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CHAPTER 4

DEMAND

CHAPTER SUMMARY

This chapter builds on a brief introduction in the previous chapter by providing a more detailed analysis of product demand. The chapter covers demand functions and demand curves. It introduces elasticities and the properties of linear demand curves. The relation between total revenue and price is examined. The chapter also provides a brief introduction to network effects, the product-attribute model, product life cycles, and demand estimation. An appendix covers point elasticities, marginal revenue for linear demand curves, and log-linear demand curves.

CHAPTER OUTLINE

DEMAND FUNCTIONS
DEMAND CURVES
Law of Demand
Managerial Application: Learning the Law of Demand the Hard Way Elasticity of Demand
Managerial Application: Increased Foregin Competition and Demand Elasticities Calculating Price Elasticities
Price Changes and Total Revenue
Determinants of Price Elasticities
Academic Application: Price Elasticities
Managerial Application: Demand Elasticities and Airline Pricing Linear Demand Curves
Total Revenue
Marginal Revenue
Profit Maximization
OTHER FACTORS THAT INFLUENCE DEMAND
Prices of Related Products
Complements versus Substitutes
Managerial Application: Complementarity between Computer Hardware and Software Managerial Application: Derived Demand
Cross Elasticities
Academic Application: Estimates of Cross Elasticities Income
Normal versus Inferior Goods
Managerial Application: Russian Cola Wars
Income Elasticities
Academic Application: Estimates of Income Elasticities Managerial Application: A Pampered Dog Loses His Stylist Other Variables
INDUSTRY VERSUS FIRM DEMAND
Industry Demand Curves
Defining Industry and Market Area
Managerial Application: 9/11 Causes Massive Shifts in Demand Curves
Managerial Application: Store Layout Affects Demand
Managerial Application: Demand Elasticity for Gasoline
NETWORK EFFECTS
Managerial Application: eBay and Network Effects
PRODUCT ATTRIBUTES
Managerial Application: Understanding What Consumers Want
PRODUCT LIFE CYCLES
Managerial Application: First-Mover Advantages and Financial Innovation DEMAND ESTIMATION
Interviews
Managerial Application: Using Technology to Assess Demand Price Experimentation
Statistical Analysis
Academic Application: On Estimating Demand Curves for Common Stocks Omission of Important Variables
Multicollinearity
Identification Problem
Implications

SUMMARY

APPENDIX: DEMAND
Point Elasticities
Marginal Revenue for Linear Demand Curves
Marginal Revenue and Demand Elasticity
Log-Linear Demand Functions
TEACHING THE CHAPTER
This chapter reiterates the fundamentals of demand. In upper level courses that require students to complete a managerial economics or intermediate microeconomics course as a prerequisite, extensive coverage might not be as necessary, however it is essential for students to know the basic concepts in the chapter since they relate to material covered in later chapters. For example, the properties of linear demand curves are relevant in Chapters 17 (transfer pricing) and 19 (vertical integration and outsourcing). There are numerous Managerial Applications within the chapter that are used to illustrate key concepts (such as the relationship between elasticity and changes in revenue due to price changes) that can be used to generate class discussion of the topics rather than relying on lecturing. If students have only a limited economics background, the quantitative analysis will be new, however the tools are not too advanced so most students should not struggle with learning them.

The Self-Evaluation Problems review the...
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