Unit 1 - Competitive markets Flashcards
Demand
The quantity of a product that consumers are able and willing to purchase at various prices over a period of time
Definition of demand assumes that price is the only factor (ceteris paribus)
Market
where or when buyers and sellers meet to trade or exchange products.
Notional Demand
The desire for a product
Effective demand
The willingness and ability to buy a product
Ceteris Paribus
Assuming other variables remain unchanged
What is the relationship between demand and quantity?
The relationship between demand and quantity is inverse.
Consumer surplus
The extra amount that a consumer is willing to pay for a product above the price that is actually paid!
Real disposable income
Income after taxes on income have been deducted, state benefits have been added AND the result is adjusted to account for changes in prices!
Why is consumer income a determinant of demand?
If consumer income increases then so does demand as they have the ability to pay for the good and if consumer income decreases then so does demand as they lose that ability due to a lack of funds.
Normal goods
Goods for which an increase in income leads to an increase in demand, they also have a positive income elasticity of demand.
Inferior goods
goods for which an increase in income leads to a fall in demand
Substitutes
competing goods
Complements
goods for which there is joint demand
If the price of one substitute increases, what would happen to the demand of the other substitute?
It would increase as the first substitutes prices are no longer competitive.
What could cause a shift to the right in the demand curve? (4)
An increase in consumer income
A rise in price of substitutes
A fall in price of complements
A positive change in tastes and fashion
What could cause a shift to the left in the demand curve? (4)
A fall in consumer income
A fall in the price of substitutes
A rise in the price of complements
A negative change in tastes and fashion
Total revenue/expenditure =
Price x quantity
Supply
The quantity of a product that producers are willing and able to provide at different market prices over a period of time
What do economists assume the motives of a producer are governed by?
Economists assume that the motives of a producer are governed by profit.
What is the relationship between price and quantity supplied?
Suppliers always want to supply at a high price to maximise revenue!
There is a normal positive relationship between the two, if price rises, supply rises
Producer surplus
The difference between the price a producer is willing to accept and what is actually paid.
What are the determinants of supply? (4)
- Cost of production
- Size and nature of the industry (In a competitive industry, minor increases in costs can have a big effect on supply. In a inelastic market, the cost can be passed onto the consumer without it having a great effect)
- Government policy (VAT, regulations, subsidies)
- Factors that suppliers cannot control (eg weather)
What would cause a shift to the right in the supply curve?
- A fall in raw material costs
- An improvement in labour efficiency
- A reduction in the rate of indirect taxation
- A positive technological advance
- Any other positive factor
What would cause a shift to the left in the supply curve?
- An increase in raw material costs
- An increase in labour costs
- An increase in the rate of indirect taxation
- Any other negative factor
In a demand and supply diagram, what is the equilibrium price?
The price where demand and supply are equal
What is the disequilibrium price?
Any position in the market where demand and supply aren’t equal
What is a surplus?
an excess of supply over demand
What will happen when supply is greater than demand?
The price will fall back to the equilibrium price.
What is a shortage?
an excess of demand over supply
What will happen when demand is greater than supply?
The price will rise back to the equilibrium price.
What is elasticity?
The extent to which buyers and sellers respond to a change in market conditions
A measure of how much demand and supply changes when the factors affecting them are involved.
Price elasticity of demand
The responsiveness of a change in the quantity demanded to a change in the price of a product
PED = % change in QD/% change in price
Price elastic
Where the percentage change in quantity demanded is highly sensitive to a change in price
Price inelastic
Where the percentage change in the quantity demanded is insensitive to a change in price
What are the determinants of PED? (3)
- The availability of substitutes
- The relative expense of the product with respect to income (if a product is more expensive it will be more price elastic eg car)
- Time
Income elasticity of demand
The responsiveness of demand to a change in income.
YED = % change in QD / % change in Income
What is the YED of a normal good?
Positive. As income increases, so does demand.
What is the YED of an inferior good?
Negative. As income increases, demand decreases.
Income elastic
goods for which a change in income produces a less than proportionate change in demand
Income inelastic
goods for which a change in income produces a greater than proportionate change in demand
Cross elasticity of demand (XED)
The responsiveness of demand for one product in relation to a change in the price of another product
XED = % change in QD of product A /% change in price of product B
What does a positive XED represent?
A substitute has a +ve XED
What does a negative XED represent?
A complement has a -ve XED
Price elasticity of supply
The responsiveness of quantity supplied to a change in the price of the product
PES = % change in QS / % change in Price
If PES is elastic then…
A small change in price will have a big effect on the quantity supplied.
Determinants of PES (3)
- Availability of stocks
- Availability of factors of production
- Time period
Problems with elasticity
- Data are only estimates and inaccuracies may occur
- Over time there might be other things affecting the estimate that haven’t been thought of. Prices may fall due to this and lead to an incorrect estimate.
Business relevance of PED
- Used widely by firms to price their products (e.g the transport industry has peak and off peak times)
Elasticity estimates allow firms to see how best to maximise their revenue.
Business relevance of YED
Useful for firms to see long term and short term business cycle.
In most economies, real disposable income rises over time which is good news for products with a highly positive YED (normal goods) as demand would increase for them. However this is bad news for products with a negative YED (inferior goods). In the short term, the highly positive YED product’s demand will fall as people revert to inferior goods.
Business relevance of XED
Important to firms operating in a very competitive market. Increasing prices is risky unless substitutes all follow.
Business relevance of PES
Remember that over time products become far more price elastic so the producer can re allocate resources to respond to the increased price.
