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  • Print publication year: 2016
  • Online publication date: May 2018

7 - Consumer choice and demand in traditional and network markets

from Book III - Demand and production theory


It is not the province of economics to determine the value of life in “hedonic units” or any other units, but to work out, on the basis of the general principles of conduct and the fundamental facts of social situations, the laws which determine prices of commodities and the direction of the social economic process. It is therefore not quantities, not even intensities, of satisfaction with which we are concerned … or any other absolute magnitude whatever, but the purely relative judgment of comparative significance of alternatives open to choice.

Frank H. Knight

People adjust to changes in some economic conditions with a reasonable degree of predictability. When department stores announce lower prices, customers will pour through the doors. The lower the prices go, the larger the crowd will be. When the price of gasoline goes up, drivers will make fewer and shorter trips. If the price stays up, drivers will buy smaller, more economical cars. Even defense departments around the world will reduce their planned purchases of tanks and bombers when their prices rise.

Behavior that is not measured in dollars and cents is also predictable in some respects. Students who stray from the sidewalks to dirt paths on sunny days stick to concrete on rainy days. Professors who raise their course requirements and grading standards often find their classes shrinking in size. Small children shy away from doing things for which they have recently been punished. When lines for movie tickets become long, some people go elsewhere for entertainment.

On an intuitive level, you very likely find these examples of behavior reasonable. Going one step beyond intuition, the economist would say that such responses are governed by the law of demand, a concept we first introduced in Chapter 3 and now take up in greater detail, with greater precision, and with more varied applications. In this chapter, we show how our understanding of a firm's strategy can be enhanced by simply classifying various goods into such categories as “normal” and “inferior” goods, “substitute” and “complementary” goods, and “network” and “lagged-demand” goods, with the nature of the goods affecting their demands. We will also introduce formally the concepts of “elastic” and “inelastic” demands, all of which suggests that the development of profit-maximizing pricing strategies requires that MBAs know more about goods than merely that their demands slope downward.