In this introductory section, we will analyze one of the fundamentals of microeconomics: demand. Demand captures the behavior of a consumer or group of consumers as they consider buying units of either a physical good (a book, a car, or a cup of coffee), or a service (an internet subscription, a haircut, or a cross-country flight.) Simply, demand gives the relationship between the price of the good or service and the quantity of units demanded.
Consider Tara, who is looking to purchase a mountain bike. She knows which brand she would like to buy, and all of the specifications the bike should have. After these considerations, Tara decides that she is willing to buy the bike if the price of the bike is less than or equal to $300. We call this value Tara’s willingness to pay (WTP) for the bike. While we did not mention them directly, Tara probably takes many factors into consideration when determining her willingness to pay, including her personal preferences for the style or model of bike, how much income Tara makes, the cost of a bus pass, and likely many other factors. 1
Using Tara’s willingness to pay, we can construct Tara’s demand for the mountain bike. As we mentioned, demand refers to a relationship between the number of units demanded by the consumer (Tara) and the price of the bike. This means we need to consider all of the hypothetical prices Tara could face, and determine under which scenarios Tara would buy the bike. Fortunately, since we have her WTP, this should be straightforward. One common way to construct demand is to do so in a table, looking at discrete prices and evaluating each: this is referred to as a demand schedule. We include two columns in the table: one for the price (\(P\)), and one for the quantity of units demanded (\(Q_D\)):
Table1.1.1.Tara’s demand schedule for mountain bikes
\(P\)
\(Q_D\)
$400
0
$325
0
$250
1
$200
1
$100
1
Based on Tara’s WTP, at any price above $300, Tara will not be willing to buy, while she will buy a mountain bike at any price below $300. The choices or prices in the demand schedule are arbitrary here: because we have her WTP, we would see a similar pattern had we included the prices $1000, $299, $2, or anywhere in between. In fact, Tara’s WTP allows us to very simply put all possible prices in one of two categories relevant to her decision: “above $300” and “below $300.”
Checkpoint1.1.2.
Suppose that Anna is a buyer who wants to buy some pens. She is only willing to buy one pen if the price of the pen is less than or equal to $10. However, she is willing to buy two pens if the price of a pen is less than or equal to $6.
What is Anna’s willingness to pay for the first pen? The second pen?
Create a demand schedule that shows Anna’s quantity demanded at prices of $15, $12, $9, $6, and $3.
Hint.
The demand schedule shows how many units will be demanded at some given prices. Quantity demanded only changes if the price falls to a level less than or equal to the WTP.
Answer.
Anna’s pen demand schedule is shown in the table below:
Table1.1.3.Anna’s demand schedule for pens
\(P\)
\(Q_D\)
$15
0
$12
0
$9
1
$6
2
$3
2
Demand schedules reflect quantity values for a range of prices, even if consumer WTP has not changed, such as between \(P=\$6\) and \(P=\$3\text{.}\)
It can be easier to represent Tara’s demand with a graph. This allows us to at once demonstrate her quantity demanded at all possible prices. We often refer to the graphical version of demand as a demand curve. With price on the vertical axis, and quantity demanded on the horizontal axis, we label Tara’s demand curve with a \(D\text{.}\) Each point is an ordered pair, of the form \((P, Q_D)\) which represents one combination of price-quantity. As such, each point could be represented as a row in Tara’s demand schedule such as the point \((325, 0)\) or the point \((100, 1)\text{.}\) In our graph, we have an infinite number of points, representing Tara’s quantity demanded for any possible price greater than or equal to zero.
Figure1.1.4.Tara’s demand curve for mountain bikes (1).
Since the term demand can be simultaneously represented in a few different ways, there is a simple breakdown given below. A demand schedule, a demand curve, and a demand function (as we will shortly see) can all be used to capture the same demand.
One minor point: what happens when the price is exactly $300? This situation represents a kind of tie. If the price were $299.99, Tara would buy, but if the price were $300.01, she would not: the price of $300 is the breaking point, where Tara goes from not being willing to buy to actually being willing to buy. So, how do we handle this point on the graph? Typically, we use a horizontal segment to connect the points \((300, 0)\) and \((300, 1)\text{.}\) This horizontal segment suggests that at this price, the quantity demanded increases from 0 to 1. 2
Figure1.1.5.Tara’s demand curve for mountain bikes (2).
Key terms in this section:
demand
willingness to pay
demand schedule
demand curve
Checkpoint1.1.6.
Consider a demand schedule such as that for Tara and mountain bikes in Table 1.1.1 above. Briefly explain the relationship between:
The demand schedule and willingness to pay.
The demand schedule and quantity demanded.
Hint.
Not every row in a demand schedule is the maximum willingness to pay for the consumer, right? Maximum willingness to pay is an upper limit, whereas demand schedule prices are just that, possible prices.
Answer.
The consumer’s maximum willingness to pay tells us the most she will pay for an item. The demand schedule is a table that checks against this value for a given price. So if there’s a price given in the table, we get the relevant quantity by answering, "Is this price less than or equal to the maximum willingness to pay for another unit?"
Similarly, we can directly find the quantity demanded for a price listed in the table by looking at the corresponding quantity in the row. Or, considered differently, to fill in the Quantity column of a demand schedule, we can say, "What is the highest number of units for which this price is less than or equal to the consumer’s willingness to pay?"
