Chapter 3 1

 Opportunity cost of production – Total economic cost of producing a good or service; The value of the production of other goods sacrificed as the result of producing the good  Economic costs are different from accounting costs 2

 Profit – When revenue is greater than the opportunity cost of production ◦ The producer has increased the value of the resources  Loss – When revenue is less than the opportunity cost of production ◦ The producer has reduced the value of the resources 3

 In a pure market economy, ◦ profitable activities will continue and ◦ wasteful (loss) activities will stop, freeing up resources for more productive uses 4

 There is a direct (positive) relationship between the price of a good and the quantity of it producers are willing to supply ◦ When the price rises, quantity supplied rises ◦ When the price falls, quantity supplied falls ◦ Ceteris paribus! 5

Pizza Supply Schedule PriceQuantity Supplied $  Quantity supplied – the number that people willing to sell at each price 6

Pizza Supply Schedule Pizza Supply Curve PriceQuantity Supplied $

 How much are producers willing to produce and sell at a give price?  What is the minimum price to induce producers to sell?  Represents the opportunity cost of production 8

 Producer Surplus – the difference between price suppliers actually receive and the minimum price they would be willing to accept.  Represents the net benefit (to all involved in production) of producing the good.  Example: Old Navy makes a shirt for $5. They sell it for $8. Their producer surplus is $8 - $5 = $3 9

10 Quantity Price Supply P1P1 Q1Q1 On a graph, producer surplus is the area above the supply curve and below the price

 Elastic supply ◦ Quantity supplied is quite responsive to a change in price ◦ The supply curve is relatively flat (but still upward sloping) ◦ When it is cheap/easy to expand output, the supply curve will be elastic 11 Quantity Price Supply Pop

 Inelastic supply ◦ Quantity supplied is not very responsive to a change in price ◦ The supply curve is relatively steep (but still upward sloping) ◦ When expanding output is difficult, supply will be inelastic: doctor visits, land, Picasso painting 12 Quantity Price Supply Used Textbooks (at the end of the semester)

Increase in Quantity Supplied Increase in Supply 13 Price Quantity Price Quantity S1S1 S2S2 Q2Q2 Q1Q1

Decrease in Quantity Supplied Decrease in Supply 14 Price Quantity Price Quantity S2S2 S1S1 Q1Q1 Q2Q2

 Change in Quantity Supplied: caused by a change in the price of the good.  Change in Supply: caused by changes in factors other than a good’s price that influence seller decisions ◦ Changes in resource prices ◦ Changes in technology ◦ Elements of nature and political disruptions ◦ Change in taxes 15

 When resources prices ◦ Fall, supply increases ◦ Rise, supply decreases

 When technology improves, supply increases

 Change in weather conditions  War, political unrest

 When taxes increase, supply falls

 Market – a concept encompassing the forces of supply and demand  Equilibrium – when quantity supplied equals quantity demanded 20

 Excess demand – puts upward pressure on the price  Excess supply – puts downward pressure on the price  When Qs and Qd are not in balance, the price will change 21

 A situation in which all the gains from trade have been realized.  With well-defined property rights and competition, market equilibrium is efficient! 22

23 Quantity Price S P1P1 Q1Q1 P.S. C.S. D

 Increase in Demand ◦ Higher Price ◦ Higher Quantity  Increase in Quantity Supplied  Example: Natural gas, which is used to heat homes, during the snowpocalypse of Price Natural Gas Quantity Natural Gas D1D1 D2D2 S1S1 Q2Q2 Q1Q1 P1P1 P2P2

 Decrease in Demand ◦ Lower Price ◦ Lower Quantity  Decrease in Quantity Supplied  Example: Bathing suits, during the polar vortex of Price Bathing Suits Quantity Bathing Suits D2D2 D1D1 S1S1 Q1Q1 Q2Q2 P2P2 P1P1

 Increase in Supply ◦ Lower Price ◦ Higher Quantity  Increase in Quantity Demanded  Example: an early winter freeze and ice wine 26 Price Ice Wine Quantity Ice Wine D1D1 S1S1 Q2Q2 Q1Q1 P1P1 P2P2 S2S2

 Decrease in Supply ◦ Higher Price ◦ Lower Quantity  Decrease in Quantity Demanded  Example: Livestock need extra feed and shelter to cope w cold 27 Price Beef Quantity Beef D1D1 S2S2 Q1Q1 Q2Q2 P2P2 P1P1 S1S1

 Market prices communicate information to decision makers  Prices coordinate actions of market participants  Prices motivate economic players 28

 Describe consumer behavior.  Separate the difference between a change in demand and a change in quantity demanded.  Describe firm behavior.  Separate the difference between a change in supply and a change in quantity supplied.  Investigate how a market establishes an equilibrium price. 29