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Micro232 2004 - jafgac
Supply and DemandSupply and Demand
Chapter 4
Micro232 2004 JAFGAC
Laugher CurveLaugher Curve
Q. What do you get when you cross the Godfather with an economist?
A. An offer you can't understand.
Micro232 2004 JAFGAC
DemandDemand Demand means the willingness and
capacity to pay. Prices are the tools by which the market
coordinates individual desires.
Micro232 2004 JAFGAC
The Law of DemandThe Law of Demand Law of demand – there is an inverse
relationship between price and quantity demanded. Quantity demanded rises as price falls,
other things constant. Quantity demanded falls as prices rise,
other things constant.
Micro232 2004 JAFGAC
The Law of DemandThe Law of Demand What accounts for the law of demand?
People tend to substitute for goods whose price has gone up.
Micro232 2004 JAFGAC
The Demand CurveThe Demand Curve The demand curve is the graphic
representation of the law of demand. The demand curve slopes downward and
to the right. As the price goes up, the quantity
demanded goes down.
Micro232 2004 JAFGAC
D
Pric
e (p
er u
nit)
0Quantity demanded (per unit of time)
PA
QA
A
A Sample Demand CurveA Sample Demand Curve
Micro232 2004 JAFGAC
Other Things ConstantOther Things Constant Other things constant places a limitation
on the application of the law of demand. All other factors that affect quantity
demanded are assumed to remain constant, whether they actually remain constant or not.
Micro232 2004 JAFGAC
Other Things ConstantOther Things Constant Other things constant places a limitation
on the application of the law of demand. These factors may include changing
tastes, prices of other goods, income, even the weather.
Micro232 2004 JAFGAC
Demand refers to a schedule of quantities of a good that will be bought per unit of time at various prices, other things constant.Graphically, it refers to the entire demand curve.
Shifts in Demand Versus Shifts in Demand Versus Movements Along a Movements Along a Demand CurveDemand Curve
Micro232 2004 JAFGAC
Quantity demanded refers to a specific amount that will be demand per unit of time at a specific price.
Graphically, it refers to a specific point on the demand curve.
Shifts in Demand Versus Shifts in Demand Versus Movements Along a Movements Along a Demand CurveDemand Curve
Micro232 2004 JAFGAC
A movement along a demand curve is the graphical representation of the effect of a change in price on the quantity demanded.
Shifts in Demand Versus Shifts in Demand Versus Movements Along a Movements Along a Demand CurveDemand Curve
Micro232 2004 JAFGAC
A shift in demand is the graphical representation of the effect of anything other than price on demand.
Shifts in Demand Versus Shifts in Demand Versus Movements Along a Movements Along a Demand CurveDemand Curve
Micro232 2004 JAFGAC
Change in Quantity Change in Quantity DemandedDemanded
D1
Change in quantity demanded(a movement along the curve)
B
0
Pric
e (p
er u
nit)
Quantity demanded (per unit of time)100
$2
$1
200
A
Micro232 2004 JAFGAC
D0
D1
Shift in DemandShift in DemandP
rice
(per
uni
t)
Quantity demanded (per unit of time)100
$2
$1
200
B A
Change in demand(a shift of the curve)
250
Micro232 2004 JAFGAC
Shift Factors of DemandShift Factors of Demand Shift factors of demand are factors that
cause shifts in the demand curve: Society's income. The prices of other goods. Tastes. Expectations. Taxes on subsidies to consumers.
Micro232 2004 JAFGAC
IncomeIncome An increase in income will increase
demand for normal goods. An increase in income will decrease
demand for inferior goods.
Micro232 2004 JAFGAC
Price of Other GoodsPrice of Other Goods When the price of a substitute good falls,
demand falls for the good whose price has not changed.
When the price of a complement good falls, demand rises for the good whose price has not changed.
Micro232 2004 JAFGAC
TastesTastes A change in taste will change demand with
no change in price.
Micro232 2004 JAFGAC
ExpectationsExpectations If you expect your income to rise, you may
consume more now. If you expect prices to fall in the future, you
may put off purchases today.
Micro232 2004 JAFGAC
Taxes and SubsidiesTaxes and Subsidies Taxes levied on consumers increase the
cost of goods to consumers, thereby reducing demand.
Subsidies have an opposite effect.
Micro232 2004 JAFGAC
The Demand TableThe Demand Table The demand table assumes all the
following: As price rises, quantity demanded
declines. Quantity demanded has a specific time
dimension to it. All the products involved are identical in
shape, size, quality, etc.
Micro232 2004 JAFGAC
The Demand TableThe Demand Table The demand table assumes all the
following: The schedule assumes that everything
else is held constant.
