrigerator, or a textbook, such that most demanders buy one unit or none at all.(A second unit isn’t of much use.)

• A demander’s “reservation price” or “Buyer Value” is the highest price that he would be willing to pay to have the good rather than not have it.

• Answers to our iPod and iPhone questions are Buyer Values.

Individual Demand Curve with reservation price $200

Quantity

Price

$200

1

A Market demand CurveBuyer Value Number of

Demanders

$100 10

$200 15

$300 10

$300

$100

$200

10 25 35

Price

Quantity

If price is $10, how many units will be demanded?

Buyer Value # Demanders

$20 11

$40 21

A) 0 unitsB) 11 unitsC) 21 unitsD) 32 units

If price is $30, how many units will be demanded?

Buyer Value # Demanders

$20 11

$40 21

A) 0 unitsB) 11 unitsC) 21 unitsD) 32 units

Many consumers, many steps

• The market demand curve in our example had only 3 different Buyer Values and hence was like a stairway with 3 steps.

• If there are many demanders with different Buyer Values, steps become small, demand curve is well approximated by a continuous curve.

Linear demand curve

• A useful example: Linear demand curve.• p=a-bq for some a and b.

• Total expenditures on a Good are price x quantity.Note that pq=(a-bq)q=aq-bq2

Quantity

Price

Individuals may consume more than one unit.

• Typical case: Diminishing marginal willingness to pay for an additional unit.

• Keep buying so long as one more unit is worth more than the price.

• This implies that you will buy more units if price is lower.

Individual demand for gasoline

• The higher the price of gasoline, the less gasoline per month someone will buy.

Price pergallon

Gallons Per month

Market demand

• For any price, market demand is sum of quantities demanded by individuals.

Person 1Demand Curve

Person 2Demand Curve

Market demandCurve

Price

Consumers’ Surplus

• Difference between what you pay for a good and the most you would be willing to pay rather than go without the good.

• Example: You are willing to pay $350 for an IPOD nano. They cost $199.

• What is your consumers’ surplus?

Consumers’ surplus for consumer who demands multiple goods.

• Area under demand curve, above the price.

Consumer’sSurplus

Readings

• Prepare for Experiment 1 by reading description of this experiment in Bergstrom Miller text.

• Show up at your section. You must go to your own section.

• Read McAfee, Chapter 2, Section 2.1.1.(If you don’t know calculus, skip the calculus

discussion on pp 2-11-2-14.)

OK, We’re out of here