Demand, Supply, and Market Equilibrium
03 Demand, Supply, and Market Equilibrium
McGraw-Hill/Irwin
Copyright © 2012 by The McGraw-Hill Companies, Inc. All rights reserved.
Markets
• Interaction between buyers and •
sellers Markets may be
• Local • National • International
• Price is discovered in the interactions of buyers and sellers LO1
3-2
Demand
• Schedule or curve • Amount consumers are willing and able to purchase at a given price – there is an inverse relationship between price and the quantity demanded • law of demand
LO1
3-3
Law of Demand • Other things equal, as price falls the quantity demanded rises, and as price rises the quantity demanded falls – not taking into account anything but prices – demand is only meaningful when related to a period of time (day, week, month, etc.) • w/o this detail we can’t ascertain if the demand is large or small • Reasons • Common sense • ordinarily people buy more of a product at a low $ than @ a high $ • this is why businesses offer “sales” LO1
3-4
Demand • (Reasons continued) • Law of diminishing marginal utility • the second purchase of any item brings less utility (satisfaction) than the proceeding, the third less, and so on • Income effect and substitution effects • i.e. - lower prices increase the purchasing power of consumers (higher $, opposite effect) • sub. e. - higher $ lead consumers to seek out substitutes for the high $ product, product whose price fell is now a “better deal” • these two combine to make consumers able and willing to buy more of a product at a low price than at a high price LO1
3-3
Demand
• Individual demand
•
LO1
–hypothetical demand schedule for a single consumer that is “willing and able” to buy the product Market demand –all consumers in the market – Mr. Clifford: Demand Curve
3-3
Determinants of Demand: Factors That Shift the Determinants of Demand Demand Curve Determinant Examples Change in buyers’ tastes
Physical fitness rises in popularity, increasing the demand for jogging shoes and bicycles; cell phone popularity rises, reducing the demand for land-line phones.
Change in the number of buyers
A decline in the birthrate reduces the demand for children’s toys.
Change in income
A rise in incomes increases the demand for normal goods such as restaurant meals, sports tickets, and necklaces while reducing the demand for inferior goods such as cabbage, turnips, and inexpensive wine.
Change in the prices of related goods
A reduction in airfares reduces the demand for bus transportation (substitute goods); a decline in the price of DVD players increases the demand for DVD movies (complementary goods).
Change in consumer expectations
Inclement weather in South America creates an expectation of higher future coffee bean prices, thereby increasing today’s demand for coffee beans.
LO1
3-7
The Demand Curve P 6
P Qd $5 10 4 20
3 35 2 55
Price (per bushel)
5
4
3
2
1
D
1 80 0
10
20
30
40
50
60
70
80
Q
Quantity Demanded (bushels per week)
LO1
3-5
Supply
• Schedule or curve • Amount producers are willing and
• • LO2
able to sell at a given price –Supply schedule: used to illustrate in tabular form the quantities of a product that will be supplied at various prices Individual supply Market supply 3-8
Law of Supply
• Other things equal, as the price rises
•
LO2
the quantity supplied rises, and as the price falls the quantity supplied falls Reasons • Price acts as an incentive to producers • At some point, costs will rise • Mr. Clifford - Supply 3-9
The Supply Curve P
Qs per Week
$5
60
4
50
3
35
2
20
1
5
Price (per bushel)
Supply of Corn Price per Bushel
S
5
4
3
2
1
0
10
20
30
40
50
60
70
Q
Quantity supplied (bushels per week)
LO2
3-11
Changes in Supply P $6
Change in Quantity S3 Supplied
S1
5
S2
Price (per bushel)
4
3
2
Change in Supply
1
0
2
4
6
8
10
12
14
16
Q
Quantity supplied (thousands of bushels per week)
LO2
3-11
Determinants of Supply Determinants of Supply: Factors That Shift the Supply Curve Determinant Examples Change in resource prices
A decrease in the price of microchips increases the supply of computers; an increase in the price of crude oil reduces the supply of gasoline.
Change in technology
The development of more effective wireless technology increases the supply of cell phones.
Change in taxes and subsidies
An increase in the excise tax on cigarettes reduces the supply of cigarettes; a decline in subsidies to state universities reduces the supply of higher education.
Change in prices of other goods
An increase in the price of cucumbers decreases the supply of watermelons.
Change in producer expectations
An expectation of a substantial rise in future log prices decreases the supply of logs today.
Change in the number of suppliers
An increase in the number of tattoo parlors increases the supply of tattoos; the formation of women’s professional basketball leagues increases the supply of women’s professional basketball games.
