Demand and Supply

When you have completed your study of this chapter, you will be able to C H A P T E R C H E C K L I S T Distinguish between quantity demanded and demand and explain what determines demand. 1 Distinguish between quantity supplied and supply and explain what determines supply. Explain how demand and supply determine price and quantity in a market and explain the effects of changes in demand and supply. 2 3

4.1 DEMAND  Law of Demand Other things remaining the same, If the price of the good rises, the quantity demanded of that good decreases. If the price of the good falls, the quantity demanded of that good increases.

4.1 DEMAND Quantity demanded One quantity and one price Demand List of quantities at different prices (uses a curve and schedule)

4.1 DEMAND

 Individual Demand and Market Demand Market demand The sum of the demands of all the buyers in a market.

4.1 DEMAND

Checking for Understanding On a separate piece of paper, write out a scenario involving changing prices. Make a demand schedule and demand curve to illustrate it.

4.1 DEMAND  Changes in Demand

4.1 DEMAND Figure 4.3 shows changes in demand. 1.When demand decreases, the demand curve shifts leftward from D 0 to D 1. 2.When demand increases, the demand curve shifts rightward from D 0 to D 2.

4.1 DEMAND The main influences on buying plans that change demand are Prices of related goods Income Expectations Number of buyers Preferences

4.1 DEMAND Prices of Related Goods Substitute Goods Complementary Goods

4.1 DEMAND Income Normal good Inferior good

4.1 DEMAND Expectations Number of Buyers Preferences

4.1 DEMAND  Change in Quantity Demanded Versus Change in Demand Change in the quantity demanded A change in the quantity of a good that people plan to buy that results from a change in the price of the good. Change in demand A change in the quantity that people plan to buy when any influence other than the price of the good changes.

4.1 DEMAND Figure 4.4 illustrates and summarizes the distinction.

CHECKING FOR UNDERSTANDING In the market for cell phones, several events occur, one at a time. For each scenario, tell whether the demand or quantity demanded changes. When demand changes, tell whether the curve shifts to the left or the right. The events are: The price of a cell phone falls The price of a call made from a cell phone falls After a public outcry against the ringing of cell phones, cities and towns ban cell phones from public places Incomes increase Rumor has it that the price of a cell phone will rise next month With the introduction of camera phones, cell phones are more popular p. 97

5.1 THE PRICE ELASTICITY OF DEMAND ELASTIC VS. INELASTIC DEMAND

5.1 THE PRICE ELASTICITY OF DEMAND Computing the Price Elasticity of Demand If the price elasticity of demand is greater than 1, demand is elastic. If the price elasticity of demand equals 1, demand is unit elastic. If the price elasticity of demand is less than 1, demand is inelastic. Price elasticity of demand Percentage change in quantity demanded Percentage change in the price =

5.1 THE PRICE ELASTICITY OF DEMAND Computing the Price Elasticity of Demand We can use this formula to calculate the price elasticity of demand for a Starbucks latte: Price elasticity of demand Percentage change in quantity demanded Percentage change in the price = Price elasticity of demand 100% 50% =2=

5.1 THE PRICE ELASTICITY OF DEMAND Interpreting the Price Elasticity of Demand Number The elasticity of demand for a Starbucks latte of 2 tell us three things: 1.The demand for a Starbucks latte is elastic--it has substitutes and the proportion of a buyer’s income spent is small. 2.If Starbucks raised its price, revenue per cup will rise but it will lose lots of potential business. 3.Even a slightly lower price could bring in a lot more revenue.

5.1 THE PRICE ELASTICITY OF DEMAND Figure 5.1(a) shows a perfectly elastic demand. 1. For a small change in the price of spring water, 2. The quantity demanded of spring water changes by a large amount. 3. The demand for spring water is perfectly elastic.

5.1 THE PRICE ELASTICITY OF DEMAND Figure 5.1(e) shows a perfectly inelastic demand. 1. When the price rises, 2. The quantity demanded does not decrease. 3. Demand is perfectly inelastic.

INFLUENCES ON THE PRICE ELASTICITY OF DEMAND –Availability of Substitutes –Luxury Versus Necessity –Narrowness of Definition –Time Elapsed Since Price Changed –Proportion of Income Spent

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4.2 SUPPLY Quantity supplied Supply  The Law of Supply Other things remaining the same, (Ceteris Paribus) If the price of a good rises, the quantity supplied of that good increases. If the price of a good falls, the quantity supplied of that good decreases.

4.2 SUPPLY

 Individual Supply and Market Supply Market supply The sum of the supplies of all sellers in a market. The market supply curve is the horizontal sum of the supply curves of all the sellers in the market.

4.2 SUPPLY

 Changes in Supply

4.2 SUPPLY 2.When supply increases, the supply curve shifts rightward from S 0 to S 2. 1.When supply decreases, the supply curve shifts leftward from S 0 to S 1. Figure 4.7 shows changes in supply. 4.2 SUPPLY

The main influences on selling plans that change supply are Prices of resources and other Inputs Expectations Number of sellers Productivity (technology)

4.2 SUPPLY  Change in Quantity Supplied Versus a Change in Supply Change in quantity supplied A change in the quantity of a good that suppliers plan to sell that results from a change in the price of the good. Change in supply A change in the quantity that suppliers plan to sell when any influence on selling plans other than the price of the good changes.