Micro232 2004 JAFGAC
From a Demand Table to From a Demand Table to a Demand Curvea Demand Curve You plot each point in the demand table on
a graph and connect the points to derive the demand curve.
Micro232 2004 JAFGAC
From a Demand Table to From a Demand Table to a Demand Curvea Demand Curve The demand curve graphically conveys the
same information that is on the demand table.
Micro232 2004 JAFGAC
From a Demand Table to From a Demand Table to a Demand Curvea Demand Curve The curve represents the maximum price
that you will pay for various quantities of a good – you will happily pay less.
Micro232 2004 JAFGAC
Price
per
DVD
s (in
dol
lars
)
A Demand Curve
Quantity of DVDs demanded (per week)1 2 3 4 5 6 7 8 9 10 11 12
13
$6.00
5.00
4.00
3.00
2.00
1.00 .50
0
3.50E
D
C
BFA
From a Demand Table to From a Demand Table to a Demand Curvea Demand Curve
Price per cassette
ABCDE
A Demand Table
DVD rentals demanded per
week
$0.50 1.002.003.004.00
98642
Demand for DVDs
G
Micro232 2004 JAFGAC
Individual and Market Individual and Market Demand CurvesDemand Curves A market demand curve is the horizontal
sum of all individual demand curves. This is determined by adding the
individual demand curves of all the demanders.
Micro232 2004 JAFGAC
Individual and Market Individual and Market Demand CurvesDemand Curves Sellers estimate total market demand for
their product which becomes smooth and downward sloping curve.
From Individual DemandsFrom Individual Demandsto a Market Demand to a Market Demand CurveCurve
(1)Price per cassette
$.0.501.001.502.002.503.003.504.00
(2)Alice’s
demand
(3)Bruce’s demand
(2)Cathy’s demand
(3)Market demand
98765432
65432100
11000000
16141197532
ABCDEFGH Cathy Bruce Alice
D
A
C
EF
G
Quantity of cassettes demanded per week2
$4.00
3.50
3.00
2.50
2.00
1.50
1.00
0.50
0Pr
ice p
er c
asse
tte (i
n do
llars
)
4 6 8 10 12 14 16
B
Market demand
McGraw-Hill/Irwin © 2004 The McGraw-Hill Companies, Inc., All Rights Reserved.
Micro232 2004 JAFGAC
The Law of DemandThe Law of Demand The demand curve is downward sloping for
the following reasons: At lower prices, existing demanders buy
more. At lower prices, new demanders enter
the market.
Micro232 2004 JAFGAC
SupplySupply Individuals control the factors of production
– inputs, or resources, necessary to produce goods.
Individuals supply factors of production to intermediaries or firms.
Micro232 2004 JAFGAC
SupplySupply The analysis of the supply of produced
goods has two parts: An analysis of the supply of the
factors of production to households and firms.
An analysis of why firms transform those factors of production into usable goods and services.
Micro232 2004 JAFGAC
The Law of SupplyThe Law of Supply There is a direct relationship between price
and quantity supplied. Quantity supplied rises as price rises,
other things constant. Quantity supplied falls as price falls,
other things constant.
Micro232 2004 JAFGAC
The Law of SupplyThe Law of Supply The law of supply is accounted for by two
factors: When prices rise, firms substitute
production of one good for another. Assuming firms’ costs are constant, a
higher price means higher profits.
Micro232 2004 JAFGAC
The Supply CurveThe Supply Curve The supply curve is the graphic
representation of the law of supply. The supply curve slopes upward to the
right. The slope tells us that the quantity
supplied varies directly – in the same direction – with the price.
Micro232 2004 JAFGAC
S
A
Quantity supplied (per unit of time)
0
Pric
e (p
er u
nit)
PA
QA
A Sample Supply CurveA Sample Supply Curve
Micro232 2004 JAFGAC
Shifts in Supply Versus Shifts in Supply Versus Movements Along a Movements Along a Supply CurveSupply Curve Supply refers to a schedule of quantities a
seller is willing to sell per unit of time at various prices, other things constant.
Micro232 2004 JAFGAC
Quantity supplied refers to a specific amount that will be supplied at a specific price.
Shifts in Supply Versus Shifts in Supply Versus Movements Along a Movements Along a Supply CurveSupply Curve
Micro232 2004 JAFGAC
Changes in price causes changes in quantity supplied represented by a movement along a supply curve.
Shifts in Supply Versus Shifts in Supply Versus Movements Along a Movements Along a Supply CurveSupply Curve
Micro232 2004 JAFGAC
A movement along a supply curve – the graphic representation of the effect of a change in price on the quantity supplied.
Shifts in Supply Versus Shifts in Supply Versus Movements Along a Movements Along a Supply CurveSupply Curve
Micro232 2004 JAFGAC
If the amount supplied is affected by anything other than a change in price, there will be a shift in supply.
