Chapter 3: Individual Markets Demand and Supply

Markets Institutions or mechanisms that bring together buyers (demanders) and seller (suppliers) of particular goods, services, or resources.

Demand A schedule or a curve that shows the various amounts of a product that consumers are “willing and able” to purchase at each of a series of possible prices during a specified period of time. Demand schedule – table Demand curve – graph sloping downward Price Quantity Demanded Price Quantity Demanded

Law of Demand Consistent with common sense. All else equal, as price falls, the quantity demanded rises, and as price rises, the quantity demanded falls. There is a negative or inverse relationship. Consistent with common sense. Diminishing marginal utility: successive units of a particular product yield less & less satisfaction

Law of Demand Income effect Substitution effect A lower price increases the purchasing power of a buyer’s money income, enabling the buyer to purchase more of the product than they could buy before. Higher prices has the opposite effect. At a lower price buyers have the incentive to substitute what is now a less expensive product for similar products that are now relatively more expensive. The product whose price has fallen is not “a better deal” relative to the other products.

Market Demand This will include the quantities demanded by all consumers at each of the various possible prices. You can have a market demand schedule and a market demand curve.

Change in Demand Determinants of demand: Factors that can and do affect purchases When these determinants change the demand curve will “SHIFT” to either the right or left. A shift in the demand curve is called a change in demand A change in quantity demanded is just a movement from one point to another point caused by a change in Price only. A B

Determinants of Demand (Pipen) Preferences (Taste) A favorable change in consumer tastes for a product ---- a change that makes the product more desirable --- means that more of it will be demanded at each price.

Determinants of Demand (Pipen) Income For most products, a rise in income causes an increase in demand --- Normal Good Rising income can cause the demand of some goods to behave inversely---Inferior Goods Neutral goods do not change with a change in income. Normal goods Inferior goods Neutral Goods

Determinants of Demand (Pipen) Prices of Related Goods A change in the price of a related good may either increase or decrease the demand for a product Substitutes - Similar goods; when the price of one & the demand for the other move in the same direction Complements - goods that are consumed together; when the price of one good & the demand for the other good move in opposite directions substitutes complements

Determinants of Demand (Pipen) Expectations Changes in consumer expectations may shift demand Freezing weather destroys much of Florida’s citrus crop Workers fearful of losing their jobs may reduce their demand for vacation time. 1st round draft picks may splurge on houses & cars

Determinants of Demand (Pipen) Number of Buyers An increase in the number of buyers in a market increases demand A decrease in the number of buyers in a market decreases demand Increase in life expectancy has increased the demand for medical care; retirement communities, and nursing homes Baby boomers, etc.

Changes in Quantity Demanded Change in Demand is a shift of the entire demand curve to the right (increase) or to the left (decrease). Occurs when there is a response to one of the determinants (pipen). Change in Quantity Demanded is a movement along the curve due to a change in the price of the good demanded.

Supply A schedule or curve showing the amounts of a product that producers are willing and able to make available for sale at each of a series of possible prices during a specific period. Supply schedule is the table of a individual producer. Law of supply: as price rises, the quantity supplied rises; as price falls, the quantity supplied falls.

Supply Curve Graphical representation of the law of supply. Price Quantity Supplied

Determinants of Supply (rotten) Resource Prices Price of the resources used to make the product Higher Resource price raises production costs & the firm will supply LESS. Lower resource price decreases production costs & the firm will supply MORE.

Determinants of Supply (rotten) Prices of OTHER goods Some suppliers can easily switch production lines to make other similar goods that may have found a better price.

Determinants of Supply (rotten) Technology Improvements in technology enable firms to produce goods with fewer resources. Recent improvements in the fuel efficiency of aircraft engines have reduced the cost of providing passenger air service.

Determinants of Supply (rotten) Taxes and Subsidies Increase in a tax will increase production costs and reduce supply. If gov’t subsidizes the production of a good, it in effect lowers the producers’ costs & increases supply.

Determinants of Supply (rotten) Expectations Changes in expectations about the future price of a product may affect the producer’s current willingness to supply that product.

Determinants of Supply (rotten) Number of Sellers As more firms enter an industry, the greater the market supply. Conversely, the smaller the number of firms in the industry, the less the market supply. Canada & U.S. have imposed restrictions on haddock fishing to replenish dwindling numbers.

Changes in Quantity Supplied Change in Supply A change in the entire schedule and a shift of the entire curve. Caused by a change in Rotten – the determinants of supply Change in Quantity Supplied A movement from one point to another point on the curve. Caused by a change in the price of the product.

Supply & Demand: Market Equilibrium The place where supply and demand are equal. Graphically, where the supply & demand curves intersect.

Surpluses Surplus or excess supply: The amount by which the quantity supplied of a product exceeds the quantity demanded at a specific price. Demand Supply Surplus Qs > Qd = surplus

Shortages Shortage or excess demand: The amount by which the quantity demanded of a product exceeds the quantity supplied at a particular price. Qd > Qs = shortage Shortage

Equilibrium Price and Quantity Supply $6 $5 $4 $3 $2 $1 Equilibrium Price is sometimes referred as market-clearing price. Equilibrium price --------------------------- Equilibrium quantity Demand 2 3 4 5 6 7 8 9 Bushels of corn (thousands)

Rationing function of prices The ability of the competitive forces of supply and demand to establish a price at which selling and buying decisions are consistent.

Changes is Supply, Demand, and Equilibrium Changes in Supply Suppose that demand is constant & supply increases Lower equilibrium price; greater quantity Suppose that demand is constant & supply decreases Higher price; less quantity Changes in Demand Suppose that supply is constant and demand increases Raises equilibrium price and quantity Suppose supply is constant & demand decreases decreases equilibrium price and decreases quantity

Effects of changes in demand and supply Change in Supply Change in Demand Effect on Equilibrium Price Effect on Equilibrium Quantity Increase Decrease Indeterminate