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Chapter 6.1
Combining Supply and Demand
Supply + Demand and balance Market Equilibrium Govt control of prices Price ceilings and Price floors
Balancing the Market
Combining Demand and Supply Schedules will allow a common ground to be found
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Equilibrium
Shortage
Surplus
Equilibrium
Point at which demand = supply At equilibrium, market is stable
If the points are anywhere else Market Disequilibrium
Excess Demand Excess Supply
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Equilibrium
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Shortage (excess demand)
Surplus (excess supply)
Govt Intervention
Govt regulation can include price ceilings and floors
Price Ceilings - max price Rent control Creates greater demand
Govt Intervention
Problems associated with Price Ceilings Long lists/lines Discrimination Bribery Abuse Limit on profits
Cut costs/ maintenance
Govt Intervention
Price floors - minimum price
Minimum wage Gives everyone an incentive to work
Can create a surplus of labor Employers not willing to hire as many
employees at higher wages
6.2 Changes in Market Equilibrium
How do prices change in the market
New equilibrium with change in supply and demand
The market tends to move towardequilibrium
More demand leads to higher prices Prices that are too high lead to less
demand
Too much surplus will cause a slash in prices
Falling prices creates higher demand
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Shifts in Supply
Equilibrium - where supply equals demand A shift in the supply curve will create a
new equilibrium point
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If the price doesnot change, there will be a surplus
To become balanced again, prices will drop
New Equilibrium Is along the
Demand curve,No shift in
the demand curve
Equilibrium is always changing as markets change
Technology is always improving
Rebates and sales are a method of moving goods off the shelves
Shift in Supply
When costs of production go up, supply goes down
Curve shifts left
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Shifts in Demand
If there is a sudden increase in demand Curve shifts to the right New demand is greater than supply
Creates a shortage
Search costs - financial and opportunity costs consumers pay in looking for a good
Shifts in Demand
Goods that are available get distributed to different stores Creates long lines limits on how many may be purchased “first come, first serve” Bidding wars
Price will continue to rise until Demand is met
Increase in Demand
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Decrease in Demand
After a fad, demand can drop as fast as it went up
Now there is a surplus
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The Role of Prices
Prices in the Free Market
Advantages to price based system
Price based system leading to more choices and more efficient use of resources
6.3
Prices are key to Equilibrium
Prices help move land, labor and capital to the producers and finished goods to consumers
Without prices, there would be no consistent way to measure demand
Advantages
1. Price as incentive Communicate what goods are in short
supply or more available Produce more or less
2. Price as signals If prices are high
Producers willing to make more Consumers will buy less
Low price Slow production Consumers buy more
Advantages
3. Flexibility Increase in demand will increase price Supply Shock - sudden shortage of a
good How does the available supply get split
up Raising price keeps only those who can
afford a good in the market Rationing - dividing up goods using
methods other than price Rationing is the basis of central planning
4. Wider Variety of Goods Prices allow consumers to pick from
similar types of goods
Soviet Union vs USA
The Black Market - when people sell goods without regard for government controls on price or quantity
Advantages
5. Efficiency Prices allow resources to be used
where they are most valuable Where consumers want them to go
Advantages
Adam Smith Businesses prosper by finding out what people
want and making it
Problems 1. Imperfect competition
Monopolies, oligopolies
2. Spillover costs Costs that fall on others
3. Imperfect information May lead to a bad investment
