Econ week 5: demand

Suppose Gail is willing to pay $89 for a new pair of shoes and Karen is willing to pay $60. What is the gain in total consumer surplus (for the two of them combined) if the price of the shoes falls from $70 to $50?

$30 At a price of $70, only Gail will buy the shoes and the consumer surplus is $19 ($89-$70). At a price of $50, both will buy the shoes and total consumer surplus is $39 + $10 = $49. Therefore, the gain in consumer surplus is $49-$19 or $30.

Frank is willing to pay $1,000 for the first class he takes this semester, $850 for the second, $700 for the third and $500 for the fourth. The price of a class is $750. What is his consumer surplus?

$350 Since he is only willing to take two classes, his consumer surplus is ($1000-$750 = $250) + ($850-$750 = $100) or $350.

Allocating a Fixed Income Between Two Goods Assume: - Two goods: Chocolate and vanilla ice cream - Price of chocolate ice cream equals $2/pint - Price of vanilla ice cream equals $1/pint - Sarah's budget = $400/yr - Currently Sarah is consuming 200 pints of vanilla and 100 pints of chocolate ice cream (a) Is Sarah exhausting her budget? (b) Is Sarah maximizing her total utility? (c) What happens if she takes $1 away from chocolate and uses it to buy into vanilla ice cream? (d) So then, was Sarah maximizing her total utility earlier?

(a) Yes, $1x200 + $2x100 = $400 (b) - What is the Marginal utility per dollar for Vanilla? (12utils/pint)/($1/pint) = 12 utils/$ - What is the Marginal utility per dollar for Chocolate? (16utils/pint)/($2/pint) = 8 utils/$ (c) Her total utility will increase by 4 utils. So, buy more vanilla to raise total utility. (d) NO, so Sarah's next step is to increases vanilla spending by $100, and MUv/Pv = 8 utils/$ and decreases chocolate spending by $100, and MUc/Pc = 24/2 = 12 utils/$ MUV/PV = 8 utils/$. Sarah is consuming too much vanilla and too little chocolate Sarah's equilibrium: less vanilla and more chocolate MUv/Pv = 10/1 MUc/Pc = 20/2

income differences matter

+ Income is one of the determinants of demand + "Free goods" have more takers in lower income neighborhoods than in higher income areas - The wait to get the free good is its price - Waiting times in lower income areas will be longer (Lower opportunity cost of the residents' time) - Stores in higher income areas have lower waiting times to pay for purchases (The higher value of time causes these people to be willing to pay for more store staff)

Ann was initially placed on a Tuesday group and Ben on a Thursday group for Micro. Ann wishes to move to a Thursday group and is willing to pay up to $20 to change her schedule. Ben has no demand for moving to a Thursday group but is willing to make a change if he is compensated appropriately. The minimum Ben must be paid to agree to a swap equals $15. Let P be the price at which they trade (it was chosen by the Prof.). Which of the following statements is/are true? CS=Consumer's surplus PS=Producer's surplus ES=Economic surplus = CS + PS

- Ann and Ben will trade as long as 15≤ 𝑃 ≤20 - In this scenario Ann is a buyer and Ben is a seller. They are buying and selling a swapping service. - If they swap at a price of $17, Ann's CS will be higher by $3 and Ben's PS will be higher by $2. - If they swap at a price of $17, ES will rise by $5.

what determines buyer's reservation?

- Biological needs - Cultural influences - Peer influences - Individual differences - Perceived quality - Expected benefits - Individual tastes and preferences differ - Tastes may change over time

income effect

- Changes in price affect the buyers' purchasing power and hence the amount of each good they buy - not just the one whose price changed. Suppose price of vanilla ice cream increases from $1 per pint to $2 per pint - If Sarah spends all her income on vanilla, she can now buy a maximum of 200 pints of vanilla (instead of 400 pints) - At the original prices, with $400, she could buy 100 pints of vanilla and 150 pints of chocolate. At new price for vanilla, if she still buys 100 pints of vanilla she can only buy 100 pints of chocolate

