Economics Chapter 4 Study Guide

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Demand
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The desire to own something and the ability to pay for it
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law of demand
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When a goods price is lower, consumers will buy more of it. When the price is higher consumers will buy less of it.
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The law of demand is the result of two behavior patterns
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substitution effect, income effect
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substitution effect
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When consumers react to an increase in a good’s price by consuming less of that good and more of other goods.
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income effect
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the change in consumption resulting from a change in real income
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demand schedule
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A table that lists the quantity of a good that a person will purchase at each price in the market
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market demand schedule
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shows the quantities demanded at each price by all consumers in the market.
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demand curve
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a graph representation of a demand curve
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ceteris paribus
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the latin phrase ” all other things are held constant”
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normal goods
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a good that consumers demand more of when their income increases
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inferior goods
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a good that consumers demand less of when their income increases
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complements
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two goods that are bought and used together
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substitutes
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goods used in the place of another.
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law of demand
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as prices go down, quantity goes up as prices go up, quantity demanded goes down
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economists measure consumption
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in the amount of goods that are being bought
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An increase in price will make the quantity demanded fall
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this movement along the demand curve is referred to as decrease in the quantity demanded.
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A decrease in price would lead to an increase..
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in the quantity demanded
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if you expect the price to rise, your current demand will rise,
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which means you will buy the good sooner
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if you expect the price to drop, your current demand will fall, and you will
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wait for a lower price.
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what causes a shift?
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income, consumer expectations,population, consumer taste/advertising.
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elasticity of demand
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dictates how drastically buyers will cut back or increase their demand for a good when the price rises or falls, respectively.
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elasticity of demand measures
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how consumers react to a change in price.
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inelastic
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relatively unresponsive to price changes
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elastic
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demand that is very sensitive to a change in price
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unitary elastic
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describes demand whose elasticity is exactly equal to 1.
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factors affecting elasticity
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1) availability of substitues 2)relative importance 3) necessities versus luxury? 4) price change over time
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What does the elasticity of demand determine?
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how a change in prices will affect a firms total revenue or income.
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total revenue
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defined as the amount of money the company receives by selling its goods.
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if a firm knows that the demand for its product is inelastic as its current price
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it knows that an increase in price will increase total revenue.
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income effect?
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People consume more when their income increases and less when their income decreases.
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A demand curve is an accurate tool for predicting the decisions of consumers as long as
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there are no changes other than price that could affect consumers. EXPLANATION: If an entrepreneur is selling 20 tee shirts a day for $10.00 and decides to drop the price to $8.00, he or she might expect to sell more t-shirts. However, if there is a cold front the same day the sale starts, the entrepreneur will learn that the demand curve only is accurate when all the other factors affecting consumer decisions remain unchanged.
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After a producer determines that the demand for one of its products is inelastic, why would this firm probably raise the price of this product?
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CORRECT: The firm’s total revenues would probably increase. EXPLANATION: Inelasticity of demand means that a relatively large increase in price, such as 15 percent, will cause a relatively small decrease in quantity demanded, such as 5 percent. A higher price and a small reduction in quantity demanded would result in higher total revenue.
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entrepreneurs can estimate the elasticity of demand for some goods
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use this number to make pricing decisions
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A drop in price will
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CORRECT: increase the quantity demanded of goods.

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