Law of demand (ch6) with textbook qs

Question 1

Which market are we talking about when discussing supply and demand?

Answer 1

Product market

Question 2

Individual demand

Answer 2

the quantity of a good or service a consumer is willing and able to buy at various prices per unit of time.

Question 3

Relationship between price and demand

Answer 3

Inverse relationship- increase price/decreased demand

Question 4

Law of demand

Answer 4

As prices go up, we usually demand less of a product.

Question 5

Quantity demanded abbreviation

Answer 5

q(d)

Question 6

Factors that influence individual and market demand.(independently)

Answer 6

Individual Demand
 Tastes and preferences.
 Disposable income;
 Price and availability of substitute goods;
 Price of complementary products;
 Consumer expectations of future prices and conditions.
Market demand
* the size of the population;
* the expectations of the population;
* the income levels and distribution.

Answer 7

Supply curve and demand curve are opposite

Question 8

Another way to say factor of demand

Answer 8

Conditions/ determinants of demand

Question 9

What does change of price result in?

Answer 9

“a change in the quantity demanded. Either an expansion or contraction of demand”.

Question 10

What does a change in determinant of demand result in?

Answer 10

“a change in demand. Either an increase or decrease in demand.”

Question 11

Demand schedule

Answer 11

demand schedule is a table that shows the quantity demanded of a good or service at different price levels.

Question 12

Market demand

Answer 12

The sum total of the demands of all of the individuals for a product at any particular price

Question 13

Provide specific examples of factors affecting the market demand.

Answer 13

1. The price of the good or service itself
   - Whether or not to purchase a good, consumer must decide if he/she willing to pay the nominated price.
2. The price of other goods and services: Consumers consider substitutes such as butter and margarine or Netflix and Foxtel. If the price of butter rises, the demand of margarine will be expected to rise. With complement goods such as petrol and car, if the price of car is increased, the demand for car is expected to be decreased, along with decreasing the demand for petrol.
3. Expected future prices : If consumers expect that price of a certain good will increase in the near future, they will increase the current consumption and raise the demand for that good in the present.
4. Changes in the consumer taste and preferences : For an example during COVID -19, consumer demand shifted from eat-in restaurants to eat-out delivery services.
   Innovation and technological progress lead to consumer demanding new and better products.
5. The LEVEL OF INCOME: People with higher income are willing and able to purchase more goods and services.
   A change in the income distribution could change the level of demand for particular goods.
   E.g. REDISTRIBUTION OF INCOME towards higher income earners would lead to a greater demand of luxury goods.
   A more equal distribution of income may lead to a rise in the demand for luxury consumer durables as they become more affordable to more people in the community.

CONSUMER EXPECTATIONS about future income levels and prospects will influence their decisions to buy certain type of goods. As an example, You are less likely to buy a Ferrari today, if the economic outlook was uncertain and you fear if you might lose your job in the near future.

6. The SIZE OF POPULATION and its AGE DISTRIBUTION: Population size affects the total quantity of goods demanded, while the age population affects the type of goods demanded.
   Example : Aging population – retirement villages, aged care services.

Question 14

How does increase and decrease of demand show on the demand curve?

Answer 14

Increase: expand of curve (outwards)
Decrease: contraction of curve (move inwards)

Question 15

Describe shape of typical demand curve

Answer 15

• negative slope
• price as y axis, quantity of demand as x axis

Question 16

Contraction of demand

Answer 16

When an increase in the price of a good result in a decrease in quantity demanded.
- show as upward movement in demand curve

Question 17

Expansion of demand

Answer 17

When a decrease in the price of a good results in an increase in quantity demanded.
- downwards movement in demand curve

Question 18

Ceteris paribus

Answer 18

Other things being equal
- nothing else changes

Question 19

How does ceteris Paribus apply in analysis of factor affecting demand?

Answer 19

• we only focus on one factor as a time
• when analysing changes in demand in relation to price changes or other determinants of demand, all other factors that influence demand (such as income and tastes) are held constant.

