Microeconomics:%20Theory%20and%20Applications%20%20David%20Besanko%20and%20Ronald%20Braeutigam%20%20Chapter%202:%20%20Demand%20and%20Supply%20Analysis%20%20Prepared%20by%20Katharine%20Rockett - PowerPoint PPT Presentation

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Microeconomics:%20Theory%20and%20Applications%20%20David%20Besanko%20and%20Ronald%20Braeutigam%20%20Chapter%202:%20%20Demand%20and%20Supply%20Analysis%20%20Prepared%20by%20Katharine%20Rockett

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In general, for the elasticity of 'Y' with respect to 'X': Y,X= ( % Y) = ( Y/Y) = dY. ... a = Q1 - bP1. 18. Quantity. Price. 0. Market Demand. Supply ... – PowerPoint PPT presentation

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Title: Microeconomics:%20Theory%20and%20Applications%20%20David%20Besanko%20and%20Ronald%20Braeutigam%20%20Chapter%202:%20%20Demand%20and%20Supply%20Analysis%20%20Prepared%20by%20Katharine%20Rockett


1
Lecture 04a Demand and Supply
(end) Lecturer Martin Paredes
2
Other Elasticities
  • In general, for the elasticity of Y with
    respect to X
  • ?Y,X (? Y) (?Y/Y) dY . X
  • (? X) (?X/X) dX Y

3
Other Elasticities
  • Price elasticity of supply measures curvature of
    supply curve
  • (? QS) (?QS/QS) dQS . P
  • (? P) (?P/P) dP QS

4
Other Elasticities
  • Income elasticity of demand measures degree of
    shift of demand curve as income changes
  • (? QD) (?QD/QD) dQD . I
  • (? I) (?I/I) dI QD

5
Other Elasticities
  • Cross price elasticity of demand measures degree
    of shift of demand curve when the price of
    another good changes
  • (? QD) (?QD/QD) dQD . P0
  • (? P0) (?P0/P0) dP0 QD

6
Source Berry, Levinsohn and
Pakes, "Automobile Price in Market
Equilibrium," Econometrica 63 (July 1995),
841-890. Example The Cross-Price Elasticity of
Demand for Cars
7
Source Gasmi, Laffont and Vuong, "Econometric
Analysis of Collusive Behavior in a Soft Drink
Market," Journal of Economics and Management
Strategy 1 (Summer, 1992) 278-311.
Example Elasticities of Demand for Coke and
Pepsi
8
How to Estimate Demand and Supply Equations
  • Use Own Price Elasticities and Equilibrium Price
    and Quantity
  • Use Information on Past Shifts of Demand and
    Supply

9
Use Own Price Elasticities and Equilibrium Price
and Quantity
  • Choose a general shape for functions
  • Linear
  • Constant elasticity
  • Estimate parameters of demand and supply using
    elasticity and equilibrium information
  • We need information on e, P and Q

10
  • Example Linear Demand Curve
  • Suppose demand is linear QD a bP
  • Then, elasticity is ?Q,P -bP/Q
  • Suppose P 0.7 Q 70 ?Q,P -0.55
  • Notice that, if ? -bP/Q ? b -?Q/P
  • Then b -(-0.55)(70)/(0.7) 55
  • and a QD bP (70)(55)(0.7) 108.5
  • Hence QD 108.5 55P

11
  • Example Constant Elasticity Demand Curve
  • Suppose demand is QD APe
  • Suppose again P 0.7 Q 70 ?Q,P -0.55
  • Notice that, if QD APe ? A QP-e
  • Then A (70)(0.7)0.55 57.53
  • Hence QD 57.53P-0.55

12
Example Broilers in the U.S., 1990
Price

Observed price and quantity
.7
0
70
Quantity
13
Example Broilers in the U.S., 1990
Price

Observed price and quantity
.7
Linear demand curve
0
70
Quantity
14
Example Broilers in the U.S., 1990
Price

Observed price and quantity
.7
Constant elasticity demand curve
0
70
Quantity
15
Example Broilers in the U.S., 1990
Price

Observed price and quantity
.7
Constant elasticity demand curve
Linear demand curve
0
70
Quantity
16
Use Information on Past Shifts of Demand and
Supply
  • A shift in the supply curve reveals the slope of
    the demand curve
  • A shift in the demand curve reveals the slope of
    the supply curve.

17
  • Example Shift in Supply Curve
  • Old equilibrium point (P1,Q1)
  • New equilibrium point (P2,Q2)
  • Both equilibrium points would lie on the same
    (linear) demand curve.
  • Therefore, if QD a - bP
  • b dQ/dp (Q2 Q1)/(P2 P1)
  • a Q1 - bP1

18
Example Identifying demand by a shift in supply
Price
Supply
Market Demand
0
Quantity
19
Example Identifying demand by a shift in supply
Price
New Supply
Old Supply
Market Demand
0
Quantity
20
Example Identifying demand by a shift in supply
Price
New Supply
Old Supply

P2

P1
Market Demand
0
Q2
Q1
Quantity
21
  • This technique only works if the curve we want to
    estimate stays constant.
  • Example Shift in Supply Curve
  • We require that the demand curve does not shift

22
Price
Supply
Demand
0
Quantity
23
Price
New Supply
Old Supply
Old Demand
New Demand
0
Quantity
24
Price
New Supply

Old Supply
P2

P1
Old Demand
New Demand
0
Q2
Q1
Quantity
25
Summary
  • 1. Example of a simple micro model of supply and
    demand (two equations and an equilibrium
    condition)
  • 2. Elasticity as a way of characterizing demand
    and supply
  • Factors that determined elasticity
  • Estimating demand and supply
  • From own price elasticity and equilibrium price
    and quantity
  • From information on past shifts, assuming that
    only a single curve shifts at a time.
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