Introduction to Macroeconomics Chapter 3. Private Markets and Prices: Laws of Supply and Demand

Chapter 3. Laws of Supply & Demand Microeconomic Supply and Demand Demand curve Supply curve Supply - Demand Equilibrium Equilibrium Disequilibrium Shifts in demand and supply curves

Law of Demand As the price of a product declines relative to the price of all other goods, the quantity demanded will increase, ceteris paribus. The demand curve, a graphic representation of the Law of Demand, slopes downward to the right

Demand Curve As price declines the quantity demanded increases Demand

Demand Curve Ceteris Paribus Assumption Everything else that can affect demand is unchanged: Prices of all other goods Income Tastes

Law of Supply As the price of a product declines relative to the price of all other goods, the quantity supplied will decline, ceteris paribus. The supply curve, a graphic representation of the Law of Supply, slopes upward to the right

Supply Curve As price increases the quantity supplied increases Supply

Supply Curve Ceteris Paribus Assumption Everything else that can affect supply is unchanged: Prices of all inputs labor, raw materials, cost of capital Prices of all other goods Technology Environment (e.g., weather)

Supply - Demand Equilibrium Price at which quantity supplied equals the quantity demanded Supply Equilibrium Demand

Disequilibrium Price above the equilibrium level quantity demanded < quantity supplied surplus price floor: price prevented from dropping to equilibrium level Price below the equilibrium level quantity demanded > quantity supplied shortage price ceiling: price prevented from rising to equilibrium level

Price Floor Demand Supply Price Floor Quantity Demanded < Examples of price floors: - Agricultural subsidies - Minimum wage Quantity Demanded < Quantity Supplied Surplus

Price Ceiling Demand Supply Price Ceiling Quantity Supplied < Examples of price ceilings: - Rent controls - in a 1979 survey of economists, 98% agreed that a ceiling on rent reduces the quantity and quality of housing available - California electricity prices - Black market Quantity Supplied < Quantity Demanded Shortage

Demand vs Quantity Demanded “Quantity Demanded” refers to a point on the demand curve. A “Change in Quantity Demanded” refers to a movement along a stable demand curve “Demand” refers to the entire curve. A “Change in Demand” refers to a shift in the demand curve. Two reasons for change in “quantity demanded” 1. A shift in the supply curve only. 2. The imposition of a price ceiling or price floor.

Change in Quantity Demanded A change in price results in a movement along a demand curve As price declines the quantity demanded increases Demand

Change in Demand A change in anything except price that affects the quantity demanded results in a shift of the demand curvve Increase in Demand: Demand Curve Shifts Right .

Demand Curve Shifters A change in any variable listed under the Ceteris Paribus assumptions

Normal and Inferior Goods Demand curve will shift with change in income Normal Good - as income increase, demand for the good also increases (demand curve shifts right) Inferior Good - as income increase, demand for the good decreases (demand curve shifts left)

Complements and Substitues in Demand Demand curve will shift with change in price of related goods Complements in Demand - demand decreases as price of complement increases big cars and gasoline Substitutes in Demand- demand increases as price of substitute increases butter and margerine

Supply vs Quantity Supplied “Quantity Supplied” refers to a point on the supply curve. A “Change in Quantity Supplied” refers to a movement along a stable supply curve. “Supply” refers to the entire curve. A “Change in Supply” refers to a shift in the supply curve.

Change in Quantity Supplied A change in price results in a movement along a supply curve As price declines the quantity supplied decreases Supply

Change in Supply A change in anything except price that affects the quantity supplied results in a shift of the supply curvve Increase in Supply: Supply Curve Shifts Right

Supply Curve Shifters A change in any variable listed under the Ceteris Paribus assumptions

Complements and Substitues in Supply Supply curve will shift with change in price of related goods in the production process Complements in Supply - supply increases as price of the complement increases beef and leather Substitutes in Supply - supply decreases as price of the substitute increases wheat and rye

Supply Curve Shift and Equilibrium Shifts Right Demand Decrease in Price Increase in Quantity Refer to lecture notes for table outlining effects of combinations of demand curve shifts and supply curve shifts on equilibrium price and equilibrium quantity. If there is an increase in both supply and demand what happens to equilibrium price and quantity. Quantity definitely increases. The change in price is ambiguous - depends on whether the increase in demand was graeter or less than the increase in supply.