Demand, Supply, and EquilibriumMicroeconomics – Unit 2: Nature and Function of

Product Markets

The Relationship Between Demand

and Total/Marginal Utility Total Utility

Marginal Utility

The Law of Diminishing Marginal Utility

Demand

Amounts of a product consumers are

willing and able to buy

Law of Demand = inverse or negative

relationship between price and quantity

demanded

Pri

ce

Quantity

D

D

Law of Demand

Why?

◦ Price is an obstacle to buying

◦ Diminishing marginal utility

Determinants of Demand

Consumer tastes/preferences

# of buyers in the market

Consumers’ incomes

◦ Income Effect

Prices of related goods

◦ Substitute goods

Substitution Effect

◦ Complementary goods

Consumer expectations

Supply

Amounts of a product that producers are

willing and able to make available for sale

Law of Supply = positive relationship

between price and quantity supplied

Pri

ce

Quantity

S

S

Law of Supply

Why?

◦ Price = incentive to sell more product

◦ Increases in marginal cost

Determinants of Supply

Resource prices

Technology

Taxes and subsidies

Prices of other goods

◦ Substitution in production

Producer expectations

# of sellers in the market

Market Equilibrium

Equilibrium price = “market clearing

price”

Equilibrium price (Po) =

◦ A. Productive Efficiency

◦ B. Allocative Efficiency

Market ensures MB ≥ MC

Any price above equilibrium = surplus

Any price below equilibrium = shortage

Producer and Consumer Surplus

Consumer Surplus = the sum of the

products of the prices and quantities

consumers would have been willing to

buy ABOVE the equilibrium price

Producer Surplus = the sum of the

products of the prices and quantities

suppliers would have been willing to sell

BELOW the equilibrium price

Producer and Consumer Surplus

Calculating Producer and Consumer

Surplus Calculating Producer and Consumer

Surplus

Price Ceilings

Gov’t sets a maximum price sellers may

charge consumers

EX: rent controls, usury lawsPri

ce

Quantity

S

S

D

D

Po

Pc

QoQs Qd

Shortage

Price Floors

Gov’t sets a minimum price buyers may

pay sellers

EX: crop price supports, minimum wagesPri

ce

Quantity

S

S

D

D

Po

Pf

QoQd Qs

Surplus

Crash Course Economics

Pay particular attention to the

explanation of “deadweight loss” (or in

your reading “efficiency loss”).

Crash Course - Price Controls, Subsidies

and the Problem with Good Intentions

Greebies

Changes in

Supply/Demand/Equilibrium ∆’s in Demand

◦ Raises or reduces both equilibrium price

(Price) and equilibrium quantity (Qty)

∆’s in Supply

◦ Increase in S = lower Price, higher Qty

◦ Decrease in S = higher Price, lower Qty

Graph Shift

Changes in

Supply/Demand/Equilibrium S increases, D decreases

◦ Qty depends on relative increase in S vs. D

S decreases, D increases

◦ Qty depends on relative increase in S vs. D

S decreases, D decreases

◦ If decrease in S > decrease in D = Price will

increase, Qty will decrease

◦ If decrease in S < decrease in D = Price will

decrease, Qty will decrease

Changes in

Supply/Demand/Equilibrium S increases, D increases

◦ If increase in S > increase in D = Price will

decrease Qty will increase

◦ If increase in S < increase in D = Price will

increase, Qty will increase

Graph Shift

Changes in

Demand/Supply/Equilibrium If increase in S EQUALs the increase in D

then Price will stay the same.

If decrease in S EQUALs the decrease in

D then Price will stay the same

Closure: Exit Ticket Activity

Answer question on Socrative