Question 20

price elasticity of demand equation

Answer 20

E= % change of Qd/ % change of P(price)

Question 21

Elastic demand

Answer 21

a strong response to a change in price

Question 22

Unit elastic demand

Answer 22

a proportional response to a price change (total amount spent by the consumers remain unchanged

Question 23

How to determine if the demand is inelastic, elastic, or unit elastic?

Answer 23

price up revenue up= inelastic
price up revenue down= elastic
price up revenue equal= unit elastic

Question 24

Which of the following goods or services is most likely to be subject to a specific indirect tax? Explain why.
vegetables, public transport fares, computers, cigarettes

Answer 24

D.
Governments tend to impose specific indirect taxes on goods or services with relatively
inelastic demand, in order to maximise revenue. Cigarette smoking is addictive and therefore
has relatively inelastic demand. It is also a major contributor to disease and early deaths.
Governments may also want to use an indirect tax to discourage smoking because of its
harmful effects.

Question 25

Demand for chewing gum is relatively elastic. Which pricing strategy would chewing gum retailers be most likely to use?

a) they would be more likely to lower prices, as this would result in a less than proportionate increase in volumes sold

b) they would be more likely to increase prices, as this would result in a more than proportionate decrease in volumes sold.

c) they would be more likely to lower prices, as this would result in a more than proportionate increase in volumes sold

d) they would be more likely to increase prices, as this would result in a less than proportionate decrease in volumes sold

Answer 25

C
The statement “demand for chewing gum is relatively elastic” indicates that consumers are highly responsive to changes in price. In other words, a small decrease in price would lead to a more than proportionate increase in the quantity of chewing gum sold.
This strategy aims to stimulate demand, attract more customers, and ultimately increase total sales revenue, as the increase in volumes sold outweighs the decrease in price.

Question 26

Describe two factors that could cause an increase in demand for figs. Illustrate this change in the diagram. (3 marks)

Answer 26

An increase in the demand curve (or an increase in demand) means that a higher quantity of figs
will be demanded at each price level, as illustrated in the graph below in the shift from D1
to D2
.
Such a shift may be caused by an increase in the price of a substitute, such as a date, or an
increase in consumer demand for food which goes well with figs, such as cheese.

Question 27

Describe one factor that could cause a movement along the demand curve for figs. (1 mark)

Answer 27

Movements along a demand curve show how consumers respond to a change in the price of
a good or service, such as the price of figs rising or falling.

Question 28

Explain the relationship between the prices of complementary goods. (2 marks)

Answer 28

The prices of complements tend to move in the same direction. If the price of good A falls, it
will lead to a contraction in demand for good A, and a decrease in demand for its complement,
good B. A decrease in demand for good B will cause its price to fall also.

Question 29

Define the term ceteris paribus. (1 mark)

Answer 29

Ceteris paribus is a phrase used in economics to isolate the relationship between two
economic variables. It is a Latin phrase which means “all other things being the same”, or in
other words “assuming that nothing else in the economy changes”.

Question 30

The marginal income tax rate for the top tax bracket is decreased. Outline the likely effect of this on the demand for luxury goods, ceteris paribus. (2 marks)

Answer 30

If the highest marginal income tax rate is decreased, it is likely that there will be an increase in
after-tax income for higher-income earners. As higher-income earners tend to spend more on
luxury goods, an increase in their incomes is likely to increase demand for luxury goods

Question 31

Distinguish between a contraction of demand and a decrease in demand. (4 marks)

Answer 31

A contraction in demand is simply an upward movement along the demand curve, occurring
when an increase in the price of a good or service causes a decrease in the quantity
demanded. Only an increase in the price for a good or service will lead to upward movement
along the existing demand curve. Conversely, a change in any other factor other than price
that can influence demand, such as factors affecting consumer demand, will lead to a shift of
the demand curve – hence, a decrease in demand means that consumers are willing and able
to buy less of the product than before at each price level. A decrease in demand also means
that consumers are only willing and able to buy a given quantity if the price is lower than
before. A decrease in demand is illustrated by the demand curve shifting to the left.

