Supply, Demand, and the Price System

Quick Review – the following information should be in your notes already.

Elasticity – a measure of responsiveness to price.

Elastic demand – consumers are very sensitive to price changes.

Inelastic Demand – consumers show a relatively small response to price changes.

Unit elastic – consumers show a proportional response to price changes.

Determinants of demand elasticity. Urgent? Amount of income required Are there substitutes?

Determinant of Supply Elasticity How fast can suppliers respond?

Supply Shifters Cost of inputs Taxes and Subsidies Productivity Technology Number of Suppliers

Government Regulations Expectations

Change / Shift in Supply P Q S1 S2

Change in quantity supplied P1 P2 Q1 Q2 S

Change In Demand P Q D1 D2

Demand Shifters Consumer Tastes Consumer Income Consumer Expectations Number of Consumers Expectations Substitutes / Complements

Change in Quantity Demanded P1 P2 D Q2Q1

Equilibrium Price

Market Clearing Price

Supply is equal to demand

Surplus S D P1 QsQd

Shortage S D P Qs Qd

Two Types of Price Controls Price Ceilings Price Floors

Price ceilings and price floors distort market outcomes.

Price ceiling – rent control

If a price ceiling is lower than the natural market clearing price, a shortage occurs.

Shortage S D P $1200 QsQd

If a price floor is higher than the market clearing price, a surplus will occur.

Surplus of Labor S D P $10.00 QsQd

Price Supports