Market Demand, Supply and Equilibrium

Markets and Competition Market – a group of buyers and sellers of a good or service Can be highly organized (Corn, Wheat) Can be less organized (Television) Competitive market Many buyers and many sellers Each has a negligible impact on market price

Demand Quantity demanded – the amount of a good buyers are willing and able to purchase Law of demand – other things equal, when the price of the good rises the quantity demanded of a good falls Demand schedule – a table illustrating the relationship between a price of a good and quantity demanded Demand curve – a graph illustrating the relationship between price of a good and quantity demanded Individual demand – Demand of one individual

Demand schedule and demand curve Hamburger Demand Curve demand schedule – a table that shows the quantity demanded at each price. $3.00 $2.50 $2.00 $1.50 $1.00 $0.50 Price decrease in price Price of hamburgers Quantity of hamburgers demanded $0.00 $0.50 $1.00 $1.50 $2.00 $2.50 $3.00 12 10 8 6 4 2 Demand curve increases quantity of hamburgers demanded. 12 10 11 9 1 2 3 4 5 6 7 8 Quantity demand curve – illustrates how the quantity demanded of the good changes as its price varies. Because a lower price increases the quantity demanded, the demand curve slopes downward.

Market Demand Schedule Market demand – the sum of all individual demand schedules for a good or service Price of hamburger Bob Sam Market $0.00 $0.50 $1.00 $1.50 $2.00 $2.50 $3.00 12 10 8 6 4 2 + 7 5 3 1 = 19 16 13 The quantity demanded in a market is the sum of the quantities demanded by all the buyers at each price. Thus, the market demand curve is found by adding horizontally the individual demand curves. At a price of $2.00 Bob demands 4 hamburgers, and Sam demands 3. The quantity demanded in the market at this price is 7 hamburgers.

Market Demand Curve + = Bob’s demand Sam’s demand Market demand DBob $3.00 2.50 2.00 1.50 1.00 0.50 Price $3.00 2.50 2.00 1.50 1.00 0.50 Price $3.00 2.50 2.00 1.50 1.00 0.50 Price DBob DSam DMarket 12 10 11 9 1 2 3 4 5 6 7 8 Quantity 1 2 3 4 5 6 7 Quantity 18 2 4 6 8 10 12 14 16 Quantity

Determinants of Demand Consumer Income Normal good – an increase in income will cause an increase in demand, all else equal Inferior good – an increase in income a decrease in demand, all else equal Price Quantity D0 P0 Q0 Hamburger Market Hamburger? Inferior D2 Q2 D1 Q1 Steak? Normal For Hamburger increase in income (D1) decrease in income (D2)

Determinants of Demand Prices of related goods Substitutes an increase in the price of one leads to an increase in the demand for the other Complements an increase in the price of one leads to a decrease in the demand for the other Price Quantity D0 P0 Q0 Hamburger Market Compliments D2 Q2 D1 Q1 buns, cheese & soda Increase in bun price (D1) Substitutes chicken, steak & fish Increase in chicken price (D2)

Determinants of Demand Tastes News story Oprah “all burgers are evil”, Mad cow (D1) Advertisement Beef, It’s What’s for Dinner Diets Adkins Diet (D2) Price Quantity D0 P0 Q0 Hamburger Market D2 Q2 D1 Q1

Determinants of Demand Expectations about future prices, quality and availability Leaner, healthier, meat announcement (D1) New tax on hamburgers next month to promote health (D2) Price Quantity D0 P0 Q0 Hamburger Market D2 Q2 D1 Q1

Determinants of Demand Consumer Income Normal good – an increase in income will cause an increase in demand, all else equal Inferior good – an increase in income causes a decrease in demand, all else equal Prices of related goods Substitutes an increase in the price of one leads to an increase in the demand for the other Complements an increase in the price of one leads to a decrease in the demand for the other Tastes Expectations about future prices, quality and availability Number of buyers

Demand Terminology Change in Demand is a shift in the demand curve resulting from a change in one of the determinants of demand Change in Quantity Demanded is a movement along a given demand curve caused by a change in own price Price D0 Price Quantity 20 $2.00 A D0 D1 10 $2.00 $4.00 B 12 20 Quantity As incomes increase, the demand curve for hamburger shifts to the left. Note the left graph: the demand curve shifts from D0 to D1. At price of $2.00, the quantity demanded falls from 20 to 10 hamburgers. An increase in the price of hamburgers causes a movement to a different point on a given demand curve. Note the right graph: when the price rises from $2.00 to $4.00, the quantity demanded falls from 20 to 12 hamburgers, as reflected by the movement from point A to point B.