No Money Left On the Table Principle

- If, current spending has marginal utility of a dollar spent on one good higher than the marginal utility of a dollar spent on the other good, then - take a dollar away from the good with low marginal utility and spend it on the good with high marginal utility - Marginal utilities per dollar begin to equalize

needs vs. wants

- Some goods are required for subsistence (these are needs) - Beyond subsistence, behavior is driven by wants - Once we have achieved basic subsistence levels of consumption - the amount of food, clothing and shelter required to maintain basic life, we can abandon the reference to needs and talk about wants. - We have choices over our wants but not over our subsistence needs. - The Law of Demand applies to wants

the law of demand

- The Law of Demand states that in general, higher (lower) the price, the lower (higher) the quantity demanded of a good. - The Law of Demand is a direct fallout of the Cost-Benefit Principle. - Recall: The marginal benefit of a good to the buyer equals the buyer's reservation price. As the cost (expense of purchasing the good) of the good rises for the buyer and exceeds the reservation price, less of the good will be purchased - Here cost is the sum of all sacrifices - monetary and non-monetary (time, reputation, etc.); explicit and implicit (example - cost of waiting in line for free ice cream).

income and substitution effects

- The Rational Spending Rule explains more clearly why the change in the price of one good may affect the consumption of other goods. - The rule requires the ratio of MU to P to be the same for all goods. - If the price of one good falls (rises), its MU/P ratio rises (falls) compared to other goods. To get back to a utility maximizing equilibrium, the buyer needs to consume more (less) of this good and less (more) of the other goods.

consumer surplus

- When a product is sold in whole units, the demand curve is a stair-step function - Total consumer surplus is the area under the demand curve and above market price - the area below/to the left of the demand curve and above the price -downward sloping demand curve: consumer surplus will be below the demand curve and above the price -vertical demand curve: above the price and to the left of the demand curve -area of triangle: (b x h)/2 -if was a line, you would be figuring out area of a rectangle -triangle in image is consumer surplus and the square beneath it is what is paid

substitution effect

- When the price of a good goes up, substitutes for that good are relatively more attractive - At the higher price less is demanded because some buyers switch to the substitute good - If the price of vanilla ice cream goes up, some buyers will buy less vanilla and more chocolate

Spending the marginal dollar

-How can individuals allocate an additional dollar between goods in a way to maximize utility? -what combo of goods to buy?

Diminishing marginal utility graph

-as long as marginal utility > 0, total utility increases (as long as getting satisfaction, total utility will increase) -when marginal utility becomes negative, total utility maxes out and then decreases -total utility increase so long as marginal is positive, one have negative utility, totally utility will decrease -utility will increase but it will flatten out and increase less

choosing among products

-goal of consumption: get as much utility as possible from your available income (going to consume as much as you can that's within your busy) -going to spend full budget -to do this, rational behavior requires buyers to compare the utility of each good with its price (marginal utility per dollar) -> MU/P -utility maximizing rule -the consumer's income should be allocated so that the last dollar spent on each product purchased yields the same amount of marginal utility

calculate marginal utility

-going to get a table with the quantity consumed, total utility, and marginal utility -marginal utility= change in total utility / change in consumption -but, when consumption increases by 1, you can just calculate the change in total utility from one point to the consecutive point -total utility increase until total utility maxes out and the marginal unit is negative, then total utility will decrease

exception to the law of diminishing marginal utility

-if learning something, the first hour isn't fun because you don't know what's going on, the second hour you get more familiar with the topic, third hour you are a master of the topic so marginal utility increases

calculate marginal utility with price (cost benefit analysis)

