Micro JAFGAC Using Supply and Demand Chapter 5

Micro JAFGAC Laugher Curve Q. How many conservative economists does it take to screw in a light bulb? A. None. If the government would just leave it alone, it would screw itself in.

Micro JAFGAC Real-World Supply and Demand Applications n Supply and demand can be used to evaluate real-world events.

Micro JAFGAC The Market for Advertising n Supply in this market is relatively constant. n Demand fluctuates significantly.

Micro JAFGAC The Market for Advertising n In 2001, demand for advertising fell as the U.S. economy slowed down. n The supply/demand model would predict that price and quantity to fall.

Micro JAFGAC The Market for Advertising Quantity of advertisements

Micro JAFGAC The Market for Advertising n Instead of lowering price, the media offered higher quality advertising at the same price. n This is equivalent to a decline in price.

Micro JAFGAC The Price of a Foreign Currency n The market for foreign currencies is called the foreign exchange (forex) market. n The exchange rate – the price of one currency in terms of another currency.

Micro JAFGAC The Price of a Foreign Currency n People demand currencies of other countries to buy those countries’ goods and assets.

Micro JAFGAC The Price of a Foreign Currency n The determination of exchange rate is the same as the determination of price. n A currency is just another good.

Micro JAFGAC The Price of a Foreign Currency n The euro is the currency used by 12 of the members of the European Union. n The euro dropped from $1.17 to about $0.90 in the two years from when it was introduced.

Micro JAFGAC The Price of a Foreign Currency

Micro JAFGAC Three Real World Examples n Supply and demand can shed light on a variety of real-world events: l Florida freeze. l Burkhas in Afghanistan. l Coffee beans.

Micro JAFGAC Florida Freeze n The crop-damaging freeze shifted the supply curve to the left. n At the original price, quantity demanded exceeded quantity supplied. n Price rose until the quantity demanded equaled the quantity supplied.

Micro JAFGAC Florida Freeze Demand S0S0 (b) P1P1 Q1Q1 P0P0 Q0Q0 S1S1

Micro JAFGAC Burkhas in Afghanistan n Once the Taliban was ousted in Afghanistan, demand for burkhas fell as many women stopped wearing them. n At the original price, quantity supplied exceeded quantity demanded. n Price fell until the quantity demanded equaled the quantity supplied.

Micro JAFGAC Burkhas in Afghanistan Supply (f) P1P1 Q0Q0 Q1Q1 P0P0 D1D1 D0D0

Micro JAFGAC Coffee Beans n The supply of coffee increased as new growers entered the market, growing techniques improved, and weather was favorable. n Coffee-growers attempted to increase demand by instituting a successful marketing campaign.

Micro JAFGAC Coffee Beans n The supply increase causes price to fall. n If the marketing campaign is successful, demand will increase, raising price back to its former level.

Micro JAFGAC Coffee Beans (b) S1S1 D0D0 P1P1 S0S0 D1D1 P0P0 Q1Q1 Q0Q0

Micro JAFGAC A Review

Micro JAFGAC Government Intervention in the Market n Buyers look to government for ways to hold prices down. n Sellers look to government for ways to hold prices up.

Micro JAFGAC Price Ceilings n A price ceiling is a government-imposed limit on how high a price can be charged.

Micro JAFGAC Rent Controls n Rent control is a price ceiling on rents set by government. n An example is rent control in Paris following World War I and World War II.

Micro JAFGAC Rent Controls n Rent control in Paris resulted in: l A huge shortage of living quarters. l New housing construction stopped. l Existing housing was allowed to deteriorate. l Many families had to double up with other family members.

Micro JAFGAC Rent Controls QSQS QDQD Supply Demand Rental Price (per month) Quantity of apartments 2.50 $17.00 Shortage

Micro JAFGAC Price Floors n A price floor is a government-imposed limit on how low a price can be charged.

Micro JAFGAC Minimum Wage n The minimum wage is an example of a price floor. n A minimum wage is set by government specifying the lowest wage a firm can legally pay an employee.

Micro JAFGAC Minimum Wage n The minimum wage creates winners and losers: l Those who can find work earn a higher wage. l Others become unemployed. l Production costs increase. l Consumers pay higher prices.

Micro JAFGAC Minimum Wage n Economists disagree about the effects of the minimum wage.

Micro JAFGAC Excise Taxes n An excise tax is a tax that is levied on a specific good. n A tariff is an excise tax on an imported good. n Taxes and tariffs raise prices and reduce quantity.

Micro JAFGAC Excise Taxes n A luxury tax was imposed on expensive boats in n Because the luxury tax was imposed on the boat builders, the supply curve moved up by the amount of the tax.

Micro JAFGAC Excise Taxes n The price of expensive boats rose by less than the tax, while the quantity supplied and quantity demanded fell.

65, S1S1 420 $70,000 D S0S0 Quantity of luxury boats 0 Price of luxury boats The Effect of an Excise Tax on Price and Quantity The supply curve shifts up by the $10,000 tax 60, McGraw-Hill/Irwin © 2004 The McGraw-Hill Companies, Inc., All Rights Reserved.

Micro JAFGAC Excise Taxes n A tariff has the same effect on equilibrium price and quantity as an excise tax. n The difference is that foreign producers sending goods into the U.S. pay the tax.

Micro JAFGAC Quantity Restrictions n Governments often regulate markets with licenses which limit entry into a market. n Quantity restrictions tends to increase price.

Micro JAFGAC Quantity Restrictions in the Market for Taxi Licenses

Micro JAFGAC Third-Party-Payer Markets n In third-party-payer markets, the person who receives the good differs from the person paying for the good. n Equilibrium quantity and total spending is much higher in third-party-payer markets.

Micro JAFGAC Third-Party-Payer Markets

Micro JAFGAC Using Supply and Demand End of Chapter 5