Chapter 3: Demand and Supply ECON 152 – PRINCIPLES OF MICROECONOMICS Materials include content from Pearson Addison-Wesley which has been modified by the instructor and displayed with permission of the publisher. All rights reserved.

2 Markets –Arrangements that individuals have for exchanging with one another –Represent the interaction of buyers and sellers

3 Markets –Markets for gasoline –Markets for labor –Stock market –Market for Super Bowl tickets –Compact disk market

4 Markets –Markets set the prices we pay and receive in a free, competitive environment

5 The Law of Demand Demand –Quantities of specific goods or services that individuals, taken singly or as a group, will purchase at various possible prices, other things being constant

6 The Law of Demand Law of Demand –Quantity demanded is inversely related to price, all things equal

7 The Law of Demand What are we holding constant? –Income –Price of other goods –Many other factors

8 The Law of Demand Relative prices versus money prices –Relative Price The price of a commodity in terms of another commodity –Money Price Price we observe today in today’s dollars (absolute, nominal price)

9 The Demand Schedule The demand schedule is a table relating prices to quantity demanded. We must consider: –The time dimension –Constant-quality units

10 The Individual Demand Schedule Figure 3-1, Panel (a)

11 The Individual Demand Curve Figure 3-1, Panel (b)

12 The Horizontal Summation of Two Demand Schedules Figure 3-2, Panel (a)

13 The Horizontal Summation of Two Demand Schedules Figure 3-2, Panels (b), (c), (d)

14 The Market Demand Schedule for Rewritable CD’s Figure 3-3, Panel (a)

15 The Market Demand Curve for Rewritable CD’s Figure 3-3, Panel (b)

16 A Shift in the Demand Curve D1D1 Quantity of Rewritable CDs Demanded (millions of constant-quality units per year) Price per Rewritable CD ($) Suppose the federal government gives every student a rewritable CD drive. D2D2 Increase in Demand Figure 3-4

17 A Shift in the Demand Curve D1D1 Quantity of Rewritable CDs Demanded (millions of constant-quality units per year) Price per Rewritable CD ($) D2D2 D3D3 Suppose universities prohibit the use of personal computers. Decrease in Demand Figure 3-4

18 A Shift in the Demand Curve D1D1 Quantity of Rewritable CDs Demanded (millions of constant-quality units per year) Price per Rewritable CD ($) D2D2 When demand increases the quantity demanded will be greater at each price a c b d Figure 3-4

19 Shifts in Demand Determinants of demand –Income Normal goods Inferior goods –Tastes and preferences –The price of related goods Complements Substitutes

20 Shifts in Demand Determinants of demand –Expectations Income Future prices –Market size (number of buyers)

21 Shifts in Demand The Determinants of Demand Income: Normal Good D1D1 Q/Units D2D2 D3D3 Price Decrease in income decreases demand Increase in income increases demand

22 Shifts in Demand The Determinants of Demand Income: Inferior Good D1D1 Q/Units Decrease in income increases demand Increase in income decreases demand Price D2D2 D3D3

23 Shifts in Demand The Determinants of Demand Income: Tastes and Preferences D1D1 Q/Units Price Sport Utility Vehicle Increase in demand D2D2 Smoking Decrease in demand D3D3

24 Shifts in Demand The Determinants of Demand Price of Related Goods: Substitutes D1D1 Q/Butter Butter and Margarine Price of both = $2/lb. Price of margarine increases to $3/lb. Demand for butter increases D2D2 Price

25 Shifts in Demand The Determinants of Demand Price of Related Goods: Complements D1D1 Q/Speakers Speakers and Amplifiers Decrease the relative price of amplifiers Demand for speakers increases D2D2 D3D3 Speakers and Amplifiers Increase the relative price of amplifiers Demand for speakers decreases Price

26 Shifts in Demand The Determinants of Demand Expectations D1D1 Q/Units A higher income or expectations of a higher future price will increase demand D2D2 D3D3 A lower income or expectations of a lower future price will decrease demand Price

27 Shifts in Demand The Determinants of Demand Population D1D1 Q/Units Increase in the population increases demand D2D2 D3D3 Decrease in population decreases demand Price

28 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.

29 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.