LO2
3-12
Market Equilibrium
• Equilibrium occurs where the demand
• •
curve and supply curve intersect Surplus and shortage Rationing functions of prices
• The ability of the competitive forces of demand and supply to establish a price at which selling and buying decisions are consistent • leads to no surplus or shortage
LO3
3-13
Market Equilibrium • Competitive markets lead to efficient allocation of products • the result of competition is productive efficiency: least cost productive ways of making a product • also leads to allocative efficiency: the use of a particular mix of goods and services that are most highly valued by society
• equilibrium price and quantity in compet. markets leads to the assignment of resources that are “right” for society • Demand therefore reflects the marginal benefit of the good based on the utility received. Supply reflects the marginal coast of producing the good LO3
3-13
Market Equilibrium 6
6,000 Bushel Surplus
P
Qd
$5
2,000
4
4,000
3
7,000
2
11,000
1
16,000
Price (per bushel)
5
S
4 3 2
7,000 Bushel Shortage
1 0
2
4
67
8
10
P
Qs
$5
12,000
4
10,000
3
7,000
2
4,000
1
1,000
D 12
14
16
18
Bushels of Corn (thousands per week)
LO3
3-14
` Changes in Demand and Equilibrium
D increase: P, Q
D decrease: P, Q
P
P S
S
D2
D3
D1 0
0
Increase in demand
LO4
D4
Decrease in demand
3-17
` and Changes Changesin inDemand Supply andEquilibrium Equilibrium
S increase: P, Q
S decrease: P, Q
P
P S1
S4
S2
D
D 0
0
Increase in supply
LO4
S3
Decrease in supply
3-18
Government-Set Prices
• Price Ceilings • Set below equilibrium price • Rationing problem • Black markets • Example: Rent control
LO5
3-17
Government-Set Prices P
$3.50 P0
S
Ceiling
3.00 PC
D
Shortage
Qs
LO5
Q0
Qd
Q
3-18
Government-Set Prices
• Price Floors • Prices are set above the market •
LO5
price • Chronic surpluses Example: Minimum wage laws
3-19
Government-Set Prices P
S
Surplus
Floor $3.00 Pf
2.00 P0
D
Q Qd
LO5
Q0
Qs
3-20
What does Indiana Jones and Economics have in common? • Supply and Demand….. Clifford Style
23
McGraw-Hill/Irwin
Copyright © 2012 by The McGraw-Hill Companies, Inc. All rights reserved.
Markets
• Interaction between buyers and •
sellers Markets may be
• Local • National • International
• Price is discovered in the interactions of buyers and sellers LO1
3-2
Demand
• Schedule or curve • Amount consumers are willing and able to purchase at a given price – there is an inverse relationship between price and the quantity demanded • law of demand
LO1
3-3
Law of Demand • Other things equal, as price falls the quantity demanded rises, and as price rises the quantity demanded falls – not taking into account anything but prices – demand is only meaningful when related to a period of time (day, week, month, etc.) • w/o this detail we can’t ascertain if the demand is large or small • Reasons • Common sense • ordinarily people buy more of a product at a low $ than @ a high $ • this is why businesses offer “sales” LO1
3-4
Demand • (Reasons continued) • Law of diminishing marginal utility • the second purchase of any item brings less utility (satisfaction) than the proceeding, the third less, and so on • Income effect and substitution effects • i.e. - lower prices increase the purchasing power of consumers (higher $, opposite effect) • sub. e. - higher $ lead consumers to seek out substitutes for the high $ product, product whose price fell is now a “better deal” • these two combine to make consumers able and willing to buy more of a product at a low price than at a high price LO1
3-3
Demand
• Individual demand
•
LO1
–hypothetical demand schedule for a single consumer that is “willing and able” to buy the product Market demand –all consumers in the market – Mr. Clifford: Demand Curve
3-3
Determinants of Demand: Factors That Shift the Determinants of Demand Demand Curve Determinant Examples Change in buyers’ tastes
Physical fitness rises in popularity, increasing the demand for jogging shoes and bicycles; cell phone popularity rises, reducing the demand for land-line phones.
Change in the number of buyers
A decline in the birthrate reduces the demand for children’s toys.
Change in income
A rise in incomes increases the demand for normal goods such as restaurant meals, sports tickets, and necklaces while reducing the demand for inferior goods such as cabbage, turnips, and inexpensive wine.
Change in the prices of related goods
A reduction in airfares reduces the demand for bus transportation (substitute goods); a decline in the price of DVD players increases the demand for DVD movies (complementary goods).
