L ECTURE T WO : D EMAND Managerial Economics Lecturer: Jack Wu.
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Transcript of L ECTURE T WO : D EMAND Managerial Economics Lecturer: Jack Wu.
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LECTURE TWO: DEMANDManagerial Economics
Lecturer: Jack Wu
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RISING GASOLINE PRICES
Between September 2004 and September 2005, the monthly average retail price of gasoline jumped from $1.85 per gallon to $3.08 per gallon. Sales of full-size SUVs dropped 16.8% over the same time period (with a particularly sharp 42.5% drop for full-size GM SUVs).
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GM VICE CHAIRMAN: BOB LUTZ May 31, 2004: “It sounds cavalier, but in any
household budget, gasoline isn't a factor”, Business Week.
July 1, 2005: “The demise of the full-size truck is a figment of the imagination of the popular press. Everybody assumes it is true but the market is still buying”, Reuters.
“The effect will decrease over time as people adjust to the thought of $3 a gallon, just as they did when it was $2 a gallon and just as they did when it was $1 a gallon”, New York Times.
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MANAGERIAL ECONOMICS QUESTIONS
How important are gasoline prices to the sales of SUVs and other types of automobiles?
How should the auto manufacturers respond to the increasing price of gasoline?
Are manufacturer incentives (i.e. price reductions) an effective response?
What are the combined effects of incentives and increasing gas prices?
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MANAGERIAL ECONOMICS TOOL: DEMAND
We apply demand to show how the rising price of gasoline has caused decreases in large SUV sales, and how manufacturer incentives can offset these reductions.
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INDIVIDUAL DEMAND CURVE
Definition: graph of quantity that buyer will purchase at every possible price Construction -- “Other things equal, how many would you buy at a price of ….?’’ vertical axis -- price horizontal axis -- quantity
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INDIVIDUAL DEMAND SCHEDULE
Price Quantity ($ per movie) (movies per month) 10.00 0 7.50 1 5.00 2 2.50 4 0.00 7
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0
2.50
5
7.50
10
1 4 72
individual demand curve
Quantity (Movies a month)
Pri
ce (
$ p
er
movie
)
INDIVIDUAL DEMAND CURVE
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INDIVIDUAL DEMAND SCHEDULE II
Price Quantity ($ per movie) (movies per month) 20.00 0 19.00 1 18.00 2 …. … 0.00 20
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ANOTHER TYPE OF INDIVIDUAL DEMAND CURVE
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TWO VIEWS
for every possible price, it shows the quantity demanded
for each unit of item, it shows the maximum price that the buyer is willing to pay
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DEMAND CURVE: SLOPE
diminishing marginal benefit -- each additional unit of consumption/usage provides less benefit than the preceeding unit
demand curve slopes downward
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CONSUMER DIFFERENCES
individual preferences different demand curves changes in consumer's preferences, eg, age different consumers
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HOOVER, 1992
A negative price case:
Hoover’s special promotion -- two free air tickets (worth more than £400) for purchase of appliance over £100. promotion attracted over 100,000 customers Hoover incurred £48 million loss
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DEMAND AND INCOME
Changes in incomenormal product – demand increases with income
inferior product – demand falls with income
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DEMAND AND INCOME
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DEMAND AND OTHER FACTORS
prices of related products substitutes complements
advertising
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OTHER DEMAND FACTORS: COMPLEMENTS
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RECORDED MUSIC
Argentina Canada
CD purchases 0.5 2.6
cassette purchases
0.2 0.4
GDP/capita $9,413 $19,831
CD price $13.80 $11.55
cassette price $ 7.80 $ 6.06
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RECORDED MUSIC
Why the average Canadian bought more of both CDs and cassettes?
Why the ratio of CD to cassette purchases was relatively higher in Canada?
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RECORDED MUSIC Canadians enjoyed higher incomes Cassettes were a relatively inferior product
compared to CDs Another possible explanation: difference in
the relative prices of CDs and cassettes _ Canada: 11.55/6.06=1.9 _ Argentina: 13.80/7.80=1.77 * don’t not explain why Canadians bought
relatively more CDs than Argentines.
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FOOTBALL: TO BROADCAST?
Live broadcasting of away games and attendance at home games are complements
Live broadcasting of home games and attendance at home games are both substitutes and complements
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OTHER DEMAND FACTORS:DURABLE GOODS
Expectations about future prices and income Financing costs Prices of used models
substitute for new good future value of new good
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USED CARS
1990 1997/98
avg car age 7.5 yr 8.7 yr
median household income
up 29.9%
avg new car price up 48.4%
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USED CARS
Reasons for the increasing demand for used cars:
_ fast rising price of new cars _ increasing quality of used cars _ auto manufacturer reduced frequency of
changing designs _ financial institutions began to offer more
favorable rates.
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MARKET DEMAND
Price Joy Max Lucas Market
$10 0 0 0 0
$7.50 1 0 0 1
$5 2 1 0 3
$2.50 4 2 3 9
$0 7 6 4 17
Market demand = horizontal summation of individual demands
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MARKET DEMAND: CONSTRUCTION
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MARKET DEMAND: MACRO FACTORS
Income Average Distribution
Demographic Population Age structure Urban-rural
Cultural-social
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MARKET DEMAND: MICRO FACTORS
Price Advertising R&D
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BUYER SURPLUS
individual buyer surplus: difference between consumer’s benefit and price she must pay for the item
market buyer surplus: sum of individual buyer surpluses.
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0
2.50
5
7.50
10
1 2 4 7
c b e
h
j
g
d a
individual buyer surplus at $2.50 price
individual demand(marginal benefit) curve
Quantity (Movies a month)
Pri
ce (
$ p
er
movie
)
c
f
INDIVIDUAL BUYER SURPLUS
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BUYER SURPLUS: INDIVIDUAL
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GAINS FROM PRICE CUT
lower price on the quantity that he/she would have purchased at the original price (inframarginal units)
he/she can buy more (marginal units) Case: Student discount price for movie
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PACKAGE DEAL
charge buyer just a little less than her/his total benefit
leave buyer with almost zero surplus
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BUYER SURPLUS:TWO-PART PRICING
fixed payment usage charge
usage charge
fixed payment
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BUYER SURPLUS: TWO-PART PRICINGBusiness Provider Fixed Fee Usage
Fee Broadband access, Hong Kong
PCCW Netvigator 3M Single User Plan
HK$298 per month (incl. 100 free hrs)
HK$2 per additional hr
Mobile telephone service, UAE
Etisalat Corporation, GSM Standard Service
125 dirham connection fee; 60 dirham per qtr
0.24/0.18 dirham per min (peak/
offpeak)
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DISCUSSION QUESTION 1 In 1998, the value of worldwide sales of
recorded music in the form of singles, music cassettes, and CDs was $38.7 billion. Americans bought 3.1 CDs and 0.6 music cassette per capita, while Mexicans bought 0.5 CD and 0.3 music cassette per capita.
Explain why per capita CD sales were
relatively higher while per capita sales of music cassettes were relatively lower in the United States than in Mexico.
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DISCUSSION QUESTION 1 CONTINUED
On a suitable diagram, draw the U.S. demand for music CDs. Explain how the following changes would affect the demand curve: (i) increase in the price of CDs; (ii) rise in the ownership of CD players; and (iii) fall in the price of music cassettes.
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DISCUSSION QUESTION 1 CONTINUED
On another diagram, draw the demand for music CDs in Mexico. Explain how the following changes would affect the demand curve: (i) fall in advertising by music publishers such as Sony and Time Warner; (ii) reduction in the penalty for copyright infringement; and (iii) increase in the price of hamburgers.