4.2 SUPPLY Figure 4.8 illustrates and summarizes the distinction

CHECKING FOR UNDERSTANDING Timber beams are made from logs, and in the process of making beams, the mill produces sawdust, which is made into pressed wood. Explain the influence of each event on the quantity supplied and supply of timber beams. For each event that affects supply, tell whether the curve will move to the left or right. The wage rate of sawmill workers rises. The price of sawdust rises. The price of a timber beam rises. The price of a timber beam is expected to rise next year. Environmentalists convince Congress to introduce a new law that reduces the amount of forest that can be cut for timber products. A new technology lowers the cost of producing timber beams.

Price Elasticity of Supply Elastic Supply: Change in price results in change in supply Inelastic Supply: Supply is constant, regardless of a change in price

Determinants of Price Elasticity of Supply Production possibilities: how much of the product can ever be available? –Silicon is made from sand (plentiful) –There is a limited number of lots available in a subdivision. Storage –If an item is perishable (and cannot be stored) its supply is inelastic. –If an item can be stored, you can decide to release more supply later. It is elastic

4.3 MARKET EQUILIBRIUM Market equilibrium When the quantity demanded equals the quantity supplied—when buyers’ and sellers’ plans are consistent. Equilibrium price The price at which the quantity demanded equals the quantity supplied.

4.3 MARKET EQUILIBRIUM Figure 4.9 shows the equilibrium price and equilibrium quantity. 1. Market equilibrium at theintersection of the demand curve and the supply curve. 2. The equilibrium price is $1 a bottle. 3. The equilibrium quantity is 10 million bottles a day.

4.3 MARKET EQUILIBRIUM  Price: A Market’s Automatic Regulator Law of market forces When there is a shortage, the price rises. When there is a surplus, the price falls. Shortage or Excess Demand The quantity demanded exceeds the quantity supplied. Surplus or Excess Supply The quantity supplied exceeds the quantity demanded.

4.3 MARKET EQUILIBRIUM Figure 4.10(a) market achieves equilibrium. At 75 cents a bottle: 1. Quantity is demanded 11 million bottles. 3. There is a shortage of 2 million bottles. 4. Price rises until the shortage is eliminated and the market is in equilibrium. 2. Quantity supplied is 9 million bottles.

4.3 MARKET EQUILIBRIUM Figure 4.10(b) market achieves equilibrium. At $1.50 a bottle: 1. Quantity supplied is 11 million bottles. 3. There is a surplus of 2 million bottles. 4. Price falls until the surplus is eliminated and the market is in equilibrium. 2. Quantity demanded is 9 million bottles.

4.3 MARKET EQUILIBRIUM  Effects of Changes in Demand Event: A new study says that tap water is unsafe. To work out the effects on the market for bottled water: 1.With tap water unsafe, demand for bottled water changes. 2.The demand for bottled water increases, the demand curve shifts rightward. 3.What are the new equilibrium price and equilibrium quantity and how have they changed?

4.3 MARKET EQUILIBRIUM Figure 4.11(a) illustrates the outcome. 1. An increase in demand shifts the demand curve rightward. 2. At $1.00 a bottle, there is a shortage, so the price rises. 3. Quantity supplied increases along the supply curve. 4. Equilibrium quantity increases.

4.3 MARKET EQUILIBRIUM Event: A new zero-calorie sports drink is invented. To work out the effects on the market for bottled water: 1.The new drink is a substitute for bottled water, so the demand for bottled water changes 2.The demand for bottled water decreases, the demand curve shifts leftward. 3.What are the new equilibrium price and equilibrium quantity and how have they changed?

4.3 MARKET EQUILIBRIUM Figure 4.11(b) shows the outcome. 1. A decrease in demand shifts the demand curve leftward. 2. At $1.00 a bottle, there is a surplus, so the price falls. 3. Quantity supplied decreases along the supply curve. 4. Equilibrium quantity decreases.

4.3 MARKET EQUILIBRIUM  Effects of Changes in Supply Event: Europeans produce bottled water in the United States. To work out the effects on the market for bottled water: 1.With more suppliers of bottled water, supply changes. 2.The supply of bottled water increases, the supply curve shifts rightward. 3.What are the new equilibrium price and equilibrium quantity and how have they changed?

4.3 MARKET EQUILIBRIUM Figure 4.12(a) shows the outcome. 1. An increase in supply shifts the supply curve rightward. 2. At $1.00 a bottle, there is a surplus, so the price falls. 3. Quantity demanded increases along the demand curve. 4. Equilibrium quantity increases.

4.3 MARKET EQUILIBRIUM Event: Drought dries up some springs in the United States. To work out the effects on the market for bottled water: 1.Drought changes the supply of bottled water. 2.The supply of bottled water decreases, the supply curve shifts leftward. 3.What are the new equilibrium price and equilibrium quantity and how have they changed?

4.3 MARKET EQUILIBRIUM Figure 4.12(b) shows the outcome. 1. A decrease in supply shifts the supply curve leftward. 2. At $1.00 a bottle, there is a shortage, so the price rises. 3. Quantity demanded decreases along the demand curve. 4. Equilibrium quantity decreases.

Governmental Influence Price Ceiling (maximum price allowed) Price Floor (minimum price allowed)

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