Activity 1 - Law of Demand exercise

1.1 The Law of Demand 

Introduction: ​The demand for a particular good or resource depends on several factors. This
activity will introduce the various determinants of demand and give you the opportunity to
practice how to analyze and illustrate the effect of different factors on the demand for two
goods, oil and beef. The activity should be completed and turned in to Mr. Welker by the end of
class.

Changes in the Price:​ ​Assuming ​nothing else changes (​ in Economic we use the phrase ​ceteris
paribus, ​which means “all else equal”), a change in the price of a good or resource will cause
the ​quantity demanded ​to change in the opposite direction.
● An increase in price causes the quantity demanded to decrease
● A decrease in price causes the quantity demanded to increase
● On a graph, this can be seen as a ​movement along​ an existing demand curve.
● Explanations for the inverse relationship between Price and Quantity demanded:
○ The Income Effect: As prices fall, the ​real incomes​ of consumers increase, so
they tend to buy more of most goods
○ The Substitution Effect: As prices fall, the ​real prices​ of substitute goods appear
to increase, so consumers buy more of the good for which price has decreased.
○ The Law of Diminishing Marginal Utility: Because consumers get less ​utility
(happiness) ​from each additional unit of a good they consume, they will only buy
more of the good if its price decreases.

Changes in a non-price determinant of demand:​ ​If certain factors other than the price of a
good change, it is possible that an entire demand curve can shift inwards (a decrease in
demand) or outwards (an increase in demand)
● T: ​The tastes of consumers: As consumers’ preferences shift between different types of
goods, the demand curves of those goods can shift inwards or outwards.
● O: ​Other related goods’ prices:
○ If the price of a ​substitute good​ (one that can be used ​instead of the good in
question)​ change, then the demand for the good in question will change in the
same direction. (Example, when beef prices rise, demand for pork increases).
○ If the price of a ​complementary good ​(one that is consumed together with the
good in question) changes, then the demand for the good in question will change
in the opposite direction. (Example: when the price of hot dogs increases,
demand for hot dog buns will decrease).
● E: ​Expectations of future prices: If consumers expect the price of a good to increase,
demand for that good will increase now, since they’ll want to buy it while it is still
relatively cheap. If prices are expected to fall, consumers will demand less now and wait
until the price drops in the future.
● I: ​Incomes of consumers: For most goods, as the consumers’ incomes rise, demand
increases and as incomes fall, demand decreases. Such goods are called “normal
 Activity 1 - Law of Demand exercise

goods”. If consumers demand more of a good when their incomes fall, and less when
incomes rise, then the good is called an “inferior good”.
● S: ​Size of the market: If the number of consumers increases, demand for a good will
increase. If the number of consumers decreases, demand for a good will decrease.

When there is a ​change in demand​, a demand curve will shift to the left (decrease in demand)
or two the right (increase in demand).

Practice activity: ​The table below shows the global demand for oil, in millions of barrels per
day, across a range of prices.

Price ($ per Quantity demanded (millions

barrel) of barrels per day)

25 300

50 250

75 200

100 150

125 100

150 50

Plot the demand for oil on the graph below.

 Activity 1 - Law of Demand exercise

1. The data for the demand for oil indicates that at a price of $50, buyers would be willing to
buy 250 million barrels of oil per day. All else equal, if the price of oil increased to $100,
buyers would be willing to buy 150 million barrels of oil. Such a change represents a
decrease in quantity demanded. Other things constant, if the price of oil decreased to
$25, buyers would be willing to buy 300​ ​million barrels. Such a change would be called
an increase in the quantity demanded.

2. Now, assume that due to rising incomes in China, Chinese consumers are buying more
cars. This represents a change in the ​ceteris paribus (all else equal) ​conditions under
which the original demand was determined. Assume that due to higher Chinese
incomes, the demand for oil increases by 20 million barrels at every price. Fill in the
demand table below to show the effect of rising Chinese incomes on the global demand
for oil.
Price ($ per Quantity demanded (millions
barrel) of barrels per day)

25 320

50 270

75 220

100 170

125 120

150 70

3. On the demand curve diagram you drew for #1, draw a new demand curve showing the
effect of rising Chinese incomes. Label the new demand curve D1 and answer the
questions that follow.
a. Comparing the new demand curve with the original demand curve, we can say
that rising incomes in China have caused demand to shift to the right
b. Such a shift in demand indicates that at each of the possible prices shown,
buyers are now willing to buy a higher quantity of oil than before. The cause of
this change was an increase in the incomes of consumers.

