Demand analysis ppt @ mbabecdoms

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Demand analysis ppt @ mbabecdoms

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Demand analysis ppt @ mbabecdoms

  1. 1. Demand analysis <ul><li>Firms sell goods/services to buyers </li></ul><ul><ul><li>Consumers (individuals) : utility </li></ul></ul><ul><ul><li>Firms : make profits </li></ul></ul><ul><li>Willingness to pay: maximum price buyer will pay for a good </li></ul><ul><ul><li>Point of indifference between buying and not buying </li></ul></ul><ul><ul><li>Lower price always preferred by buyer </li></ul></ul>
  2. 2. <ul><li>Willingness to pay is determined by </li></ul><ul><ul><li>Buyer’s tastes or needs </li></ul></ul><ul><ul><li>Income and wealth </li></ul></ul><ul><ul><ul><li>Normal/inferior goods </li></ul></ul></ul><ul><ul><ul><li>Cyclical/acyclical demand </li></ul></ul></ul><ul><ul><li>Substitutes </li></ul></ul><ul><ul><li>Complementary goods </li></ul></ul>
  3. 3. <ul><li>Demand curve for an individual buyer </li></ul><ul><ul><li>Willingness to pay for different quantities of the good </li></ul></ul><ul><ul><li>Or, quantity demanded at each price </li></ul></ul><ul><ul><li>Usually downward sloping: lower willingness to pay for additional units </li></ul></ul><ul><ul><ul><li>Lower utility of consumption for consumers </li></ul></ul></ul><ul><ul><ul><li>Lower productivity of resources for firms </li></ul></ul></ul><ul><li>Shifts in demand curve </li></ul>
  4. 4. <ul><li>Market demand </li></ul><ul><ul><li>Sum of individual demand curves </li></ul></ul><ul><ul><li>Aggregate quantity demanded at each price </li></ul></ul><ul><ul><li>Arrays individual buyers in order of willingness to pay </li></ul></ul><ul><ul><li>Identical goods? Product differentiation? </li></ul></ul>
  5. 5. <ul><li>Market segments / Price discrimination </li></ul><ul><ul><li>Different segments willing to pay different prices </li></ul></ul><ul><ul><li>Consumer surplus </li></ul></ul><ul><ul><li>Can firms exploit this? </li></ul></ul><ul><ul><ul><li>Feasible? </li></ul></ul></ul><ul><ul><ul><li>Fair? </li></ul></ul></ul>
  6. 6. <ul><li>Price sensitivity of demand </li></ul><ul><ul><li>Slope of market demand curve </li></ul></ul><ul><ul><li>Flat demand curve: very price sensitive: Elastic </li></ul></ul><ul><ul><ul><li>Goods with good substitutes </li></ul></ul></ul><ul><ul><ul><li>Luxury items ? </li></ul></ul></ul><ul><ul><li>Steep demand curve: less sensitive: Inelastic </li></ul></ul><ul><ul><ul><li>Necessities </li></ul></ul></ul>
  7. 7. <ul><li>Time-frame: easier to find substitutes over long run </li></ul><ul><li>Demand curves </li></ul><ul><ul><li>Accept as given? </li></ul></ul><ul><ul><li>Seek to modify? </li></ul></ul>
  8. 8. Supply analysis <ul><li>Supply curve </li></ul><ul><ul><li>How much the firm will sell at each price </li></ul></ul><ul><ul><li>Assumption: price-taking firm </li></ul></ul><ul><li>Time-frame of supply decision </li></ul><ul><ul><li>Long run: compete in the market at all? </li></ul></ul><ul><ul><li>Short run: how much to produce & sell? </li></ul></ul>
  9. 9. <ul><li>Short run supply </li></ul><ul><li>Based on costs </li></ul><ul><ul><li>Fixed costs: incurred regardless of volume </li></ul></ul><ul><ul><ul><li>‘ headquarter’ costs, depreciation, rent, labor…. </li></ul></ul></ul><ul><ul><li>Variable or marginal costs: cost per additional unit produced </li></ul></ul><ul><ul><ul><li>Raw materials, electricity, labor…. </li></ul></ul></ul><ul><li>In the short run, fixed costs are inevitable </li></ul><ul><li>Should not affect short run supply decisions (?) </li></ul>
  10. 10. <ul><li>Marginal costs </li></ul><ul><ul><li>Cash costs: out-of-pocket </li></ul></ul><ul><ul><li>Opportunity costs: foregone profits </li></ul></ul><ul><li>Marginal cost curve : Short run supply curve </li></ul>
  11. 11. <ul><li>Long run supply: entry & exit </li></ul><ul><li>Recover both fixed and variable costs </li></ul><ul><li>Fixed costs </li></ul><ul><ul><li>Out-of-pocket costs </li></ul></ul><ul><ul><li>Opportunity costs: return on capital </li></ul></ul>
