Month: February 2014

Network Externalities

Much of what basic microeconomics discusses is that a demand for a good is independent of somebody elses demand for that same good. For Example,  Adam’s demand for a new car depends on Adam’s tastes and income, the price of the car and perhaps the price of other automobile companies in substitute. But it does not depend upon awais or sarwar’s demand for a car.  This assumption has enabled us to obtain the market demand curve simply by summing individuals demands. However, for some goods one persons demand also depends upon the demand of other people. Lets say, the demand for a particular product by a person is just because other people are also demanding it. So there is a possibility that Adam is demanding a car just because all his other colleagues have it . And if this is the real scenario than there is the presence of NETWORK EXTERNALITY. [large] Types if network externality Network Externalities can be of two types Positive and Negative Network Externality A positive network externality exists if the quantity of a good demanded by a typical consumer increases in response to the growth of purchases of other consumers. See the above example of Adam , which is positive externality. He is demanding it just because others are buying it for themselves. And if the quantity demanded decreases then it is a negative...

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Income and Substitution Effect

A fall in the price of a Good has two effects: Consumers will buy more of a good that is cheaper and less of the good which has become expensive. This consequence to a change in the price of a relative good is called the Substitution effect. Secondly When a good become cheaper, consumers are pleased with their increase in their real purchasing power . Because now you are buying the same quantity at a lower price. This is the INcome Effect. By definition: Substitution Effect: Change in consumption of a good related to the change in its price , with the level of utility held constant (Off course! if your eating more than you did before just because the prices fall than its different ). Income Effect: Change in consumption of a good resulting from an increase in purchasing power with relative prices held constant. [large] Normal Good: If consumption of that god increase due to a decrease in it price than it is a normal Good. Inferior Good: A good is inferior if there is a decrease in the consumption of that good. This means that the income effect is negative. Giffen Good: The Special Case These are good whose demand curve slopes upward because the (negative ) income effect is larger than the substitution effect. if incase one good becomes inferior than you tend to buy...

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