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Chapter 3 - Demand and Supply 1
Learning Objectives Explain the law of demand Distinguish between changes in demand and
changes in quantity demanded
Explain the law of supply
Distinguish between changes in supply and changes in quantity supplied
Understand how supply and demand interact to determine equilibrium price and quantity
Chapter 3 - Demand and Supply 2
Did You Know That... The average price of an apartment-sized
condominium has often exceeded the average price of a standalone house?
The relative physical size of items does not determine the prices at which people exchange them for?
By using demand and supply you can develop a better understanding of why relative size of an item typically has little to do with the price at which it sells?
Chapter 3 - Demand and Supply 3
Markets
Markets
– Arrangements that individuals have for exchanging with one another
– Represent the interaction of buyers and sellers for goods and services
– Markets set the prices we pay and receive.• Automobile market• Health care market• Labor market• Stock market
Chapter 3 - Demand and Supply 4
The Law of Demand
Demand
– A schedule showing how much of a good or service people will purchase at any price during a specified time period, other things being constant
Chapter 3 - Demand and Supply 5
The Law of Demand
Law of Demand
– Quantity demanded is inversely related to price, holding other factors constant.
• Price Qd
• Price Qd
Chapter 3 - Demand and Supply 6
The Law of Demand
What are we holding constant?
– Income
– Tastes and preferences
– Price of other goods
– Many other factors
Chapter 3 - Demand and Supply 7
The Demand Schedule The demand schedule
– Table relating prices to quantity demanded
– We must consider • Time dimension• Constant-quality units
Demand Curve– A graphical representation of the demand schedule
– Negatively sloped line showing inverse relationship between price and quantity demanded, all else equal
Chapter 3 - Demand and Supply 8
The Individual Demand Schedule and the Individual Demand Curve
Chapter 3 - Demand and Supply 9
The Individual Demand Schedule and the Individual Demand Curve
Chapter 3 - Demand and Supply 10
The Demand ScheduleIndividual versus market demand curves
Market Demand
– The demand of all consumers in the marketplace for a particular good or service
– Summation at each price of the quantity demanded by each individual
Chapter 3 - Demand and Supply 11
The Horizontal Summation of Two Demand Curves
Chapter 3 - Demand and Supply 12
The Horizontal Summation of Two Demand Curves
Chapter 3 - Demand and Supply 13
The Market Demand Schedule for Flash Memory Pen Drives
Chapter 3 - Demand and Supply 14
The Market Demand Schedule for Flash Memory Pen Drives
Chapter 3 - Demand and Supply 15
Shifts in Demand
Scenario
– Imagine the federal government gives every student registered in a college, university, or technical school in the United States a notebook computer.
• If some factor other than price changes, we can show its effect by moving the entire demand curve, shifting the curve left or right.
Chapter 3 - Demand and Supply 16
A Shift in the Demand Curve
Suppose the federal government gives every student a notebook computer
Suppose universities prohibit the use of notebook computers
Chapter 3 - Demand and Supply 17
Determinants of Demand
Ceteris-Paribus Conditions
– Determinants of the relationship between price and quantity that are unchanged along a curve
– Changes in these factors cause a curve to shift
Chapter 3 - Demand and Supply 18
Normal and Inferior Goods
Normal Goods
– Goods for which demand rises as income rises, most goods are normal goods
Inferior Goods
– Goods for which demand falls as income rises
Chapter 3 - Demand and Supply 19
Shifts in Demand
Determinants of demand
– Income
– Tastes and preferences
– The prices of related goods
• Substitutes
• Complements
Chapter 3 - Demand and Supply 20
Shifts in Demand
Substitutes
– Two goods are substitutes when a change in the price of one causes a shift in demand for the other in the same direction as the price change.
Chapter 3 - Demand and Supply 21
Shifts in Demand
Complements
– Two goods are complements when a change in the price of one causes an opposite shift in the demand curve for the other.