  12. 12. <ul><li>Average costs </li></ul><ul><ul><li>Includes both fixed and variable costs </li></ul></ul><ul><ul><li>Typical U shape </li></ul></ul><ul><ul><li>Minimum of the average cost curve: Optimal long run supply point </li></ul></ul><ul><ul><li>Market price must exceed price at this point </li></ul></ul><ul><ul><li>Determine entry and exit </li></ul></ul><ul><ul><li>Dynamics? </li></ul></ul>
  13. 13. <ul><li>Shifts in supply curve </li></ul><ul><ul><li>Input costs </li></ul></ul><ul><ul><li>Technology </li></ul></ul><ul><li>Market supply curve </li></ul><ul><ul><li>Sum of individual supply curves </li></ul></ul><ul><ul><li>Usually slopes upward </li></ul></ul><ul><ul><ul><li>Less efficient firms enter market when price is high </li></ul></ul></ul><ul><ul><ul><li>Arrays firms from most efficient to least </li></ul></ul></ul>
  14. 14. Market equilibrium <ul><li>Interesection of market demand and supply curves </li></ul><ul><li>Disequilibrium will cause price to adjust and yield new equilibrium </li></ul><ul><li>Real world: series of small disequilibriums, series of price adjustments </li></ul><ul><li>Currency markets: rapid, continuous adjustments </li></ul>
  15. 15. <ul><li>Supply elasticity </li></ul><ul><ul><li>Flat supply curve: very sensitive to price: Elastic </li></ul></ul><ul><ul><li>Steep supply curve: less sensitive: Inelastic </li></ul></ul><ul><li>Varies over the range of output </li></ul><ul><ul><li>Elastic when spare capacity is available </li></ul></ul><ul><ul><li>Inelastic when capacity constrained </li></ul></ul>
  16. 16. <ul><li>Profit calculation based on equilibrium price </li></ul><ul><li>Average and marginal costs </li></ul><ul><li>Marginal cost determines supply volume </li></ul><ul><li>Average costs at that volume </li></ul>
  17. 17. Market adjustment <ul><li>Shifts in demand and supply curves </li></ul><ul><ul><li>Increase: shift to the right </li></ul></ul><ul><ul><li>Decrease: shift to the left </li></ul></ul><ul><li>Impact on quantity and price </li></ul>
  18. 18. <ul><li>Inelastic curves: adjustment largely through price </li></ul><ul><li>Elastic curves: adjustment largely through quantity </li></ul><ul><li>Short run versus long run </li></ul>
  19. 19. Perfect competition <ul><li>Three assumptions: </li></ul><ul><ul><li>Identical products </li></ul></ul><ul><ul><li>Many small price-taking buyers and sellers </li></ul></ul><ul><ul><li>Full information </li></ul></ul><ul><li>Excess profits  more firms enter  increased supply  lower price  zero excess profits </li></ul>
  20. 20. <ul><li>Three more conditions: </li></ul><ul><ul><li>Identical sellers </li></ul></ul><ul><ul><li>Free entry </li></ul></ul><ul><ul><li>Free exit </li></ul></ul><ul><li>Zero excess profits </li></ul><ul><li>Long run profitability? </li></ul>
  21. 21. Departures from perfect competition <ul><li>Most markets have far from perfect competition </li></ul><ul><ul><li>Exceptions: commodities </li></ul></ul><ul><li>Secret of long run profitability: deviations from perfect competition </li></ul><ul><li>Few sellers or buyers </li></ul><ul><ul><li>Extreme case: monopoly or monopsony </li></ul></ul><ul><ul><li>Oligopoly </li></ul></ul><ul><ul><ul><li>Collusion </li></ul></ul></ul><ul><ul><ul><li>Cartels: incentives to cheat the cartel </li></ul></ul></ul><ul><ul><li>Societal impact: anti-trust regulation </li></ul></ul>
  22. 22. <ul><li>Entry and exit barriers </li></ul><ul><ul><li>First mover advantage </li></ul></ul><ul><ul><ul><li>Headstart on learning curve </li></ul></ul></ul><ul><ul><ul><li>Economies of scale </li></ul></ul></ul><ul><ul><ul><li>Reputation and branding </li></ul></ul></ul><ul><ul><li>High exit costs </li></ul></ul><ul><ul><ul><li>May lead to firms accepting sustained losses </li></ul></ul></ul><ul><li>Product differentiation </li></ul><ul><ul><li>Special attributes: Real or imaginary </li></ul></ul>
  23. 23. <ul><li>Differences among sellers </li></ul><ul><ul><li>Least cost producer </li></ul></ul><ul><ul><li>Innovation </li></ul></ul><ul><li>Imperfect information </li></ul><ul><ul><li>Search costs protect existing relations and discourage competition </li></ul></ul>

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