1. 1 | Introduction to Microeconomics
Demand, normal and inferior goods, substitutes and complements
ECO217 Microeconomics I

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Why to study economics ?
Economics studies how people choose to use their limited resources (land, labor and
capital goods) to produce, exchange, and consume goods and services.
Microeconomics studies the economic decision making of firms and individuals in a
market setting.  consumers, resource owners, business firms and individual markets.
It is study of economy on a small scale.
Macroeconomics is the study of the economy as a whole, rather than individual markets,
consumers and producers.

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Economic Good Free Good

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Good
Economic goods are anything, which satisfy needs, provides utility or are used in
manufacturing
Not only commodities, but also services (haircut, tire repair etc.)
Utility – the satisfaction one receives from a good

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Free good and economic good
Free good can be obtained from nature at any time and in any quantity, example air,
sunlight, water from rivers and lakes (also called non-economic resources)
Economic good is scarce in relation to its demand and human effort is required to obtain
it.
Free vs. economic good
• Firewood was free good in past, but now become economic good
• Water in cities has to be cleaned and distributed using pipelines
• Air is supplied to deep mines by special devices

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Basic themes of economic science
Scarcity - unlimited wants of society are greater than its economy can meet. If what we
want to buy exceeds our income, we must make choices (without scarcity is no demand
and supply)
Choice - everyone must make trade-offs - to have more of one thing, we must have less
of another
Specialization - the tendency of participants in economy (people, businesses, countries)
to focus their activity on tasks they are particularly suits
Exchange – complements specialization by allowing individuals to trade goods and
services in while they specialize. Without exchange, specialization has no benefit

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Factors of production
Combination of Factors of production (FP) is used to produce goods and services:
– Land or natural resources (water, air, soil, flora, fauna etc)
– Labor (human physical or mental contribution)
– Capital stock (monetary, machinery, tools, buildings, also patents, software,
“know-how” etc),
– also Entrepreneurship - the talent that some people have for organizing the
resources of land, labor, and capital to produce goods, seek new business
opportunities, and develop new ways of doing things.

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Theories and hypothesis
Theory is explanation of the relationship among factors that may be crucial determinants
of a phenomenon
Hypothesis is a tentative assumption about a particular aspect of the relationship among
several events or factors IF-THEN. Theory is hypothesis that has been successfully
tested. The greater the number of successful tests, the greater the degree of confidence
we have in theory
Model is a simplified representation of a phenomenon
Economic theories focus on the most important factors that determine economic
behavior. This process is called abstraction
Theory can be used to make predictions
Law is a theory which is always true under the same set of circumstances, example, the
law of gravity

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Ceteris paribus
Ceteris paribus principle in Latin means "other things being
equal"
Any attempt to establish the relationship between two
factors must hold constant the effects of other factors to
avoid confusing the relationship
Econometrics deals with ceteris paribus problem by using
econometric theory and statistics

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The Circular Flow
HOUSEHOLD FIRM
Factors of production
Goods and services
Payment for factors of production
Payment for goods and services

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 Non-profitable industries
(military)
 Natural monopolies (post,
railway, power transmission,
aviation services)
 Essential industries for state
interests
HOUSEHOLD
CHURCHES
CHARITY
FUNDS
SCIENTIFIC
INSTITUTES
TRADE
UNIONS
FAMILIES
FIRM
FARMS
FORESTRY
GENERATION
POWER
GENERATION
MANUFACTURERS
CRAFTSMEN
MINING CO
FISHERIES
TRADE COMP
BANKS
INSURANCE
TRANSPORT
GOVERNMENT
 Education
 Health services
 Law enforcement

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Demand Curve
p
QD
Good is normal
D
p1
p2
q1 q2
Demand curve is the graph depicting the
relationship between the price of a certain
commodity, and the amount of it that
consumers are willing and able to purchase at
that given price.
Quantity demanded is a
function of price Q=D(p)

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Factors which influence demand
Demand for
good X
Demand for
good X
Price of good X
Prices of other goods
Income of household (m)Needs of the household
Tastes and
preferences
Number of customers

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Snob effect (luxury good)
p
QD
D
Demand for prestigious or
status goods
Examples: works of art,
designer clothing, sports
cars etc.

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Giffen good
p
QD
D1 is a normal good
D2 is a Giffen good
D2D1 Examples: potatoes, sweet
potatoes, Japanese shochu etc.
Evidence of Giffen goods
observed in China, rice in Hunan,
wheat in Gansu
Sir Robert Giffen (1837-1910)

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Normal good
m
QD
D m - income
If a good is normal, demand
for it grows if income rises
Most of the goods are
normal goods

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Inferior good
If good is inferior, its demand
decrease if income increases
Example: instant noodles,
potatoes, fake fur etc,
m
QD
D

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Saturation
m
QD
Demand for good reaches
saturation at point q1
(example rice, toothpaste
etc.)
D
q1

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Income and demand of good
m
QD
D
A2
A1
Inferior
Saturation
Normal

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Types of goods
Responsiveness to
price changes
Responsiveness to
income changes
GIFFEN GOODORDINARY GOOD
GIFFEN GOODNORMAL GOOD INFERIOR GOOD
LUXURY GOOD NECESSITY

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Substitute goods – can replace each other in use. Example: Oil and natural gas (for
heating), Pepsi and Coca-cola, green and black tea
Complementary goods – tend to be consumed together. Example: DVD player and
DVDs, car and gasoline, sugar and coffee
Substitutes Complementary goods

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Complementary goods
pX
QX
D
pX
QY
D
DVD player (X)
DVD
player
(X)
DVD disc (Y)
DVD
player
(X)
Example:
DX DVD player
DY DVD disc
PX DVD player ↓  QX DVD
player ↑  QY DVD disc ↑
p1
p2
q1 q2
p1
p2
q1 q2

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Substitute good
QY
D
pX
Good X and good Y are
substitutes
If price of a good X rises,
demand for a substitute
good Y grows

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Substitutability of goods
D1 demand curve (goods X and Y
are less possible to substitute)
D2 demand curve (goods X and Y
are better substitutes)
D1
pX
QY
D2
p1
p2
car
bicycleq1 q2 q3
△pX
△q1
△q2

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Not related goods
pX
QY
D Example: car and Coca-cola
If price of a good X rises, demand
for not related good don’t change

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Shifts in demand curve
Price of a substitute good rises
Income rises and good is normal
Increase in the number of customers
Decrease of a price of a complementary good
Increase of customer’s subjective appreciation
of a good
p
QD
D1
D2

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Ceteris Paribus
p
QD
D1

28. 28 of 28ECO217 Fall 2013/2014
Dr. Martins Priede
ECO217 Microeconomics I
martins.priede@xjtlu.edu.cn