Chapter 2--Demand and Supply

Question 1

How do economists use the Model of Demand and Supply?

Answer 1

To analyse how buyers and sellers interact in the marketplace

Question 2

What does a demand schedule show? How are the elements related?

Answer 2

How many units of a good or service an entity would purchase if the price were set at a certain level

Price is inversely-related to quantity purchased

Question 3

How is a demand curve produced?

Answer 3

It is the plotting of a demand schedule on a graph, with price (independent variable) on the y-axis and quantity purchased at a given moment in time (dependent variable) on the x-axis

Question 4

What is the Market Demand Function, as an equation?

Answer 4

Quantity of product demanded = f (Price of product; Price of complements, Price of substitutes, Income, Tastes and Preferences, Expectations of the future, Number of Buyers)

Question 5

What is a complementary good?

Answer 5

A good that is desired to be purchased along with the good in question (e.g.: fine cheese with wine)

Question 6

What is a substitute good?

Answer 6

A good that might be purchased instead of the good in question

Question 7

What is a normal good versus an inferior good, as these terms relate to income?

Answer 7

An entity’s demand for normal goods increases as the entity’s income increases

An entity’s demand for inferior goods (e.g.: cheap wine) decreases as the entity’s income increases

Question 8

How do tastes and preferences factor into the quantity of a good demanded?

Answer 8

A strong preference for one product of many may increase demand for that product compared to what it would be if there were no preference

Also, taste that dislikes the entire product type may reduce demand for that product compared to what it would be if there were no taste.

Question 9

What role do expectations of the future play into the quantity of a good demanded?

Answer 9

If it is perceived the good will be available for the foreseeable future, personal demand is lower than if the product is expected to go away

Question 10

What is the Ceteris Paribus Assumption?

Answer 10

The assumption that all else is equal, other than the factors we are manipulating

Question 11

What is the Law of Demand?

Answer 11

There is an inverse relationship between the price of a good or service and the quantity demanded of that good or service, ceteris parabus.

Question 12

What causes a shift in the demand curve? In what direction can the curve shift?

Answer 12

A change in one of the modifying factors other than price

Either toward or away from unity on the graph

Question 13

How are market demand schedules and curves different from standard demand schedules and curves?

Answer 13

They sum the demands for a good from all members of the market to determine aggregate demand, as opposed to just one entity’s demand

Question 14

What is the Price Elasticity of Demand?

Answer 14

A measure of the relationship between the percentage change to price compared to the resultant percentage change to the quantity demanded of a product

Question 15

What is the mid-point formula for calculating Price Elasticity of Demand?

Answer 15

Elasticity of a demanded quantity and price = ({[new quantity - initial quantity] \ [(new quantity + initial quantity) / 2]} * 100) / ({[new price - initial price] \ [(new price+ initial price) / 2]} * 100)

or

Elasticity = %change in quantity / %change in cost

Question 16

What is the price elasticity of demand coefficient, and what does it mean?

Answer 16

It is the number that the mid-point formula yields (E).

It is usually expressed as an absolute value (negative value assumed) and can be stated as “A one-percent change in the cost of {product}, ceretis paribus, causes a {E} change in the quantity demanded of wine

Question 17

What are the three different categories of price elasticity of demand?

Answer 17

Inelastic: quantity demanded does not change much with price (i.e.: |E| < 1.00). Often found in essential goods.

Elastic: quantity demanded changes significantly with price (i.e.: |E| > 1.00). Often when there are many comparable options available

Unit Elastic (of unitary elasticity): quantity demanded changes 1:1 with price (i.e.: |E| = 1.00)

Question 18

What does the Cross Price Elasticity Coefficient indicate?

Answer 18

Whether two goods are related and, if so, if they are complementary or substitutes

Question 19

How is the Cross-Price Elasticity Coefficient calculated? What do the values mean?

Answer 19

In the mid-point equation, use price information from one good and quantity demanded information from another.

If the coefficient is negative, it implies a complementary relationship (i.e.: demand curve moves closer to unity)

If the coefficient is positive, it implies a substitute relationship (i.e.: demand curve moves away from unity)

Question 20

What is the Income Elasticity of Demand?

Answer 20

A measure of the percentage change in income and the resultant percentage change in quantity demanded of a product.

Calculated with the mid-point formula, using quantity demanded for a good, and income as price data (denominator)

A positive coefficient is a normal good, while a negative coefficient is an inferior good.

Question 21

What does a supply schedule show? How are the elements related?

Answer 21

How many units of a good or service an entity would supply if the price were set at a certain level

Price is directly-related to quantity supplied

Question 22

How is a supply curve produced?

Answer 22

It is the plotting of a supply schedule on a graph, with price (independent variable) on the y-axis and quantity supplied at a given moment in time (dependent variable) on the x-axis

Question 23

What is the Market Supply Function, as an equation?

Answer 23

Quantity of product supplied = g (Price of product; Price of other inputs into production process, Price of labor, Price of capital, Price of land, Technology used by the company, Expectations of the market, Number of suppliers)

Question 24

What is the Law of Supply?

Answer 24

There is a direct relationship between the price of a good or service and the quantity supplied of that good or service, ceteris parabus.

Question 25

What causes a shift in the supply curve? In what direction can the curve shift?

Answer 25

A change in one of the independent variables other than price

Perpendicular to unity

Question 26

How are market supply schedules and curves different from standard supply schedules and curves?

Answer 26

They sum the supplies for a good from all suppliers of the market to determine aggregate supply, as opposed to just one entity’s supply

Question 27

How is price elasticity of supply calculated?

Answer 27

Using the mid-point formula, with %change of quantity supplied of a good divided by %change of price of that good.

Question 28

What is Market Equilibrium, and how is it determined?

Answer 28

Market equilibrium is the price point where suppliers are willing to supply exactly what buyers are willing to buy,

It is found by superimposing the supply and demand curves and finding the price of the point where they intersect

Question 29

What is comparative-static analysis?

Answer 29

A comparison of two static points (one before an independent variable changes, and one after) to understand the effect of an independent variable change on the supply and demand market equilibrium

Question 30

What are the steps of a comparative-static analysis?

Answer 30

1. Determine whether demand curve or supply curve will be effected
2. Determine the direction the curve will shift
3. Determine the equilibrium price and equilibrium quantity before and after the change

Question 31

Who bears the legal responsibility of a tax on the purchase of a good or service? Who bears the economic burden?

Answer 31

Buyers are legally-responsible for the tax on goods and services, but sellers and buyers both share the economic burden

Question 32

Who bears the legal responsibility of a tax on the production of a good or service? Who bears the economic burden?

Answer 32

Sellers are legally-responsible for the tax on goods and services, but sellers and buyers both share the economic burden