-now table with quantity consumed, total utility, and marginal utility and marginal cost -price is constant for the marginal cost column -going to consume until reach the unit where marginal benefit is equal to marginal cost -if not equal, benefit needs to be greater than cost -you want to maximize the consumption, so as many units as possible, so long as marginal unit is greater than cost if the marginal unit does not equal marginal cost

marginal utility

-the change in total utility obtained by consuming one additional (marginal) unit of a product - the additional utility gained from consuming one extra unit of the good MU= change in utility/change in consumption -if given oreos, first oreo gives you 10 units of satisfaction, second oreo gives you 9 units of satisfaction, marginal utility is 10 units for the first oreo, the marginal utility is 9 additional units of satisfaction for the second oreo you ate

law of diminishing marginal utility

-the marginal utility of a good declines as more of it is consumed over a given time period -The tendency for the additional utility gained from consuming an additional unit of a good to diminish as consumption increases beyond some point -the satisfaction received from the next slice of pizza, say, is less than the satisfaction received from the previous slice. eventually, additional quantities of a good yield smaller increments of satisfaction -negative utility could be after eating a lot of pizza slices because now you feel sick -the more you consume of something, the less satisfaction you will get out of it -for studying, the first hour you study is the most useful (refresh mind w key ideas), second hour may not be as useful, study for 12 hours negative utility because you feel burnt out

utility

-the satisfaction obtained from using a good or service -the satisfaction people derive from consumption (it is a measure of well-being, happiness) -if you ate an oreo and rated it an 8/10 for satisfaction, that is the utility that you gained from eating that oreo

Consumer Choice

-the theory behind the demand curve -how do individuals maximize the utility gained from consumption?

total utility

-the total amount of satisfaction gained from the consumption of multiple units of a good (series of products) -if given oreos, first oreo gives you 10 units of satisfaction, second oreo gives you 9 units of satisfaction, total utility is 19 units.

steps to utility maximizing

1. determine marginal utility for each good (at times this will be done for you) -if given total utility, calculate marginal utility 2. determine marginal utility per dollar for each good -MU/P 3. determine the quantities of each good that should be consumed given the consumer's income. this is where the marginal utility per dollar of both goods is equal and at their highest but within the consumer's budget -two or three combos you can test to figure out which combo will use all of the income and maximize all your utility

If the price of a good falls and, because of the income effect, consumption of the good also decreases, we know that the good is ______.

An inferior good

Consider demand and supply curves with prices measured on the horizontal axis and quantity measured on the vertical axis. Which of the following statements about elasticity is true? A. A straight line demand curve will always have variable elasticity at different points on the graph. B. All straight line supply curves passing through the origin are unit elastic because the slope of the ray and the slope of the graph are equal to each other. C. A vertical demand curve is unit elastic. D. A horizontal supply curve is perfectly inelastic.

B. All straight line supply curves passing through the origin are unit elastic because the slope of the ray and the slope of the graph are equal to each other. D. A horizontal supply curve is perfectly inelastic.

Keira's total utility after eating 99 Reese's Peanut Butter Cups was greater than her total utility after eating 100 Reese's Peanut Butter Cups. Which of the following statements is/are true? Assume Total Utilities are positive above. TU = Total Utility AU = Average Utility MU = Marginal Utility A. Keira's TU from the 100 Reese's Peanut Butter Cup is negative. B. Keira's MU from the 100th Reese's Peanut Butter Cup is negative. C. Keira's AU from the 100th Reese's Peanut Butter Cup is negative. D. Keira's AU from the 100 Reese's Peanut Butter Cup is negative.

B. Keira's MU from the 100th Reese's Peanut Butter Cup is negative.

When Jane's income doubles, she increases her consumption. For all normal goods that Jane consumes, what is true?

Her marginal utility per dollar will decrease As she increases her consumption of all normal goods, the marginal utility for each good will fall, causing the marginal utility per dollar to also fall.

Assume you spend all of your income on two goods: peanuts and chips. Also assume that you are consuming the combination of peanuts and chips that maximize your utility. Which of the following statements is true?

If the price of peanuts is equal to the price of chips, then the marginal utilities must also be equal. Mathematically, if the ratio of the prices must equal the ratio of the marginal utilities at the optimal point, then if the prices are equal (and the ratio is equal to 1), the marginal utility ratios must also be equal.