Shifts in Supply Versus Shifts in Supply Versus Movements Along a Movements Along a Supply CurveSupply Curve
Micro232 2004 JAFGAC
Shift in supply – the graphic representation of the effect of a change in a factor other than price on supply.
Shifts in Supply Versus Shifts in Supply Versus Movements Along a Movements Along a Supply CurveSupply Curve
Micro232 2004 JAFGAC
Shift in SupplyShift in SupplyP
rice
(per
uni
t)
Quantity supplied (per unit of time)
S0
Shift in Supply(a shift of the curve)
S1
$15 A B
1,250 1,500
Micro232 2004 JAFGAC
Change in quantity supplied (a movement along the curve)
Change in Quantity Change in Quantity Supplied Supplied
Pric
e (p
er u
nit)
Quantity supplied (per unit of time)
S0
$15 A
1,250 1,500
B
Micro232 2004 JAFGAC
Shift Factors of SupplyShift Factors of Supply Other factors besides price affect how
much will be supplied: Prices of inputs used in the production of
a good. Technology. Suppliers’ expectations. Taxes and subsidies.
Micro232 2004 JAFGAC
Price of InputsPrice of Inputs When costs go up, profits go down, so that
the incentive to supply also goes down. If costs go up substantially, the firm may
even shut down.
Micro232 2004 JAFGAC
TechnologyTechnology Advances in technology reduce the
number of inputs needed to produce a given supply of goods.
Costs go down, profits go up, leading to increased supply.
Micro232 2004 JAFGAC
ExpectationsExpectations If suppliers expect prices to rise in the
future, they may store today's supply to reap higher profits later.
Micro232 2004 JAFGAC
Taxes and SubsidiesTaxes and Subsidies When taxes go up, costs go up, and profits
go down, leading suppliers to reduce output.
When government subsidies go up, costs go down, and profits go up, leading suppliers to increase output.
Micro232 2004 JAFGAC
The Supply TableThe Supply Table Each supplier follows the law of supply. When price rises, each supplies more, or
at least as much as each did at a lower price.
Micro232 2004 JAFGAC
From a Supply Table to a From a Supply Table to a Supply CurveSupply Curve To derive a supply curve from a supply
table, you plot each point in the supply table on a graph and connect the points.
Micro232 2004 JAFGAC
From a Supply Table to a From a Supply Table to a Supply CurveSupply Curve The supply curve represents the set of
minimum prices an individual seller will accept for various quantities of a good.
Micro232 2004 JAFGAC
From a Supply Table to a From a Supply Table to a Supply CurveSupply Curve Competing suppliers’ entry into the market
places a limit on the price any supplier can charge.
Micro232 2004 JAFGAC
Individual and Market Individual and Market Supply CurvesSupply Curves The market supply curve is derived by
horizontally adding the individual supply curves of each supplier.
Micro232 2004 JAFGAC
From Individual Supplies From Individual Supplies to a Market Supplyto a Market Supply
Quantities Supplied
ABCDEFGHI
(1)Price
(per DVD)
(2) Ann's Supply
(5)MarketSupply
(4)Charlie'sSupply
$0.000.501.001.502.002.503.003.504.00
012345678
001234555
000000022
013579111415
(3)Barry's Supply
Micro232 2004 JAFGAC
1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16
From Individual Supplies From Individual Supplies to a Market Supplyto a Market Supply
Pric
e pe
r DV
D
Charlie Barry Ann
Quantity of DVDs supplied (per week)
$4.00
3.50
3.00
2.50
2.00 1.50
1.00
0.50 0
IH
G
F
ED
C
BA
Market Supply
CA
Micro232 2004 JAFGAC
The Interaction of Supply The Interaction of Supply and Demandand Demand The English historian Thomas Carlyle once
said:“Teach any parrot the words supply and demand and you’ve got an economist.”
Micro232 2004 JAFGAC
EquilibriumEquilibrium Equilibrium is a concept in which opposing
dynamic forces cancel each other out.
Micro232 2004 JAFGAC
EquilibriumEquilibrium In a free market, the forces of supply and
demand interact to determine equilibrium quantity and equilibrium price.
Micro232 2004 JAFGAC
EquilibriumEquilibrium Equilibrium price – the price toward
which the invisible hand drives the market. Equilibrium quantity – the amount
bought and sold at the equilibrium price.
Micro232 2004 JAFGAC
What Equilibrium Isn’tWhat Equilibrium Isn’t Equilibrium isn’t a state of the world, it is a
characteristic of a model. Equilibrium isn’t inherently good or bad, it
is simply a state in which dynamic pressures offset each other.
