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Economists build theories to answerquestions that do not have obviousanswers.

Cause Effect

Theory is an abstract representationof the real world designed with theintent to better understand theworld.

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Any place people come together totrade

Trade or exchangemay take place at aphysical or virtual

location

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The willingness and ability of buyers:to purchase different quantities of agood at different prices during aspecific time period.

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As the price of a good rises, thequantity demanded of the goodfalls, and as the price of a good

falls, the quantity demanded ofthe good rises, ceteris paribus

Price Quantity

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A Latin term meaning all other thingsconstant or nothing else changes.

Ceteris paribus is an assumption used toexamine the effect of one influenceon an outcome while holding all other

influences constant.

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people substitute lower priced goodsfor higher priced goods.

the law of diminishing marginal utility,which states that for a given timeperiod, the marginal (or additional)utility or satisfaction gained byconsuming equal successive units of agood will decline as the amountconsumed increases.

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The numerical tabulation of the

quantity demanded of a good atdifferent prices.

A demand schedule is thenumerical representation of thelaw of demand.

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The graphical representation of thedemand schedule and law of

demand.

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IncomePreferences

Prices of substitute goodsPrices of complementary goodsNumber of buyers

Expectations of future prices

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Normal Good - A good the demand forwhich rises (falls) as income rises (falls).Inferior Good - A good the demand forwhich falls (rises) as income rises (falls).Neutral GoodA good the demand for

which does not change as income risesor

falls.

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SubstitutesTwo goods that satisfy similar needs or

desires. If two goods are substitutes,the demand for one rises as the priceof the other rises (or the demand forone falls as the price of the otherfalls).

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ComplementsTwo goods that are used jointly in

consumption. If two goods arecomplements, the demand for onerises as the price of the other falls (or

the demand for one falls as the priceof the other rises).

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1. As Sandis income rises, her demand forpopcorn rises. As Marks income falls, his

demand for prepaid telephone cards rises.

What kinds of goods are popcorn andtelephone cards for the people who demand

each?

Popcorn is a normal good for Sandi. Prepaid

telephone cards are an inferior good forMark.

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2. Why are demand curves downward sloping?

Asking why demand curves are downwardsloping is the same as asking why price and

quantity demanded are inversely related (asone rises, the other falls). There are two reasonsmentioned in this section:

(1) As price rises, people substitute lower pricedgoods for higher priced goods.

(2) Because individuals receive less utility from anadditional unit of a good they consume, theyare only willing to pay less for the additionalunit. The second reason is a reflection of thelaw of diminishing marginal utility.

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3. Give an example that illustrates how to derivea market demand curve.

Suppose only two people, Bob and Alice, have

a demand for goodX.At a price of $7, Bob buys 10 units and Alicebuys 3 units; at a price of $6, Bob buys 12 unitsand Alice buys 5 units.One point on the market demand curve

represents a price of $7 and a quantitydemanded of 13 units; another pointrepresents $6 and 17 units.A market demand curve is derived by addingthe quantities demanded at each price.

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4. What factors can change demand? What factorscan change quantity demanded?

A change in income, preferences, prices ofrelated goods, number of buyers, and

expectations of future price can change demand.A change in the price of the good changes thequantity demanded of the good.For example, a change in income can change thedemand for oranges, but only a change in theprice of oranges can directly change the quantitydemanded of oranges.

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