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EC O N O M I C S FOR THE VIRTUAL E NT ER P R I S E
―The business of America is business.‖ —Calvin Coolidge
LESSON 6 : DEMAND AND ITS D ETER M I N A N T S
Focus Question: What factors affect demand in a market economy?
O b j ec t iv e s Students will be able to:
- Explain the law of demand.
- Create and interpret demand charts.
- Discuss the factors that change demand.
- Explain the difference between movement along and shifting of the demand curve.
S t a nd a rds NES: 1, 7, 8, 9, 13 ELA: 1, 2, 3
M a t e r i a l s
Text: Chapter 7, pp. 168-185.
Teaching S t r a t e g i e s
I. The Law of Demand
- Begin the lesson by asking for the economists’ definition of demand.
Demand is the desire to purchase a particular item at a specified price and time, by consumers who are willing and able to buy.
- Explain that there is a Law of Demand which states that quantity demanded varies inversely with changes in price. When all other things are equal, buyers will purchase more of an item at a lower price and less at a higher price. Elicit reasons why this is so:
When prices are lower… When prices are higher… More people can afford the product Fewer people can afford to buy the product People tend to buy more of the product People tend to buy less of the product People tend to substitute the product for similar items that are more expensive or less desirable
People tend to substitute less expensive products
The relationship between the price of a good and the quantity consumers will demand can be expressed as a demand schedule and as a demand curve.
- Distribute and have the students complete worksheet 6A; have them confirm their understanding of the Law of Demand by answering the following questions: o What happens to the quantity demanded as the price goes up? o What happens to the quantity demanded as the prices goes down? o Describe the slope of the demand curve: is it positive or negative? o Describe the relationship between price and quantity demanded: is it direct or inverse?
When economists refer to the quantity demanded, they refer to a specific point along the demand curve. A change in the quantity demanded is a result of change in the price of a good and is shown as a movement along the demand curve.
II. Determinants of Demand
- Explain that to economists, an increase or decrease in quantity demanded has a different meaning than an increase or decrease in demand.
An increase or decrease in the quantity demanded is shown as movement along the demand curve, an increase or decrease in demand is shown by a shift in the demand curve. A change in the demand of a good or service is caused by something other than a change in the price of a good or service.
- Distribute and have the students complete worksheet 6B and then answer the following questions: o When the demand curve shifts upward and to the right, is this indicative of an increase or decrease in demand? o When the demand curve shifts downward and to the left, is this indicative of an increase or decrease in demand? o Why does the demand curve shift?
- Distribute worksheet 6C and group the students into teams of 3, 4 or 5; have each team complete the worksheet (complete the table) and be prepared to share the results. Record the responses into tables on the board. o Provide an opportunity for students to identify any determinants that have not been listed. o Have the students confirm direction the demand curve will move for each determinant.
Determinant of demand Demand increases or decreases?
Explanation
Population increases I There are more opportunities to buy and sell.
Population decreases D There are fewer opportunities to buy and sell.
Increase in most peoples’ income I When income goes up, people have a greater ability to buy. Decrease in most peoples’ income D When income goes down, people have a diminished ability to buy.
Price of substitute increases I As the price of a substitute increases, the demand for the product under study increases. (If consumers have substituted fish for meat, and the price of fish goes up, the demand for meat will increase.) Price of substitute decreases D As the price of a substitute decreases, the demand for the product under study decreases. (If consumers have substituted fish for meat, and the price of fish goes down, the demand for meat will decrease.) Price of complementary good increases D If the price of peanut butter (the complementary good) increases, the demand for jelly will decrease. Price of complimentary good decreases I If the price of peanut butter decreases, the demand for jelly will increase. (More consumers will eat peanut butter and jelly.)
Product becomes a popular fad (change in taste of buyers)
I When a product becomes a fad, more of it is demanded at all price levels. Product now out of fashion (change in taste of buyers)
D When a product that was a fad falls from favor, less of it is demanded at all price levels. There is an expectation that the price of the product will soon fall
D If consumers expect to be able to buy the product in the near future for less, current demand will fall at all price levels. There is a fear that the economy will go D If consumers are worried about their jobs,
are many substitutes, the elasticity will be high; if there aren’t many substitutes, the elasticity will be low.)
elastic demand because it is easier to buy a substitute when its price rises. Products that have few substitutes tend to have inelastic demand because buyers don’t have as many alternatives from which to choose. The time frame for consumers to react to price changes.
The more time consumers have to adjust to price changes, the more they will increase purchases in response to price decreases, and decrease purchases in response to price increases. Long-run demand tends to be more elastic than short-run demand.
- Explain how price elasticity can be measured. (Write these formulas on the board leaving them up for students to refer as they work on worksheet 6D.) o The Total Revenue Test The total revenue test measures the revenues that a firm receives at different price levels. Total revenue is based on the following formula: Total Revenue = Price * Quantity If total revenue increases after the price of a product drops, then demand for that product is considered to be elastic. Revenues increase for that good or service by a greater percentage than the percentage change in price. (The seller makes less on each sale, but sells enough additional units to make up for the lower price.)
If total revenue decreases after the price of a product decreases, then demand for that product is considered to be inelastic. When a decrease in price has resulted in only a small increase in quantity demanded, and the change in quantity demanded is less than the change in price, total revenue will decrease. o Price Elasticity of Demand Formula (PEoD)
PEoD = (% change in quantity demanded/% change in price)
To calculate the price elasticity, you first calculate the percentage change in quantity demanded and the percentage change in price.
The higher the price elasticity, the more sensitive consumers are to price changes. High price elasticity suggests that when the price of a good goes up, consumers will buy less and when the price of a good goes down, consumers will buy more. Low price elasticity implies the opposite, that changes in prices have little impact on demand.
- Distribute Worksheet 6D; have the students complete the activities and share their results with the class.
Summary:
- The accounting manager of your VE firm advocates a cost-based pricing strategy in which the company will price products by starting with the wholesale cost and then adding a markup to provide a profit. What factors, besides the wholesale cost of the product, should be considered when determining the selling price of products?
- How do business managers use information about demand, demand determinants and price elasticity of the company’s products to make pricing decisions? Explain.