Chapter 3 - Demand and Supply 22
Shifts in Demand
Determinants of demand
– Expectations
• Future prices
• Income
• Product availability
– Market size (number of buyers)
Chapter 3 - Demand and Supply 23
Shifts in DemandThe Determinants of Demand
Income: Normal Good
D1
Q/Units
D2D3
Price
Decrease in incomedecreases demand
Increase in incomeincreases demand
Chapter 3 - Demand and Supply 24
Shifts in DemandThe Determinants of Demand
Income: Inferior Good
D1
Q/Units
Decrease in incomeincreases demand
Increase in incomedecreases demand
Price
D2D3
Chapter 3 - Demand and Supply 25
Shifts in DemandThe Determinants of Demand
Tastes and Preferences
D1
Q/Units
Price
Hybrid vehicles• Increase in demand
D2
SUVs• Decrease in demand
D3
Chapter 3 - Demand and Supply 26
Shifts in DemandThe Determinants of Demand
Price of Related Goods: Substitutes
D1
Q/Butter
Butter and Margarine• Price of both = $2/lb• Price of margarine
increases to $3/lb• Demand for butter
increases
D2
Price
Chapter 3 - Demand and Supply 27
Shifts in DemandThe Determinants of Demand
Price of Related Goods: Complements
D1
Q/Speakers
Speakers and Amplifiers• Decrease the relative
price of amplifiers• Demand for speakers
increases
D2D3
Speakers and Amplifiers• Increase the relative
price of amplifiers• Demand for speakers
decreases
Price
Chapter 3 - Demand and Supply 28
Shifts in DemandThe Determinants of Demand
Expectations: Income, Future Prices
D1
Q/Units
A higher income or expectations of a higher future price will increase demand
D2D3
A lower income or expectations of a lower future price will decrease demand
Price
Chapter 3 - Demand and Supply 29
The Determinants of DemandMarket Size (Number of Buyers)
D1
Q/Units
Increase in the number of buyers increases demand
D2D3
Decrease in the number of buyers decreases demand
Price
Shifts in Demand
Chapter 3 - Demand and Supply 30
Shifts in Demand
Changes in demand versus changes in quantity demanded
– A change in one or more of the non-price determinants (income, tastes, etc.) will lead to a change in demand.
• This is a shift of the whole curve.
Chapter 3 - Demand and Supply 31
Shifts in Demand
Changes in demand versus changes in quantity demanded
– A change in a good’s own price leads to a change in quantity demanded.
• This is a movement along the same curve. ∆D is not the same as ∆Qd.
Chapter 3 - Demand and Supply 32
Movement Along a Given Demand Curve
A change in the price changes the quantity of a good demanded, movement along the curve
Chapter 3 - Demand and Supply 33
The Law of Supply
Supply
– Schedule showing relationship between price and quantity supplied for a specified time period, other things being equal
– The amount of a product or service that firms are willing to sell at alternative prices
Chapter 3 - Demand and Supply 34
The Law of Supply
Law of Supply
– The price of a product or service and the quantity supplied are directly related.
• P Qs
• P Qs
Chapter 3 - Demand and Supply 35
The Supply ScheduleThe supply schedule is a table relating
prices to quantity supplied at each price.
Supply Curve
– A graphical representation of the supply schedule
– Positively sloped line showing direct relationship between price and quantity supplied, all else equal
Chapter 3 - Demand and Supply 36
The Individual Producer’s Supply Schedule and Supply Curve for Flash
Memory Pen Drives
Chapter 3 - Demand and Supply 37
The Individual Producer’s Supply Schedule and Supply Curve for Flash
Memory Pen Drives
Chapter 3 - Demand and Supply 38
Horizontal Summation of Supply Curves
Chapter 3 - Demand and Supply 39
Horizontal Summation of Supply Curves
Chapter 3 - Demand and Supply 40
The Market Supply Schedule and the Market Supply Curve for Flash Memory
Pen Drives
Chapter 3 - Demand and Supply 41
The Market Supply Schedule and the Market Supply Curve for Flash Memory
Pen Drives
Chapter 3 - Demand and Supply 42
Shifts in Supply
Scenario
– A new method of manufacturing flash memory pen drives reduces the cost of production dramatically.
Chapter 3 - Demand and Supply 43
A Shift in the Supply Curve
If some other factor than price changes, the only way we can show its effect is by moving the entire supply curve
If costs decrease, supply increases
If costs increase, supply decreases
Chapter 3 - Demand and Supply 44
A Shift in the Supply Curve
S1
Quantity of Flash Memory Pen Drives Supplied (millions of constant-quality units per year)
Pric
e pe
r F
lash
Mem
ory
Pen
Driv
e ($
)
2 4 6 80
1
2
3
4
5
10 12 14
S2
a
cWhen supply increases the quantity supplied will be greater at each price
Chapter 3 - Demand and Supply 45
A Shift in the Supply Curve
S1
Quantity of Flash Memory Pen Drives Supplied(millions of constant-quality units per year)
2 4 6 80
1
2
3
4
5
10 12 14
a
b
d
c
S2
When supply increases the quantity supplied will be greater at each price
Pric
e pe
r F
lash
Mem
ory
Pen
Driv
e ($
)
Chapter 3 - Demand and Supply 46
A Shift in the Supply Curve
Quantity of Flash Memory Pen Drives Supplied(millions of constant-quality units per year)
2 4 6 80
1
2
3
4
5
10 12 14