30 Movement Along a Given Demand Curve Quantity of Rewritable CDs Demanded (millions of constant-quality units per year) Price of Rewritable CDs($) D Figure 3-5 A change in the price changes the quantity of a good demanded

31 The Law of Supply Supply –The amount of a product or service that firms are willing to sell at alternative prices

32 The Law of Supply Law of Supply –The price of a product or service and the quantity supplied are directly related

33 The Supply Schedule The supply schedule is a table relating prices to quantity supplied.

34 The Individual Producer’s Supply Schedule Figure 3-6, Panel (a)

35 The Individual Producer’s Supply Curve Figure 3-6, Panel (b)

36 Horizontal Summation of Supply Curves Figure 3-7, Panel (a)

37 Horizontal Summation of Supply Curves Figure 3-7, Panels (b), (c), (d)

38 The Market Supply Schedule for Rewritable CDs Figure 3-8, Panel (a)

39 The Market Supply Curve for Rewritable CDs Figure 3-8, Panel (b)

40 Shifts in Supply In general, non-price changes that lead to higher profits lead to an increase in supply. In general, non-price changes that lead to lower profits lead to a decrease in supply.

41 Shifts in Supply Determinants of supply –Cost of inputs –Technology and productivity –Taxes and subsidies –Price expectations –Number of firms in industry

42 Shifts in Supply The Determinants of Supply Cost of Inputs S1S1 Q/Units Decrease in cost increases supply S2S2 Increase in cost decreases supply S3S3 Price

43 Shifts in Supply The Determinants of Supply Technology and Productivity S1S1 Q/Units Improvements in technology or increases in productivity increase supply S2S2 Decreases in productivity decrease supply S3S3 Price

44 Shifts in Supply The Determinants of Supply Taxes and Subsidies S1S1 Q/Units Decreases in taxes or increases in subsidies increase supply S2S2 Increases in taxes or decreases in subsidies decrease supply S3S3 Price

45 Shifts in Supply The Determinants of Supply Price Expectations S1S1 Q/Units Expectations of lower future prices increase supply S2S2 Expectations of higher future prices decrease supply S3S3 Price

46 Shifts in Supply The Determinants of Supply Number of Firms in Industry S1S1 Q/Units Increase in the number of firms increases supply S2S2 Decrease in the number of firms decreases supply S3S3 Price

47 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.

48 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.

49 Putting Demand and Supply Together Figure 3-10, Panel (a)

50 Putting Demand and Supply Together Quantity of Rewritable CDs (millions of constant-quality units per year) Price per Rewritable CD($) S D AB Excess quantity demanded at price $1 Shortage At P = $1: Q s (A) = 2 < Q d (B) = 10 All prices below $3 Q d > Q s Price will be pushed up Figure 3-10, Panel (b)

51 Putting Demand and Supply Together Quantity of Rewritable CDs (millions of constant-quality units per year) Price per Rewritable CD($) S D D Excess quantity supplied at price $5 Surplus At P = $5: Q d (D) = 2 < Q s (C) = 10 All prices above $3 Q d < Q s Price will be pushed down Figure 3-10, Panel (b)

52 Putting Demand and Supply Together Quantity of Rewritable CDs (millions of constant-quality units per year) Price per Rewritable CD($) S D D Excess quantity supplied at price $5 AB Excess quantity demanded at price $1 Equilibrium Market clearing, or equilibrium price E Figure 3-10, Panel (b)

53 Putting Demand and Supply Together Equilibrium –The situation when quantity supplied equals quantity demanded at a particular price

54 Putting Demand and Supply Together Shortages –The situation when quantity demanded is greater than quantity supplied –Exists at any price below the equilibrium price –Is not the same as scarcity

55 Putting Demand and Supply Together Surpluses –The situation when quantity supplied is greater than quantity demanded –Exists at any price above the equilibrium price

56 Figure 3-11 Should Shortages in the Ticket Market Be Solved by Scalpers? Quantity of Super Bowl Tickets Price per Ticket Q1Q1 Q2Q2 P1P1 P2P2 S D Excess quantity demanded (shortage at price P 1 )

Chapter 3: Demand and Supply ECON 152 – PRINCIPLES OF MICROECONOMICS Materials include content from Pearson Addison-Wesley which has been modified by the instructor and displayed with permission of the publisher. All rights reserved.