Price Determination in a Competitive Market Flashcards
What is the law of demand?
The law of demand is the principle that as the price of a good rises, quantity demanded falls.
What are the 4 main determinants of demand?
- Individual preferences
- Prices of substitute goods
- Prices of complementary goods
- Disposable incomes and wealths
What is the formula for price elasticity of demand (PED)?
% change in quantity demanded of good A //// ÷ //// % change in price of good A
When calculating price elasticity of demand, does it matter if a number is negative or not?
No. The only thing that matters is the size of the number itself, not whether it is positive or negative.
If a good is elastic, PED will be greater than 1 (>1). For example, 2.5 or -2.5.
If a good is inelastic, PED will be lesser than 1 (<1). For example, 0.4 or -0.4.
What is the PED for inelastic demand?
Anything lesser than 1 (PED = <1).
So between >-1 and
What is the PED for elastic demand?
Anything greater than 1 (PED = >1)
So >1 or
What is the PED for perfectly inelastic demand?
PED = 0
What is the PED for perfectly elastic demand?
PED = ∞
So ∞ or -∞.
What is the PED for unitary elastic demand?
PED = 1
So 1 or -1.
What are the 4 main influences on prince elasticity of demand?
- Degree of necessity
- Habit-forming goods (e.g. tabacco)
- Substitutes
- Time (In the short run it may be hard to find alternatives but over a longer period alternatives are found.)
What is the formula for income elasticity of demand (YED)?
% change in quantity demanded of good A //// ÷ //// % change in income
What are normal goods?
Goods where an increase in income causes an increase in demand for them.
What are inferior goods?
Goods where an increase in income leads to a fall in demand for them.
What are luxury goods?
Goods where an increase in income causes a bigger percentage (%) increase in demand for them.
What is the formula for cross price elasticity of demand (XED)?
% change in quantity demanded of good B //// ÷ //// % change in price of good A
What are substitutes (substitute goods)?
Substitute goods are products that rival each other and have similar, or the same purpose.
What are compliments (complimentary goods)?
Complimentary goods are products that are used together.
What is joint demand?
Joint demand is if a product has higher demand, the demand for it’s complement /s will increase because they are consumed together.
What are the 4 main determinants of supply?
- Costs of of production
- Changes in technology
- Prices of other goods that can be made by the supplier (joint supply and competitive supply)
- Indirect taxes and subsidies
What is joint supply?
When production of one good automatically leads to provision (supply) of another.
e.g. beef and leather
What is competitive supply?
When the supplier can only provide (supply) more of one good by producing less of another.
e.g. a farmer using land to grow carrots reduces the land available to grow potatoes.
What is the formula for price elasticity of supply (PES)?
% change in quantity supplied of good A //// ÷ //// % change in price of good A
What are the main factors that influence price elasticity of supply (PES)?
- Time (may take time to employ new resources)
- Spare capacity
- Ease of switching products (difficult in some industries, e.g. farming where a crop may have already been planted)
What is composite demand?
Composite demand is when a good has more than one use so increased want (demand) for one product leads to a fall in supply of another.
e.g. oil for petrol or plastics and milk for butter or yoghurt.
What is derived demand?
Derived demand is when an increase in want (demand) for a product leads to increase in want (demand) for it’s components.
e.g. higher demand for pens, thus higher demand for graphite.
Define microeconomic equilibrium.
Microeconomic equilibrium is when the quantity of demand equals the quantity of supply with no tendency for change.