S1
a
c
S3
b
dWhen supply decreases the quantity supplied will be less at each price
Pric
e pe
r F
lash
Mem
ory
Pen
Driv
e ($
)
Chapter 3 - Demand and Supply 47
Shifts in Supply
Determinants of supply
– Cost of inputs
– Technology and productivity
– Taxes and subsidies
– Price expectations
– Number of firms in industry
Chapter 3 - Demand and Supply 48
Shifts in SupplyThe Determinants of Supply
Cost of Inputs
S1
Q/Units
Decrease in cost increases supply
S2Increase in costdecreases supply
S3
Price
Chapter 3 - Demand and Supply 49
Shifts in SupplyThe Determinants of SupplyTechnology and Productivity
S1
Q/Units
Improvements in technology or increases in productivity increase supply
S2
Decreases in productivity decrease supply
S3
Price
Chapter 3 - Demand and Supply 50
Shifts in SupplyThe Determinants of Supply
Taxes and Subsidies
S1
Q/Units
Decreases in taxes or increases in subsidies increase supply
S2
Increases in taxes or decreases in subsidies decrease supply
S3
Price
Chapter 3 - Demand and Supply 51
Shifts in SupplyThe Determinants of Supply
Price Expectations
S1
Q/Units
Expectations of lower future prices increase supply
S2Expectations of higher future prices decrease supply
S3
Price
Chapter 3 - Demand and Supply 52
Shifts in SupplyThe Determinants of SupplyNumber of Firms in Industry
S1
Q/Units
Increase in the number of firms increases supply
S2Decrease in the number of firms decreases supply
S3
Price
Chapter 3 - Demand and Supply 53
Shifts in Supply
Changes in supply versus changes in quantity supplied
– A change in one or more of the non-price determinants will lead to a change in supply.
• This is a shift of the whole curve.
Chapter 3 - Demand and Supply 54
Shifts in Supply
Changes in supply versus changes in quantity supplied
– A change in a good’s own price leads to a change in quantity supplied.
• This is a movement along the same curve. ∆S is not the same as ∆Qs.
Chapter 3 - Demand and Supply 55
Putting Demand and Supply Together
Putting demand and supply together
Equilibrium (Market Clearing) Price
– The price that clears the market
– The price at which quantity demanded equals quantity supplied
– The price where the demand curve intersects the supply curve
Chapter 3 - Demand and Supply 56
Putting Demand and Supply Together
Chapter 3 - Demand and Supply 57
Putting Demand and Supply Together
Chapter 3 - Demand and Supply 58
Putting Demandand Supply Together
Equilibrium
– The situation when quantity supplied equals quantity demanded at a particular price
Chapter 3 - Demand and Supply 59
Putting Demandand Supply Together
Shortages
– The situation when quantity demanded is greater than quantity supplied
• Qd > Qs
– Exist at any price below the market clearing price
Chapter 3 - Demand and Supply 60
Putting Demandand Supply Together
Surpluses
– The situation when quantity supplied is greater than quantity demanded
• Qd < Qs
– Exist at any price above the market clearing price
Chapter 3 - Demand and Supply 61
Policy Example: Should Shortages in the Ticket Market Be Solved by
Scalpers?If you’ve ever tried to get tickets to a big
game you know all about “shortages.”
Since the quantity of tickets is fixed, the price can go pretty high.
Enter the scalper.
Chapter 3 - Demand and Supply 62
Shortages of Super Bowl Tickets
Chapter 3 - Demand and Supply 63
Issues and Applications: The Market Clearing Prices of Baseball Cards
Various companies, such as Topps and Upper Deck, print sports trading cards that provide photos and stats on pro athletes.
Why are some of the market clearing prices so high?
The answer has to do with demand and supply. (A relatively low supply helps explain the relatively high market clearing price.)
Chapter 3 - Demand and Supply 64
Baseball Cards with the Highest Market Clearing
Prices
Chapter 3 - Demand and Supply 65
Summary Discussion of Learning Objectives
The law of demand says that prices and quantity demanded are inversely related.– At a higher price people buy less, at a lower
price people buy more.
Chapter 3 - Demand and Supply 66
Summary Discussionof Learning Objectives
A change in quantity demanded versus a change in demand
– A change in quantity demanded is a movement along the same demand curve.
– A change in demand is a shift of the whole demand curve.
Chapter 3 - Demand and Supply 67
Summary Discussion of Learning Objectives
The law of supply states that price and quantity supplied are directly related.– At a high price firms offer more; at a low price firms
offer less.
A change in quantity supplied versus a change in supply– A change in quantity supplied is a movement along the
same supply curve.– A change in supply is a shift of the whole
supply curve.
Chapter 3 - Demand and Supply 68
Summary Discussion of Learning Objectives
Determining market price and equilibrium quantity
– The demand and supply curves intersect at the market clearing, or equilibrium point.
– Surpluses exist if the price of the good is greater than the market price.
– Shortages exist when the price of a good is below the market price.