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Chapter 4
Demand and Supply
The Market
• can be a location, network of buyers and sellers for a product, demand for a product or a price-determination process
• the interaction of buyers and sellers determines what the price will be for a good or service
Demand
• the quantity of a good or service buyers will purchase at various prices during a given period of time
• the law of demand states the quantity demanded varies inversely with price (Ceteris Paribus – all other things remain the same)
Demand
Reasons supporting the law of demand:
• Substitution Effect – we buy different goods when prices rise or fall
• Income Effect – we can buy more if price falls or less if it rises
Demand
• the demand schedule is the entire relationship between each price and quantity demanded
• the demand is downward-sloping
Demand
• the sum of all individual consumer demand curves for a good is the market demand curve
• “demand” is the entire set of price and quantity relationships while “quantity demanded” is the amount demanded at one price
Supply
• the quantities sellers will offer for sale at various prices during a given period of time
• law of supply states the quantity supplied will increase if price increases and fall if price falls
• “supply” is the entire set of price and quantity relationships while “quantity supplied” is the amount offered at one price
Supply
• Supply curve is upward sloping to the right
Market Equilibrium
• the interaction of buyers and sellers, of demand and supply
• equilibrium price is the result of supply and demand forces
• a price above the equilibrium leads to a surplus which can only be cleared by a drop in price
• a price below equilibrium leads to a shortage and can only be cleared with a price increase
Market Equilibrium
• The intersection of demand and supply
Demand Determinants(changes in Demand)
• Non-price factors shifting the entire curve (at every price)
1. Income – more leads to increased demand
2. Population – more leads to increased demand
3. Tastes/Preferences – various reasons, reports, advertising
4. Expectations – of a future event may lead to more or less demand now
5. Price of Substitute Goods – if a compliment, demand shifts in the same direction; if substitute the opposite direction; eg. bread price increase, demand for butter decreases (compliment); e.g. steak price increases, hamburger demand increases
Supply Determinants(changes in Supply)
1. Costs – increase/decrease in production costs decrease or increase supply
2. Number of Sellers – new producers increase market supply
3. Technology – usually decreases costs and increases supply
4. Nature – weather or disaster can affect supply 5. Prices of related outputs – if another good has
higher price, producers may shift production
Movement along Demand curve
• Can only be caused by change in price
Movement along Supply Curve
• Can only be caused by price change
Shortage
• decrease in price, away from equilibrium
• Excess will be cleared with an increase in price and shrinking quantity demanded
Surplus
• Increase in price, causing excess quantity supplied
• Cleared by lowering prices and reducing quantity demanded
Change in Demand
• Can only be caused by a demand determinant (no price change)
• The whole demand curve shifts
Change in Supply
• Caused by change in supply determinant (no price change)