Question 32

Price of necklaces ($) Q(d)
40 150
90 85
140 30
190 5

Calculate the price elasticity of demand for the change in price from $40 to $90. (1 mark)

Answer 32

Revenue = Price of necklaces ($) × Quantity demanded
Revenue at $40: $40 × 150 = $6000
Revenue at $90: $90 × 85 = $7650
Since the price has risen and total revenue has risen, demand for necklaces is relatively
inelastic between $40 and $90.

Question 33

Price of necklaces ($) Q(d)
40 150
90 85
140 30
190 5

Calculate the price elasticity of demand for the change in price from $140 to $190. (1 mark)

Answer 33

Revenue at $140: $140 × 30 = $4200
Revenue at $190: $190 × 5 = $950
Since the price has risen and total revenue has fallen, demand for necklaces is relatively elastic
between $140 and $190.

Question 34

Outline what is meant by a good or service having perfectly inelastic demand. (2 marks)

Answer 34

When a good or service has perfectly inelastic demand, the demand curve is a vertical straight
line. At this point, consumers are willing to pay any price in order to obtain a given quantity of
a good. For example, persons facing a life-threatening disease that may only be treated with
a particular medication or procedure would be willing to pay almost any amount to obtain it.

Question 35

Explain why the demand for necklaces is likely to be more elastic than the demand for cigarettes. (4 marks)

Answer 35

Cigarettes are relatively price inelastic because they are an addictive good, which means that
people are likely to continue buying them even when prices increase. Necklaces have other
jewellery substitutes and could be considered a luxury good, making them more price elastic,
since consumers are more likely to be responsive to changes in their prices. Overall,
consumers are likely to be more responsive to price changes for necklaces than cigarettes.
Therefore, demand for necklaces is likely to be more price elastic than demand for cigarettes.

Question 36

Define demand.

Answer 36

the quantity of a particular good or service that consumers are
willing and able to purchase at various price levels at a given point in time.

Question 37

What is market demand and how is it obtained?

Answer 37

• the demand by all consumers for a particular good or service.
• The market demand is obtained by summing the quantities
  demanded by all individual consumers at various price levels.

Question 38

What are the main factors that influence market demand?

Answer 38

1. The price of the good or service itself
2. The price of other goods and services (substitutes)
3. Expected future prices
4. Changes in consumer tastes and preferences
5. Level of income
6. The size of the population and its age distribution

Question 39

Explain how the price of the good or service itself is a factor that influences market demand.

Answer 39

• consumers must consider whether they are willing to pay the nominated price for the item
• some goods are considered necessities- people will need to purchase regardless of price changes
• demand for other goods like luxury goods are likely to reduce if price increases

Question 40

Explain how the price of other goods and services is a factor that influences market demand.

Answer 40

• consumers consider some goods to be close substitutes for another
• if the price of the good increases, one would expect the demand for its substitute good to increase
• complementary goods follow the same change of demand as their original goods

Question 41

Explain how expected future prices are a factor that influences market demand.

Answer 41

• if consumers expect the price of a certain good to increase in the near future (e.g. new tax), they will bring forward their consumption and increase the current demand for the product
• e.g. large increase in expenditure on homebuilding in the months preceding the introduction of gst in 2000

Question 42

Explain how changes in consumer tastes and preferences are a factor that influences market demand.

Answer 42

• e.g. concerns over COVID-19 lead to higher demand for delivery services rather than eat-in restaurants
• innovation and technological progress led to consumers demanding new and better products at the expense of superseded ones (e.g. music sales once came from CDs but now people prefer downloading music online)

Question 43

Explain how the level of income is a factor that influences market demand.