Change in consumer expectations
Inclement weather in South America creates an expectation of higher future coffee bean prices, thereby increasing today’s demand for coffee beans.
LO1
3-7
The Demand Curve P 6
P Qd $5 10 4 20
3 35 2 55
Price (per bushel)
5
4
3
2
1
D
1 80 0
10
20
30
40
50
60
70
80
Q
Quantity Demanded (bushels per week)
LO1
3-5
Supply
• Schedule or curve • Amount producers are willing and
• • LO2
able to sell at a given price –Supply schedule: used to illustrate in tabular form the quantities of a product that will be supplied at various prices Individual supply Market supply 3-8
Law of Supply
• Other things equal, as the price rises
•
LO2
the quantity supplied rises, and as the price falls the quantity supplied falls Reasons • Price acts as an incentive to producers • At some point, costs will rise • Mr. Clifford - Supply 3-9
The Supply Curve P
Qs per Week
$5
60
4
50
3
35
2
20
1
5
Price (per bushel)
Supply of Corn Price per Bushel
S
5
4
3
2
1
0
10
20
30
40
50
60
70
Q
Quantity supplied (bushels per week)
LO2
3-11
Changes in Supply P $6
Change in Quantity S3 Supplied
S1
5
S2
Price (per bushel)
4
3
2
Change in Supply
1
0
2
4
6
8
10
12
14
16
Q
Quantity supplied (thousands of bushels per week)
LO2
3-11
Determinants of Supply Determinants of Supply: Factors That Shift the Supply Curve Determinant Examples Change in resource prices
A decrease in the price of microchips increases the supply of computers; an increase in the price of crude oil reduces the supply of gasoline.
Change in technology
The development of more effective wireless technology increases the supply of cell phones.
Change in taxes and subsidies
An increase in the excise tax on cigarettes reduces the supply of cigarettes; a decline in subsidies to state universities reduces the supply of higher education.
Change in prices of other goods
An increase in the price of cucumbers decreases the supply of watermelons.
Change in producer expectations
An expectation of a substantial rise in future log prices decreases the supply of logs today.
Change in the number of suppliers
An increase in the number of tattoo parlors increases the supply of tattoos; the formation of women’s professional basketball leagues increases the supply of women’s professional basketball games.
LO2
3-12
Market Equilibrium
• Equilibrium occurs where the demand
• •
curve and supply curve intersect Surplus and shortage Rationing functions of prices
• The ability of the competitive forces of demand and supply to establish a price at which selling and buying decisions are consistent • leads to no surplus or shortage
LO3
3-13
Market Equilibrium • Competitive markets lead to efficient allocation of products • the result of competition is productive efficiency: least cost productive ways of making a product • also leads to allocative efficiency: the use of a particular mix of goods and services that are most highly valued by society
• equilibrium price and quantity in compet. markets leads to the assignment of resources that are “right” for society • Demand therefore reflects the marginal benefit of the good based on the utility received. Supply reflects the marginal coast of producing the good LO3
3-13
Market Equilibrium 6
6,000 Bushel Surplus
P
Qd
$5
2,000
4
4,000
3
7,000
2
11,000
1
16,000
Price (per bushel)
5
S
4 3 2
7,000 Bushel Shortage
1 0
2
4
67
8
10
P
Qs
$5
12,000
4
10,000
3
7,000
2
4,000
1
1,000
D 12
14
16
18
Bushels of Corn (thousands per week)
LO3
3-14
` Changes in Demand and Equilibrium
D increase: P, Q
D decrease: P, Q
P
P S
S
D2
D3
D1 0
0
Increase in demand
LO4
D4
Decrease in demand
3-17
` and Changes Changesin inDemand Supply andEquilibrium Equilibrium
S increase: P, Q
S decrease: P, Q
P
P S1
S4
S2
D
D 0
0
Increase in supply
LO4
S3
Decrease in supply
3-18
Government-Set Prices
• Price Ceilings • Set below equilibrium price • Rationing problem • Black markets • Example: Rent control
LO5
3-17
Government-Set Prices P
$3.50 P0
S
Ceiling
3.00 PC
D
Shortage
Qs
LO5
Q0
Qd
Q
3-18
Government-Set Prices
• Price Floors • Prices are set above the market •
LO5
price • Chronic surpluses Example: Minimum wage laws
3-19
Government-Set Prices P
S
Surplus
Floor $3.00 Pf
2.00 P0
D
Q Qd
LO5
Q0
Qs
3-20
What does Indiana Jones and Economics have in common? • Supply and Demand….. Clifford Style
23