Demand Terminology Increase in demand – any change that increases the quantity at every price Demand curve shifts right (D1) Decrease in demand – any change that decreases the quantity at every price Demand curve shifts left (D1) Price D0 D1 Increase in Demand D2 Decrease in Demand Quantity

Demand Review Variable A Change in This Variable . . . Change in Quantity Demanded Price of the good itself Change in Demand Income Prices of related goods Tastes Expectations Number of buyers Movement along the demand curve Shift in demand curve

Supply Quantity supplied – the amount of a good sellers are willing and able to sell Law of supply – other things equal, when the price of the good changes quantity supplied of a good moves in the same direction Increase in Supply – when the price of the good rises quantity supplied of a good go up Decrease in Supply – when the price of the good falls quantity supplied of a good drops

Supply schedule and supply curve supply schedule – a table that shows the quantity supplied at each price. Supply curve $3.00 $2.50 $2.00 $1.50 $1.00 $0.50 Price Price of hamburger Quantity of hamburger supplied $0.00 $0.50 $1.00 $1.50 $2.00 $2.50 $3.00 1 2 3 4 5 increase in price increases quantity of hamburger supplied 12 10 11 9 1 2 3 4 5 6 7 8 Quantity supply curve – a graphic representation of the relationship between price of a good and quantity supplied, higher price increases the quantity supplied, so the supply curve slopes upward.

Market Supply Market supply – sum of the supply schedules of all sellers for a good or service Price of hamburger Jan Al Market $0.00 $0.50 $1.00 $1.50 $2.00 $2.50 $3.00 1 2 3 4 5 + 6 8 = 7 10 13 The quantity supplied in a market is the sum of the quantities supplied by all the sellers at each price. Thus, the market supply curve is found by adding horizontally the individual supply curves. At a price of $2.00, Bob supplies 3 hamburgers, and Al supplies 4 hamburgers. The quantity supplied in the market at this price is 7 hamburgers.

Market supply Jan’s supply Al’s supply + = Market supply SJan SMarket $3.00 2.50 2.00 1.50 1.00 0.50 Price $3.00 2.50 2.00 1.50 1.00 0.50 Price $3.00 2.50 2.00 1.50 1.00 0.50 Price SJan SMarket SAl 12 10 11 9 1 2 3 4 5 6 7 8 Quantity 1 2 3 4 5 6 7 Quantity 18 2 4 6 8 10 12 14 16 Quantity

Shifts in Supply Shift in Supply or “Change in Supply” Increase in supply: any change that increases the quantity supplied at every price Supply curve shifts right Decrease in supply: any change that decreases the quantity supplied at every price Supply curve shifts left

Shifts in Supply Price Quantity Supply curve, S0 ` Supply curve, S2 Supply curve, S0 ` Supply curve, S2 Decrease in supply Supply curve, S1 Increase in Any change that raises the quantity that sellers wish to produce at any given price shifts the supply curve to the right. Any change that lowers the quantity that sellers wish to produce at any given price shifts the supply curve to the left.

Determinants of Supply Variables that can shift the supply curve Resource Prices (negatively related to increased prices of inputs) Technology (positively related to improved technology) Expectations about future Price of other goods being produced (negatively related to increased prices of other goods) Number of sellers Taxes and Subsidies

Determinants of Demand Variables that can shift the supply curve Input Prices (negatively related to increased prices of inputs) Price Quantity S0 P0 Q0 Hamburger Employees always want a wage increase. How will a wage increase impact the market for Hamburger? (S1) S1 Q1 S2 Q2 A wage decrease? (S2)

Determinants of Demand Variables that can shift the supply curve Price of other goods being produced (negatively related to increased prices of other goods) Price Quantity S0 P0 Q0 Dog Food In economic recession households demand more cats and fewer dogs Cats (inferior goods) Cat food prices increase Dogs (normal goods) S2 Q2

Variables that influence sellers Supply Review Variables that influence sellers Variable A Change in This Variable . . . Change in Quantity Supplied of the good itself Change in Supply Resource prices Technology Expectations Number of sellers Taxes and Subsidies Price of other goods movement along the supply curve Shifts the supply curve

Equilibrium Equilibrium – where market price achieves the condition quantity supplied equals quantity demand $3.00 2.50 2.00 1.50 1.00 0.50 Price Supply Demand Equilibrium price is $2.00. At this price, 7 hamburgers are supplied, and 7 hamburgers are demanded. Equilibrium Equilibrium price 12 10 11 9 1 2 3 4 5 6 7 8 Quantity Equilibrium quantity

Equilibrium Excess Supply Price Excess Demand Quantity Demand Supply Demand Supply Price Supply Surplus Demand $2.50 4 10 7 $2.00 $2.00 7 $1.50 Shortage Quantity 4 10 Suppose market price is $2.50, the quantity supplied (10 burgers) exceeds the quantity demanded (4 burgers). Suppliers will increase sales by cutting the price which causes an increase in quantity demand and moves the price toward its equilibrium level. Suppose market price is $1.50, the quantity demanded (10 burgers) exceeds the quantity supplied (4 burgers). With more buyers and goods available, suppliers take advantage of the shortage by raising the price. The price adjustment moves the market toward the equilibrium.

Equilibrium Surplus (Excess supply) Shortage (Excess demand) Quantity supplied > quantity demanded Downward pressure on price Shortage (Excess demand) Quantity demanded > quantity supplied Upward pressure on price

Organ Shortage Kidney Market “More than 70,000 Americans are waiting for kidneys, and the list grows by almost 5,000 per year. People are dying.” The Organ Market by William Saletan Sunday, April 15, 2007 washingtonpost.com Kidney Price Kidney Quantity Kidney Supply 20,000 Current Supply Kidney Demand 70,000 What are the solutions? 45,000 25,000 more live Source: http://www.washingtonpost.com/wp-dyn/content/article/2007/04/13/AR2007041302066.html