Consumer Surplus and Demand

Name: Consumer Surplus and Demand
Author: Joe Cooke

Learn the fundamentals of supply and demand.

Preview the first lesson free — get full access to all 6 lessons.

Course: On-Demand

(gentle music) In these lessons, we'll be studying demand and how that affects price and then supply and how price affects the number of units produced. Then we'll talk about how demand and supply interact to create an equilibrium price, which is what we experience in the marketplace as consumers. We'll finish with a theoretical discussion of price elasticity and a practical discussion on how to assess demand in the real world. Let's explore how businesses decide how much to charge for a product or service and how much of that product or service to provide. Intuitively as a consumer, you might realize that if you start a business and flood the market with your product, one of two things might happen. First, there may not be enough buyers out there to buy up everything you offer. And second, to many of the products in the market will drive the price down. Demand is the economic term of how much of a product the public is willing to buy. And it can be thought of in two ways. First, overall demand for a product is what the buying public needs and wants. Second, is the amount of the product or service that customers will actually buy and that is closely related to their price. We could also look at demand at both a macro and a micro level. For example, at a macro level, there is an overall market demand for purses. We know this because we see them everywhere in all kinds of colors, sizes, and styles. At a more micro level, however, there is a demand for a particular brand of purse and at an even more micro level, there is a demand for a particular style of purse. Overall demand for purses would increase if more men started using purses to carry cell phones, wallets, and other personal items. Overall demand would decrease if women started shifting toward backpacks or if pants with lots of pockets became stylish. However, for the most part, overall demand is not something an individual firm can control. For one particular company, say a startup that makes basic purses out of ethically sourced natural fibers, the most critical management issue would be the price to charge for the product. Let's say the cost to make one purse is $54 and the company would like to make a profit in order to pay the owners and accumulate cash for future expansion. Management decides to charge $120 for each purse and to distribute the purses through big-box stores in malls. As a consumer, if you are in the mall shopping for a purse, how much are you willing to pay? If you see the ethically sourced natural fiber bags selling for $120 in one store and across the hall, you see an ethically sourced, natural fiber bag, the same size with the same number of pockets selling for $90, which would you buy? Disregarding the effect of brand loyalty, you would probably buy the cheaper bag. That means that our startup will likely sell very few bags at $120. At $90, the company who sell more bags and even more, if the price drops below $90, because now our startup would have the most competitive price. This is the law of demand: The lower the price, the more we sell. The higher the price, the fewer we sell. If we chart this relationship on a graph, we'd see a line that is usually curved. Let's say that at $200, consumers would only buy 50 purses per month, at $120 they would buy 100, at $9 they would buy 250, at $70 they would buy 500 and at $55 they would buy 2000 purses. If you plotted these points on a graph with the price on the vertical, y-axis and the quantity on the horizontal, x-axis, you would see that a line connecting the dots would slope downward to the right. Often for simplicity's sake, these demand curves are drawn as straight lines, but always the demand curve slopes downward to the right when we put price on the y-axis and quantity on the x-axis, because the quantity sold decreases as price goes up and increases as price goes down. Mathematically, the simple straight line formula for the demand curve is quantity demanded equals A minus B times price. Where A represents all of the factors that affect demand except price and B is the slope of the line. In short, the law of demand states that the quantity demanded is inversely related to the price. The lower the price, the more we sell. The higher the price, the more we'd like to sell, but as we raise the price, we actually sell fewer and fewer as people shift to buying other products.

Intermediate Provider : Joe Cooke 6 Lessons · 25m in Arabic, German, English, Spanish, French, Portuguese, Chinese

Course Description

These lessons explore theories of supply and demand and discuss how those theories explain business decisions regarding what to charge for a product or service. You’ll discover how consumers typically respond to changes to the prices of goods and services, and what happens when there is a shortage or a surplus of a product. Finally, you will learn how demand and supply interact to create an equilibrium price.

What You'll Learn

Understand how supply and demand interact with price to shape business pricing decisions
Recognize how consumers respond to changes in the prices of goods and services
Analyze what happens when there is a shortage or a surplus of a product
Explain how demand and supply interact to create an equilibrium price
Identify real-world approaches to assessing demand
Examine pricing and elasticity through the demand curve, willingness to pay, and cost

Key Takeaways

Theories of supply and demand help explain business decisions about what to charge for a product or service.
Consumers typically respond in predictable ways to changes in the prices of goods and services.
When there is a shortage or a surplus of a product, the market is affected in distinct ways.
Demand and supply interact to create an equilibrium price.
Demand can be assessed in the real world using practical approaches covered in the course.

Frequently Asked Questions

What does this course cover?

It explores theories of supply and demand, how those theories explain business decisions about what to charge, how consumers respond to price changes, what happens during a shortage or surplus, and how demand and supply interact to create an equilibrium price.

What will I learn about equilibrium price?

You will learn how demand and supply interact to create an equilibrium price, and recognize the effects of supply and demand on market equilibrium.

What skills does this course build?

It builds skills in Supply and Demand and Supply and Demand Modeling.

What lessons are included?

Lessons cover the Demand Curve and Willingness to Pay; the Supply Curve and Cost; Equilibrium Price, Surplus, and Shortages (Parts 1 and 2); Pricing and Elasticity; and Approaches to Assessing Demand.

Does the course address real-world demand?

Yes. One of its objectives is to identify approaches to assessing demand in the real world, covered in the lesson on Approaches to Assessing Demand.