What if the MU/P of two goods is 6=8 should you consume more or less of the first good? should you consume more or less of the first good?

Less of the first good, since MU falls as more is consumed, consuming less would result in a higher MU making 6 rise to 8 More of the second good, since MU falls as more is consumed, consuming more would result in a lower MU making 8 go down to 6

Amy tends to binge watch movies on Netflix but not so much on Amazon Prime? Why might this be?

MC of Netflix show =0; MC of Amazon Prime show >0, unless it is free to watch

A consumer is spending all of her income and receiving 100 utils from the last unit of good A and 80 utils from the last unit of good B. If the price of good A is $2 and the price of good B is $1, to maximize total utility, the consumer should buy

MU/P of good A: 100/2 = 50 MU/P of good B: 80/1= 80 Consumer not maximizing utility, so more of good B, which will decrease the MU so that 80 will go down to 50 (want to make 50 equal 80 by consuming fewer unit of good A so that marginal utility rises)

utility maximizing rule

MUx/Px = MUy/Py -the consumer's money should be spent so that the marginal utility per dollar of each goods equal each other -going to consume until this is true because you want to allocate your money so the last dollar spent yields the same amount of utility from each good -marginal utility per dollar of good x is equal to the marginal utility per dollar of good y

Suppose you are a government analyst and you think beans (as in legumes) are particularly nourishing. You decide to subsidize beans in order to encourage people to eat more of them. (When the government subsidizes an item, consumers pay a lower price.) After you successfully lower bean prices, you notice that consumption of beans has fallen. What went wrong?

The income effect caused people's real income to rise so they purchased less of what they considered to be inferior goods.

individual and market demand curves

The market demand is the horizontal sum of individual demand curves - At each possible price, add up the number of units demanded by individuals to get the market demand In the special case where all buyers demand exactly the same quantity at each price - Multiply the individual quantity demanded by the number of buyers to get the market demand

Which of the following is clearly an example of the income effect?

When the price of tuition increases, Amy eats fewer restaurant meals. When the price of tuition increases, that represents a decrease in real income, leading to less consumption of all normal goods.

The extra safety your neighbor might experience because criminals tend to stay away from neighborhoods that have a lot of burglar alarms is an example of ______.

an external benefit

The crime that is more likely to occur to your neighbor once a criminal sees a "Protected by alarm" sticker on your window is an example of ______.

an external cost

It is impossible for total utility to be _________ when marginal utility is ___________

decreasing; positive.

Draw a straight line downward sloping demand curve and name it D1. Draw a new demand curve D2 such that it is a parallel shift to the right. Pick a price P1 and draw a horizontal line through the two demand curves. Name the intersection of D1 with the P1 line A. Name the intersection of D2 with the P1line B. Which of the following statements is/are true? e1(A) represents the elasticity of the D1 graph at point A. e2(B) represents the elasticity of the D2 graph at point B.

e1(A) > e2(B)

Sven likes to water ski, but can only water ski during the one week that he is on vacation. Therefore, he plans to ski every day, for eight hours a day. The first day, Sven skied for eight hours and enjoyed every hour. The second day, Sven slept in and then skied for seven hours, which was fun but not as much fun as the first day. The third day, Sven skied for six hours, but was starting to get a bit bored by the end. The fourth day, Sven skied for four hours and then took a nap. On the fifth day of Sven's vacation, Sven went blueberry picking all day. Sven's total utility _______ with each hour that he skied.

increased

Which of the following factors would influence a buyer's reservation price for a good or service?

social influence

utility theory

utility, total utility, marginal utility, law of diminishing marginal utility - Individual goal is to maximize utility (Allocate resources accordingly) - Apply Cost-Benefit Principle (Consume an additional unit as long as the marginal utility (benefit) is greater than the marginal cost)

Higher education is a ______ and assigned textbooks are ______.

wants; wants

You are eating at an All-You-Can-Eat buffet. What is your marginal utility of the last morsel of food you swallow (assume there are no other costs except what you paid for the buffet).

zero