1. Chapter 6 DEMAND

2. Demand Demand functions  the optimal amounts of each of the goods as a function of the prices and income faced by the consumer. Comparative statics  studying how demand responds to changes in the parameters (prices and income).

3. 6.1 Normal and Inferior Goods Normal goods  the demand for the good would increase when income increases. x1x1 x2x2 Indifference curves Optimal choices Budget lines

4. 6.1 Normal and Inferior Goods Inferior good  an increase of income results in a reduction in the consumption of the good. x1x1 x2x2 Indifference curves Budget lines Optimal choices

5. 6.2 Income Offer Curves and Engel Curves Income offer curve: The locus of demanded bundles as the budget line shifts outward. Engel curve: demand for a good as a function of income, with prices fixed. x1x1 x1x1 x2x2 mIncome offer curve Indifference curves A Income offer curve Engel curve B Engel curve

6. 6.3 Some Examples Perfect Substitutes  If p 1 <p 2, the consumer demands good 1 only, irrespective of income.  The demand for good 1 is x 1 =m/p 1, so the Engel curve is a straight line with a slope of p 1. x1x1 x1x1 mx2x2 Indifference curves Typical budget line Income offer curve Engel curve Slope=p 1

7. 6.3 Some Examples Perfect Complements  The consumer demands the same amount of each good.  The demand for good 1 is x 1 =m/(p 1 +p 2 ), so the Engel curve is a straight line with a slope of p 1 +p 2. x1x1 x1x1 m x2x2 Indifference curves budget lines Engel curve Slope=p 1 +p 2 Income offer curve

8. 6.3 Some Examples Cobb-Douglas Preference u(x 1,x 2 )=x 1 a x 2 1-a  Demand is x 1 =am/p 1, x 2 =(1-a)m/p 2.  The Engel curve for good 1 is a straight line with a slope of p 1 /a. x1x1 x1x1 x2x2 m Income offer curve Indifference curves Engel curve Slope=p 1 /a

9. 6.3 Some Examples Homothetic Preferences x1x1 x1x1 x2x2 m Indifference curves Income offer curve Engel curve

10. 6.3 Some Examples Quasilinear preferences u(x 1, x 2 )=v(x 1 )+x 2  Income offer curve is L-shaped.  Zero income effect for good 1 when income is sufficiently high. x1x1 mx2x2 Income offer curve Indifference curves Engel curve x1x1

11. 6.4 Ordinary Goods and Giffen Goods An ordinary good  The demand for a good increases when its price decreases. x1x1 x2x2 Indifference curves Optimal choices

12. 6.4 Ordinary Goods and Giffen Goods A Giffen good  The demand of a Giffen good decreases when its price decreases. x1x1 x2x2 Reduction in demand for good 1 Indifference curves

13. 6.5 The Price Offer Curve and the Demand Curve price offer curve  The locus of demanded bundles as the price of one good changes. x1x1 x2x2 Indifference curves Price offer curve

14. 6.5 The Price Offer Curve and the Demand Curve Demand curve:  The demand of a good expressed as a function of own price only.  We would normally have x1x1 p1p1 Demand curve

15. 6.6 Some Examples Perfect Substitutes: The demand for good 1 is:  zero when p 1 >p 2  any amount on the budget line when p 1 =p 2  m/p 1 when p 1 <p 2 x1x1 x1x1 x2x2 p1p1 Indifference curves m/p 1 =m/p 2 * Demand curve p1=p2*p1=p2* Price offer curve

16. 6.6 Some Examples Perfect Complements  The demand for good 1 is x 1 =m/(p 1 +p 2 ).  Fix m and p 2 and plot the relationship between x 1 and p 1. x1x1 x1x1 p1p1 x2x2 Demand curve Price offer curve Indifference curves

17. 6.7 Substitutes and Complements Good 1 is a substitute for good 2 if △ x 1 / △ p 2 >0 Good 1 is complement to good 2 if △ x 1 / △ p 2 <0 It is possible that good 1 is a substitute (complement) for good 2, but the reverse is not true. Substitutes and complements are defined in terms of the Hicksian demand function.

18. 6.8 The Inverse Demand Function Demand curve  x 1 as a function of p 1. Inverse demand curve  p 1 as a function of x 1. x1x1 Inverse demand curve p1p1