Chapter 6 Demand, Supply, and Markets Economics 11 March 2012

What is a market?  A market is any network that brings buyers and sellers into contact with one another so they can exchange goods and services  It is through markets that our economy answers the three questions: what to produce, how to produce, and for whom to produce

Markets  A market however, does not have to have a physical setting  business can be done by telephone, fax, internet or written communication  A market exists wherever the forces of supply and demand meet to effect an exchange  In any given market at any given time, the total number of sellers constitute the supply and the total number of buyers constitute the demand

Demand demand - the quantities of a good or service that buyers are willing and able to buy at various prices in a particular period of time

Demand demand schedule – a list of prices and the number you would buy at each price demand curve – a graph showing the relationship between price and quantity  the vertical (y) axis always measures price, and the horizontal (x) axis always measures quantity  as price increases, quantity demanded decreases.  as price decreases, quantity demanded increases.  in other words, there is an inverse relationship between quantity demanded and price.

Demand - downward sloping demand the law of downward sloping demand – this law states that when the price of a good is raised (and there are no other changes), less of it will be demanded. If the price of a good is lowered (and there are no other changes) then the quantity demanded will increase.

Demand – demand and utility the law of diminishing marginal utility – this law states that each additional unit of good consumed at any given time yields less satisfaction than the one previously consumed

Demand – elasticity of demand elasticity of demand – the responsiveness of the quantity demanded to a change in price  the demand for McDonalds’ hamburgers is elastic  the price drops, more money is spent on McDonalds’ burgers  the price rises, less money is spent on McDonalds’ burgers

Demand – elasticity of demand factors determining elasticity of demand :  lots of substitutes ( items that have lots of substitutes are usually elastic in demand  demand is affected by price changes )  small items tend to be unaffected by price changes so they are likely to be inelastic ( big items in a budget are likely to be elastic )  essential items (bread, electricity) tend to have inelastic demand because consumers cannot readily avoid using them  luxury goods (like a holiday to a tropical destination) tend to have elastic demand because consumers can easily stop buying them if prices rise.

Demand – shifts in demand  shifts in demand occur when there is a change in the quantity of a product demanded for reasons other than price changes  possible causes of a shift in demand:  a change in market size  a change in income  an increase in the cost of substitutes  a change in preference

Supply supply – the quantities of a good or service that sellers are willing and able to sell at various prices in a particular period of time.

Supply supply schedule – shows the price-quantity relationship. supply curve – a graph showing the relationship between price and quantity  Note that the supply curve slopes up and to the right – showing that as prices rise, suppliers are willing and able to supply more.  There is a direct relationship between price and quantity supplied.

Supply, Demand, and Equilibrium  Assuming no other changes take place, we know that as the price of a good (or service) falls, more of that good will be demanded and less of it supplied  Conversely, as the price rises more of it will be supplied and less of it demanded

Supply, Demand, and Equilibrium  At some point, the quantity supplied and the quantity demanded will be equal, here supply and demand are in equilibrium.  In markets, equilibrium is seldom reached.  There are too many other factors that continuously influence the supply and demand of goods and services.  However when there is freedom of competition among and between buyers and sellers, the forces of supply and demand move toward equilibrium to resolve the problems of shortages and surpluses.

Shifts in supply and demand  If incomes generally increase, then it is likely that people will be willing and able to buy more, so the entire demand curve shifts right.  If incomes generally decrease, the entire demand curve will shift to the left, because there will be less demand

The role of the market in our economic system  Prices act as guides to owners of resources and indicate where they can get the best deal for their labour, land, or capital.  Prices also provide the information and incentive that consumers need to allocate their scarce resources to meet their needs and wants.  Prices signal shortages and surpluses

Government Price Fixing Ceiling prices  A government may feel that the price for a good or service is too high, and therefore it fixes a maximum or ceiling price for it.  The maximum or ceiling price is the highest price that may be charged legally for a good or service.  For example: rent controls

Government Price Fixing Floor prices  If the government believes that a price of a good or service is too low, it may impose a floor price.  A floor price is the minimum price below which it is illegal to buy or sell a good or service.  For example: minimum wage laws

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Law of downward-sloping demand : when the price of a good is raised (and there are no other changes), less of it will be demanded. If the price of a good is lowered, then the quantity demanded will increase Law of diminishing marginal utility: each additional unit of a good consumed at any given time yields less satisfaction than the one previously consumed Elasticity of demand : means the responsiveness of the quantity demanded to a change in price.

If the price of Life brand deodorant goes up by 10%, those who use it will most likely continue to buy it. Life Brand deodorant costs around $2.00; a 10% increase will bring the price up to $2.20. Since most people care about how they smell and can afford the price, sales of Life brand deodorant will probably stay the same. On the other hand, if the price of a $ car goes up by 10% the price will become $ This increase may be more than some people can afford, therefore sales my be affected. Generally small items are inelastic, while big items are elastic.

In today’s world few of us would be either willing or able to survive for very long without electricity. We need it for light, heat, cooking, etc. On the other hand most of us could survive without a week long holiday in the tropics. This means that essential item tend to have inelastic demand, while luxury goods tend to have elastic demand. The elasticity of demand is affected by time. If the price of gas goes up in the short term, then people have little choice but to pay what it costs. The demand is inelastic. If, the price of gas stays high, however, people will start to buy more fuel-efficient cars, alternative fuel vehicles, hybrid vehicles, etc. The elasticity of demand is affected by time. If the price of gas goes up in the short term, then people have little choice but to pay what it costs. The demand is inelastic. If, the price of gas stays high, however, people will start to buy more fuel-efficient cars, alternative fuel vehicles, hybrid vehicles, etc.