Answer 43

• As people earn higher incomes, they become more willing and able to purchase more goods and services that they could not previously afford.
• Rising incomes would tend to increase the demand
  for luxury goods more than the demand for necessities, which are not very sensitive to changes in income levels.
• A change in income distribution could also change the level of demand for particular goods. E.g., a redistribution of income towards higher-income earners would lead
  to a greater demand for luxury goods.
• Consumer expectations about future income levels and prospects will influence their decisions to buy certain types of goods. E.g., consumers would be less likely to
  buy expensive luxury goods if the economic outlook was uncertain and they feared that they might lose their jobs in the near future.

Question 44

Explain how the size of the population and its age distribution is a factor that influences market demand.

Answer 44

Population size will affect the total quantity of goods demanded, while age distribution
will affect the type of goods demanded. For instance, with Australia’s ageing population,
one would expect higher demand for retirement villages, aged care services and other
goods and services required by older people.

Question 45

Explain what is network externality and how it influences demand.

Answer 45

Sometimes the behaviour of other consumers can influence an individual’s decision to demand a good or service or not. If one person’s demand is affected by the number of other people who have purchased the good, there is a network externality.

1. A positive network externality – known as the bandwagon effect – occurs when people demand a good because almost everyone else has one, such as children’s toys and
   fashionable clothing.
2. A negative network externality – known as the snob effect – occurs where demand for a good is higher the fewer the people who own it, such as rare works of art and limited- edition sports cars.

Question 46

Describe what ceteris paribus is.

Answer 46

Ceteris paribus is an assumption used in
economics to isolate the relationship between two
economic variables. It is a Latin phrase that means
“other things being equal”, or assuming that
nothing else changes.
- we assume that all the other factors that could affect demand remain constant
- e.g. the price of a good falls, then ceteris paribus sales will increase.

Question 47

What assumption do we need to have while constructing a demand schedule?

Answer 47

All other factors apart from price that could influence demand demain constant.

Question 48

Why do people buy more of the product when its price is reduced?

Answer 48

1. they can afford to buy more of the product
2. product is cheaper compared with all other goods and services

Question 49

Contraction of demand is when

Answer 49

an increase in
the price of a good or
service causes a decrease
in quantity demanded. It
is shown by an upward
movement along the
demand curve.

Question 50

Expansion of demand is when

Answer 50

Expansion of demand
is when a decrease in
the price of a good or
service causes an increase
in quantity demanded. It
is shown by a downward
movement along the
demand curve.

Question 51

Assumptions that we can infer from an increase in demand.

Answer 51

1. Consumers are willing and able to purchase more of the product at each possible price point than before.
2. Consumers now demand more of the product at the same price
3. consumers are willing to pay a higher price for the same given quantity

Question 52

Assumptions that we can infer from a decrease in demand.

Answer 52

1. consumers are willing and able to purchase less of the product at each possible price than before.
2. consumers now demand less of the product at the same price (the price becomes less attractive)
3. they are willing and able to buy a given quantity at a lower price than before

Question 53

The meaning of price elasticity of demand

Answer 53

• the responsiveness or sensitivity of the quantity
  demanded of a particular product to changes in its price
• It is calculated as the percentage change in quantity demanded divided by the percentage change in price.

Question 54

How can firms utilise the price elasticity of demand to maximize profit?

Answer 54

• If demand was relatively elastic, the firm would know that lowering the price would greatly expand the volume of sales, thus increasing total revenue.
• if demand was relatively inelastic,
  the firm could increase the price, which would also lead to an increase in total revenue, since the reduction in sales would be less than the price increase.

Question 55

Why does the government need to understand the price elasticity of demand?

Answer 55

• it needs to be able to predict the effects of changes in the level of any indirect taxes, such as sales taxes, excise duties and special levies that it imposes on goods such as alcohol,
  tobacco products and petrol.
• needs to be able to gauge the responsiveness of demand in order to accurately estimate the amount of revenue they will raise
• e.g. governments tend to charge indirect taxes, such as excise
  duties, on those goods that have a relatively inelastic demand, including alcohol, petrol and tobacco products.
  (will generate less revenue if done on price elastic products

Question 56

How to determine price elasticity of demand?