4. Changes in incomes are not the only factor that can shift the demand for a product.
Assume that due to greater awareness of environmental issues and climate change,
energy consumers and automobile drivers have begun to shift their tastes and
preferences to renewable energies, reducing demand for oil by 20 million barrels at each
of the prices from the original demand table. Fill in the demand table below to show the
effect of changing consumer tastes and preferences on the global demand for oil.

Price ($ per Quantity demanded (millions

barrel) of barrels per day)
 Activity 1 - Law of Demand exercise

25 280

50 230

75 180

100 130

125 80

150 30

5. On the demand curve diagram you drew for #1, draw a new demand curve showing the
effect of greater environmental awareness among consumers. Label the new demand
curve D2 and answer the questions that follow.
a. Comparing the new demand curve with the original demand curve, we can say
that greater environmental awareness has caused demand to shift to the left.
b. Such a shift in demand indicates that at each of the possible prices shown,
buyers are now willing to buy a fewer quantity of oil than before. The cause of
this change was the effect of greater environmental awareness among
consumers.

6. Changes in consumers’ incomes and tastes and preferences are only two of the factors
that can affect the demand for a good. Below, brainstorm and clearly explain other
possible factors that could cause demand for oil to ​increase​ and ​decrease.
a. A change in the price of substitute goods:
i. Would cause demand for oil to increase:
If substitute goods prices such as wind power were to increase, then
the demand for oil would increase due to the direct relationship the two
variables have.

ii. Would cause demand for oil to decrease:

If substitute goods prices such as wind power were to decrease, then
the demand for oil would decrease due to the direct relationship the two
variables have.

b. A change in the price of a complementary good:

i. Would cause the demand for oil to increase:
If prices of cars (a complementary good) were to decrease then the
demand for oil would obviously increase. Indirect relationship

ii. Would cause the demand for oil to decrease:

 Activity 1 - Law of Demand exercise

If prices of cars (a complementary good) were to increase then the

demand for oil would obviously decrease. Indirect relationship

c. A change in consumers expectations of future oil prices:

i. Would cause the demand for oil to increase:
If consumers were expecting future oil prices to increase, the demand
for oil at the moment would also increase. Direct relationship.

ii. Would cause the demand for oil to decrease:

If consumers were expecting future oil prices to decrease, the demand
for oil at the moment would also decrease. Direct relationship.

d. A change in the size of the market (the number of consumers):

i. Would cause the demand for oil to increase:
If number of consumers in a market were to increase the demand for oil
would increase. Direct relationship.

ii. Would cause the demand for oil to decrease:

If numbers of consumers in a market were to decrease the demand for
oil would decrease. Direct relationship.

7. You hear a fellow student say: “Markets are like a perpetual see-saw. If demand rises,
the price rises; if price rises, then demand will fall. If demand falls, price will fall; if price
falls, demand will rise and so on forever.” In the space below, correct your friend’s
obvious confusion in no more than one short paragraph.
There is a change in demand and a shift in demand. A change in demand is caused
by price while a shift in demand is caused by non-price determinants. Due to the law
of demand there is an indirect relationship between the price of a good and the
quantity​ demanded of that good. Then a shift in demand can either shift to the right or
left depending on the non-price determinant. If demand rises (shifts to the right) it is
either due to one of the following: a rise in income, an increase in the price of a
 Activity 1 - Law of Demand exercise

substitute good, a decrease in the price of a complementary good, an increase in the

expectations of future prices or an increase in the number of buyers. Vice verse for if
the demand falls.

8. The graph below shows three possible levels of demand for beef. Assume that at
present beef demand is represented by the curve labeled D1. Read the eight newspaper
headlines in the table below the graph and use the table to indicate the impact each
headline will have on the demand for beef.

Will demand Will the Which is the Which

increase or curve shift to new demand determinant
Headline Will demand decrease the left or the curve of demand is
shift (Y/N) (I/D) right (L/R) (D3/D2) affected?
(T/O/E/I/S)

Price of beef expected to Y I R D3 Expected

increase next month

Recession causes average Y D L D2 Income

incomes to fall

Pork prices increase Y I R D3 Substitute

New study claims red meat Y D L D2 Taste/P

increases risk of heart disease

Higher feed costs cause price of N

beef to rise

Propane shortage makes Y D L D2 Compleme

barbecuing a more expensive ntary
way to cook
 Activity 1 - Law of Demand exercise

Nationwide fad: the “all protein Y I R D3 No of

diet” consumer

Immigration causes population to Y I R D3 No of

rise for third straight year consumer