Managerial economics and organizational architecture 5e ch004

The Demand Curve Substitute variable values except for P into the equation and simplify: P = 60 - 0.15Q This is the equation for the demand curve.. Law of demand – as the price of a good

Demand Function

A mathematical representation of the

relationship between the quantity demanded and all factors influencing demand:

Q = f(X 1 , X 2 ,… X n )

where Q is quantity demanded and the X is

are the factors influencing demand 4-2

Demand for PTC Tickets

Q = 117 - 6.6P + 1.66P s - 3.3P r + 0.00661I

where P is PTC ticket price, P s is price of

symphony tickets, P r is price of nearby

restaurant meals, and I is average per capita

income

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The Demand Curve

Substitute variable values (except for P) into

the equation and simplify:

P = 60 - 0.15Q

This is the equation for the demand curve.

Law of demand – as the price of a good

rises, the quantity demanded falls

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Graphing the Demand Curve

Quantity of PTC tickets Quantity of PTC tickets

60

61 60

Price Elasticity of Demand

• Measures the responsiveness of quantity

demanded to changes in price

• Often referred to as elasticity of demand

• Helps firms determine the effect of price

changes on total revenue

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Calculating Elasticity Arc Price Elasticity

) (

2

) (

2

) (

2 1

2 1

2 1

2 1

P P

P

Q Q

Q

P P

P

Q Q

Q



4-10

Price Changes and Total Revenue

• If demand is elastic (>1), price and total

revenue move in opposite directions

• If P↑ then TR↓

• If P↓ then TR↑

• If demand is inelastic (<1), price and total

revenue move together

• If P↑ then TR↑

• If P↓ then TR↓

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Range of Price Elasticities

Perfectly nelastic Perfectly lastic

Determinants of Price Elasticity

• Availability of substitutes

– few substitutes for salt

– many substitutes for milk at the supermarket

• Size of good in consumer budget

– paper clips versus a car

• Time period for consumer adjustment

– over time consumers find alternative goods

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Other Demand Influences

• Complements versus substitutes

– Cross price elasticity of demand

2 1

2 1

y y

y

x x

x

xy

P P

P

Q Q

Cross Price Elasticity

• For substitutes, η XY > 0

• If the price of Pepsi rises, the

demand for Coke rises

• For complements, η XY < 0

• If the price of peanut butter rises,

the demand for jelly falls

4-18

Income

• Income elasticity of demand

• Normal goods – demand rises as income

increases (>0)

• Inferior goods – demand falls as income

increases (<0)

2 1

2 1

I I

I

Q Q

Q

x x

Network Effects

• Demand for a good increases as the

number of users of the good increases

– fax machines

– High Definition DVD versus Blu-Ray

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T Q

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True demand S=120-2P+8A+0.04I

Estimated demand S=140+48A

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