Answer 56

1. calculate total outlay of products at each price point
2. compare its growth/ drop to the change of price

Question 57

Why can’t we use the slope of the demand curve to figure out the price elasticity of demand?

Answer 57

even with a linear (or straight)
demand curve, which has a constant slope, the price elasticity of demand will vary as one
moves down the curve.
e.g In the upper part of the curve (where prices are high) demand will
be relatively elastic (quantity demanded is highly responsive to price changes), whereas
at low price levels, demand will be relatively inelastic.

Question 58

In what circumstance would the price elasticity be closest to being perfectly elastic?

Answer 58

*from the POV of the individual seller
If the individual seller were in a perfectly competitive market – a market situation with many buyers and sellers, all selling a product that was basically the same – then the demand
curve faced by the individual seller would be almost perfectly elastic.
No individual seller would be able to charge a higher price, since he or she would lose all customers to the others selling identical products.
- they also won’t sell it at a lower price as that means less profit

Question 59

What happens when demand is perfectly elastic?

Answer 59

When demand is perfectly elastic, consumers will demand an infinite (unlimited) quantity at a certain price, but nothing at all at a price above this.

Question 60

What happens when demand is perfectly inelastic?

Answer 60

consumers are willing to pay any price in order
to obtain a given quantity of a good or service.

Question 61

An example when demand can be perfectly inelastic. How can this be a problem and be prevented?

Answer 61

For example, persons with a life-threatening disease that can only be treated with a particular drug would be willing to pay almost any price to obtain it.
It is often argued that governments should regulate such markets, in order to prevent the exploitation of vulnerable consumers.

Question 62

What are some factors that can impact the elasticity of demand?

Answer 62

1. Whether a good is habit-forming
2. Availability of substitutes
3. The expenditure on the product as a proportion of income
4. The length of time subsequent to a price change
5. Whether the good is a luxury or a necessity

Question 63

Why is whether a good is a necessity or luxury a factor that impacts the elasticity of demand?

Answer 63

• Goods and services regarded as necessities for daily life, such as bread or milk, have a relatively inelastic demand
• price elasticity of demand would be expected to be higher for products that may be regarded as luxuries, such as dining out in expensive restaurants

Question 64

Why is the proportion of price of product a factor that impacts the elasticity of demand?

Answer 64

• Goods and services that take up a very small proportion of a person’s income, such as disposable lighters, cheap pens or chewing gum, would have a lower price elasticity of
  demand
• the demand for more expensive items would tend to be more elastic.
• E.g. most people would not refuse to buy chewing gum because its price increased
  by 10 per cent, but they may well decide not to buy a new car that has had a 10 per cent
  price rise.

Question 65

Why is the availability of close substitutes a factor that impacts the elasticity of demand?

Answer 65

• Goods and services with close substitutes, such as different brands of breakfast cereal, tend to have highly elastic demand. - If the price of one brand of cereal increases, then demand
  is likely to contract more than proportionately, since people would simply switch to another brand that they perceive to be equally good.
• Goods and services with few or no
  close substitutes, such as the local water supply, would have an inelastic demand – even if
  price increases, people cannot switch to another product, so demand will not fall greatly.

Question 66

Why is the length of time subsequent to price change a factor that influences the elasticity of demand?

Answer 66

• When the price of a certain product increases, the quantity demanded may not initially
  respond greatly, as consumers take time to become aware and adjust to the price change.
• The ways that consumers respond to a price change may also depend on whether the good
  in question is durable or not. After an initial price change, durable goods tend to have
  a more elastic demand than non-durable goods. For example, a rise in price of new cars
  would initially tend to encourage people to repair rather than replace their existing cars,
  so demand would be highly elastic. With time, however, the elasticity would decline, as
  old cars have to be replaced at some point.

Question 67

Why is whether a good is habit forming a factor that impacts the elasticity of demand?

Answer 67

Goods that tend to be habit-forming, like cigarettes and alcoholic beverages, tend to have
a relatively inelastic demand. People who regularly drink alcohol and smoke cigarettes
tend to continue with the same habits, even following price increases.