Nature of demand Flashcards
Define profit.
total revenue from selling product less total cost of producing it
What do rational consumers aim to maximise?
their utility
Define demand.
quantity of good or service that consumers are willing and able to buy at any given price in a given period
What are the four key influences on demand?
- price of good or service
- price of other goods or services
- income
- preferences
Define marginal utility.
additional utility gained from consuming an extra unit of a good or service
Explain diminishing marginal utility.
The marginal utility from consuming a good usually declines as you consumer more of it.
What is the law of demand?
There is an inverse relationship between quantity demanded and proce of a good or service, ceteris paribus.
What does a demand curve show?
how much of a good or service will be demanded by consumers at any given price
What two effects make the demand curve downward sloping?
- real income effect (at higher price, consumer has less income left)
- substitution effect (at higher price, other goods relatively more attractive)
Is an increase in demand shown by move in demand curve or move along demand curve?
move in demand curve
Is an extension of demand shown by move in demand curve or move along demand curve?
move along demand curve
Why do demand curves sometimes slope upwards?
Snob effect or Veblen effect - where people value others knowing they are rich enough to affor a good with a high price, eg Rolex
Define a normal good.
a good where quantity demanded increases with consumer incomes
Define an inferior good
a good where quantity demanded falls with consumer incomes
Define a Giffen good.
a good where the real income effect is stronger than the substitution effect, so a price fall leads to lower demand
Define substitute goods.
Where demand for one is likely to rise if price of other rises.
Define complements.
Where demand for one is likely to fall if price of other rises.
Define elasticity.
a measure of sensitivity of one variable to changes in another variable
What does price elasticity of demand measure?
sensitivity of quantity demanded to change in price of good or service
What is the formula for price elasticity of demand ?
% change in quantity demanded
/ % change in price
Define elastic.
when 1 < abs(elasticity) < infinity
Define inelastic.
when 0 < abs(elasticity) < 1
Define unitary elastic.
when abs(elasticity) = 1
Is price elasticity of demand normally positive or negative?
negative
What values can PED take when demand is inelastic?
-1 < PED < 0
What values can PED take when demand is elastic?
PED < -1
If PED is elastic and price increases, what happens to total revenue?
It falls.
If PED is inelastic and price increases, what happens to total revenue?
It rises.
If PED is inelastic and price falls, what happens to total revenue?
It falls.
If PED is elastic and price falls, what happens to total revenue?
It rises.
If demand is perfectly inelastic, what happens to demand if the price rises?
no change
What value does PED have if demand is perfectly inelastic?
0
What value does PED have if demand is perfectly elastic?
infinity
What are the four key influences on PED?
- availability of substitutes
- whether item is perceived as necessity or luxury
- relative share of the good or service in overall expenditure
- time period
What does income elasticity of demand (YED) measure?
sensitivity of quantity demanded to change in consumer income
If a good is a necessity, what possible values can YED have?
0 < YED < 1
If a good is a luxury, what possible values can YED have?
YED > 1
What is the formula for income elasticity of demand?
YED =
% change in quantity demanded
/ % change in consumer income
If YED < 0, is the good normal or inferior?
inferior
If YED > 0, is the good normal or inferior?
normal
What does cross elasticity of demand (XED) measure?
sensitity of quantity demanded to a change in the price of another good or service
What is the formula for cross elasticity of demand?
XED =
% change in quantity demanded of good X
/ % change in price of good Y
If XED > 0, are the good substitutes or complements?
substitutes
If XED < 0, are the good substitutes or complements?
complements