Micro232 2004 JAFGAC
What Equilibrium Isn’tWhat Equilibrium Isn’t When the market is not in equilibrium, you
get either excess supply or excess demand, and a tendency for price to change.
Micro232 2004 JAFGAC
Excess SupplyExcess Supply Excess supply – a surplus, the quantity
supplied is greater than quantity demanded
Prices tend to fall.
Micro232 2004 JAFGAC
Excess DemandExcess Demand Excess demand – a shortage, the quantity
demanded is greater than quantity supplied
Prices tend to rise.
Micro232 2004 JAFGAC
Price AdjustsPrice Adjusts The greater the difference between
quantity supplied and quantity demanded, the more pressure there is for prices to rise or fall.
Micro232 2004 JAFGAC
Price AdjustsPrice Adjusts When quantity demanded equals quantity
supplied, prices have no tendency to change.
Micro232 2004 JAFGAC
The Graphical Interaction The Graphical Interaction of Supply and Demandof Supply and Demand
Micro232 2004 JAFGAC
A
The Graphical Interaction The Graphical Interaction of Supply and Demandof Supply and Demand
Pric
e pe
r DV
D
$5.00
4.00
3.50
3.00
2.50
2.00
1.50
1.00
S
D
Quantity of DVDs supplied and demanded
C
Excess demand
1 2 3 4 5 6 7 8 9 10 11 12
Excess supply
E
Micro232 2004 JAFGAC
The Graphical Interaction The Graphical Interaction of Supply and Demandof Supply and Demand When price is $3.50 each, quantity
supplied equals 7 and quantity demanded equals 3.
The excess supply of 4 pushes price down.
Micro232 2004 JAFGAC
The Graphical Interaction The Graphical Interaction of Supply and Demandof Supply and Demand When price is $1.50 each, quantity
supplied equals 3 and quantity demanded equals 7.
The excess demand of 4 pushes price up.
Micro232 2004 JAFGAC
The Graphical Interaction The Graphical Interaction of Supply and Demandof Supply and Demand When price is $2.50 each, quantity
supplied equals 5 and quantity demanded equals 5.
There is no excess supply or excess demand, so price will not rise or fall.
Micro232 2004 JAFGAC
Political and Social Political and Social Forces and EquilibriumForces and Equilibrium Political and social forces can push price
away from a supply/demand equilibrium. These forces create an equilibrium where
quantity supplied won’t equal quantity demanded.
Micro232 2004 JAFGAC
Shifts in Supply and Shifts in Supply and DemandDemand Shifts in either supply or demand change
equilibrium price and quantity.
Micro232 2004 JAFGAC
Increase in DemandIncrease in Demand An increase in demand creates excess
demand at the original equilibrium price. The excess demand pushes price upward
until a new higher price and quantity are reached.
Micro232 2004 JAFGAC
Pr ic
e (p
e r D
VD
s )
A
S0
Quantity of DVDs (per week)
$2.50
2.25
0 98 10
Excess demand
D1
Increase in DemandIncrease in Demand
D0
B
Micro232 2004 JAFGAC
Decrease in SupplyDecrease in Supply A decrease in supply creates excess
demand at the original equilibrium price. The excess demand pushes price upward
until a new higher price and lower quantity are reached.
Micro232 2004 JAFGAC
A
Decrease in SupplyDecrease in SupplyP
r ice
(per
DV
Ds )
Quantity of DVDs (per week)
$2.50
2.25
0 98 10
D0
S1S0
C
B Excess demand
Micro232 2004 JAFGAC
The Limitations Of The Limitations Of Supply And Demand Supply And Demand AnalysisAnalysis Sometimes supply and demand are
interconnected. Other things don't remain constant.
Micro232 2004 JAFGAC
The Limitations Of The Limitations Of Supply And Demand Supply And Demand AnalysisAnalysis All actions have a multitude of ripple and
possible feedback effects. The ripple effect is smaller when the
goods are a small percentage of the entire economy.
Micro232 2004 JAFGAC
The Limitations Of The Limitations Of Supply And Demand Supply And Demand AnalysisAnalysis The other-things-constant assumption is
likely not to hold when the goods represent a large percentage of the entire economy.
Micro232 2004 JAFGAC
The Fallacy of The Fallacy of CompositionComposition The fallacy of composition is the false
assumption that what is true for a part will also be true for the whole.
Micro232 2004 JAFGAC
The Fallacy of The Fallacy of CompositionComposition The fallacy of composition is of central
relevance to macroeconomics. In macroeconomics, the other-things-
constant assumption, central to microeconomic supply/demand analysis, cannot hold.
Micro232 2004 - jafgac
Supply and DemandSupply and Demand
End of Chapter 4