Short-Run Versus Long-Runyamamoto/files/Apr_25.pdf · Short-Run Versus Long-Run Elasticity (pp. 38 - 46) ... Demand and supply are more elastic in the long run In the short run, supply

Chapter 3 1©2005 Pearson Education, Inc.

Short-Run Versus Long-RunElasticity (pp. 38 - 46)

�Price elasticity varies with the amount oftime consumers have to respond to aprice

�Short-run demand and supply curvesoften look very different from their long-run counterparts


Short-Run vs. Long-RunElasticity – An Application (pp. 45 - 6)

�Why are coffee prices very volatile?�Most of the world’s coffee is produced in

Brazil

�Many changing weather conditions affect thecrop of coffee, thereby affecting price

�Price following bad weather conditions isusually short-lived

�In long run, prices come back to originallevels, all else equal


Price of Brazilian Coffee (pp. 45 - 6)


Short-Run vs. Long-RunElasticity – An Application (pp. 45 - 6)

�Demand and supply are more elastic inthe long run

� In the short run, supply is completelyinelastic�Weather may destroy part of the fixed supply,

decreasing supply

�Demand is relatively inelastic as well

�Price increases significantly


D

P0

S

Q0 Quantity

PriceA freeze or drought

decreases the supplyof coffee

S’

Q1

An Application - Coffee (pp. 45 - 6)

Price increasessignificantly due toinelastic supply and

demand

P1


S’

D

S

P0

Q0

P2

Q2

Intermediate-Run1) Supply and demand are more elastic2) Price falls back to P2.


Quantity

Price


SP0

Q0

Long-Run1) Supply is extremely elastic2) Price falls back to P0.3) Quantity back to Q0.


Quantity

Price

D

Chapter 3

Consumer Behavior


Introduction (pp. 64 - 5)

�How are consumer preferences used todetermine demand?

It is very likely that your consumption pattern isdifferent from any of your friends with more or lesssame income.

�How do consumers allocate income tothe purchase of different goods?

Do you spend your income only on phone bills?


Introduction (pp. 64 - 5)

�How do consumers with limited incomedecide what to buy?

Do you think a family with no babies spend theirincome for baby’s items?

�How can cost of living indexes measurethe well-being of consumers?


Consumer Behavior (pp. 64 - 5)

� The theory of consumer behavior can beused to help answer these and manymore questions

� Theory of consumer behavior�The explanation of how consumers allocate

income to the purchase of different goodsand services, or theories behinds consumerdemand curves, QD=QD(P, …)



�Example: Consumption patterns ofJapanese Households (See the figureson my handouts. The figures are takenfrom Kakei Chosa (Family Income andExpenditure Survey, Ministry of InternalAffairs and Communications))

http://www.stat.go.jp/english/data/kakei/index.htm



� There are three steps involved in thestudy of consumer behavior

1. Consumer Preferences� To describe how and why people prefer

one good to another (You havepreferences)

2. Budget Constraints� People have limited incomes (Opportunities

are limited)



3. Given preferences and limited incomes,what amount and type of goods will bepurchased?� What combination of goods will consumers

buy to maximize their satisfaction? (Make arational or optimal choice)


Consumer Preferences (pp. 65 - 79)

�How might a consumer compare differentgroups of items available for purchase?

�A market basket is a collection of one ormore commodities

� Individuals can choose between marketbaskets containing different goods


Consumer Preferences – BasicAssumptions (pp. 65 - 79)

1. Preferences are complete� Consumers can rank market baskets

2. Preferences are transitive� If they prefer A to B, and B to C, they must

prefer A to C

3. Consumers always prefer more of anygood to less� The more, the better


Consumer Preferences (pp. 65 - 79)

�Consumer preferences can berepresented graphically usingindifference curves (for the case of 2goods)

� Indifference curves represent allcombinations of market baskets that theperson is indifferent to�A person will be equally satisfied with either

choice


Indifference Curves:An Example (pp. 65 - 79)

4010H

2010G

4030E

2040D

5010B

3020A

Units of ClothingUnits of FoodMarket Basket



�Graph the points with one good on the x-axis and one good on the y-axis

�Plotting the points, we can make someimmediate observations aboutpreferences�The more, the better


The consumer prefersA to all combinations

in the yellow box, whileall those in the pink

box are preferred to A.


Food

10

20

30

40

10 20 30 40

Clothing 50

G

A

EH

B

D



�Points such as B & D have more of onegood but less of another compared to A�Need more information about consumer

ranking

�Consumer may decide they areindifferent between B, A and D�We can then connect those points with an

indifference curve


•Indifferentbetween points B,A, & D•E is preferred toany points on theindifference curveU1•Points on U1 arepreferred to H & G


Food

10

20

30

40

10 20 30 40

Clothing50

U1GD

A

EH

B


Indifference Curves (pp. 65 - 79)

�Any market basket lying northeast of anindifference curve is preferred to anymarket basket that lies on theindifference curve

�Points on the curve are preferred topoints southwest of the curve



� Indifference curves slope downward tothe right�If they sloped upward, they would violate the

assumption that more is preferred to less� Some points that had more of both goods would

be indifferent to a basket with less of both goods



� To describe preferences for allcombinations of goods/services, we havea set of indifference curves – anindifference map�Each indifference curve in the map shows

the market baskets among which the personis indifferent


U2

U3

Indifference Map (pp. 65 - 79)

Food

Clothing

U1

ABD

Market basket Ais preferred to B.Market basket B ispreferred to D.


Indifference Maps (pp. 65 - 79)

� Indifference maps give more informationabout shapes of indifference curves�Indifference curves cannot cross

� Violates assumption that more is better

�Why? What if we assume they can cross?


Indifference Maps (pp. 65 - 79)

Food

Clothing

•B is preferred to D•A is indifferent to B & D•B must be indifferent toD but that can’t be if B ispreferred to D. Acontradiction

U1

U1

U2

U2

A

B

D



� The shapes of indifference curvesdescribe how a consumer is willing tosubstitute one good for another�A to B, give up 6 clothing to get 1 food

�D to E, give up 2 clothing to get 1 food

� The more clothing and less food a personhas, the more clothing they will give up toget more food


A

B

D

EG

-1

-6

1

1

-4

-21

1

Observation: The amountof clothing given up for 1 unit of food decreasesfrom 6 to 1


Food

Clothing

2 3 4 51

2

4

6

8

10

12

14

16



�We measure how a person trades onegood for another using the marginal rateof substitution (MRS)�It quantifies the amount of one good a

consumer will give up to obtain more ofanother good, or the individual terms of trade

�It is measured by the slope of theindifference curve

Documents

Short-Run Versus Long-Runyamamoto/files/Apr_25.pdf · Short-Run Versus Long-Run Elasticity (pp. 38 - 46) ... Demand and supply are more elastic in the long run In the short run, supply