Principles of Micro Chapter 4: “ THE MARKET FORCES OF SUPPLY AND DEMAND ” by Tanya Molodtsova, Fall 2005

III. Supply and Demand Together: Equilibrium The point where the supply and demand curves intersect is called the market’s equilibrium. The point where the supply and demand curves intersect is called the market’s equilibrium. equilibrium: a situation in which the price has reached the level where quantity supplied equals quantity demanded. equilibrium: a situation in which the price has reached the level where quantity supplied equals quantity demanded.

III. Supply and Demand Together: Equilibrium equilibrium price: the price that balances quantity supplied and quantity demanded. equilibrium price: the price that balances quantity supplied and quantity demanded. On a graph, it is the price at which the supply and demand curves intersect. On a graph, it is the price at which the supply and demand curves intersect. equilibrium quantity: the quantity supplied and the quantity demanded at the equilibrium price. equilibrium quantity: the quantity supplied and the quantity demanded at the equilibrium price. On a graph it is the quantity at which the supply and demand curves intersect. On a graph it is the quantity at which the supply and demand curves intersect.

III. Supply and Demand Together At $2.00, the quantity demanded is equal to the quantity supplied! Demand Schedule Supply Schedule

The Equilibrium of Supply and Demand Price of Ice-Cream Cone Quantity of Ice-Cream Cones 13 Equilibrium quantity Equilibrium price Equilibrium Supply Demand $2.00

III. Supply and Demand Together When market price > the equilibrium price  there will be a surplus of the good. When market price > the equilibrium price  there will be a surplus of the good. surplus: a situation in which quantity supplied > quantity demanded. surplus: a situation in which quantity supplied > quantity demanded. To eliminate the surplus, producers will lower the price until the market reaches equilibrium. To eliminate the surplus, producers will lower the price until the market reaches equilibrium.

III. Supply and Demand Together Price of Ice-Cream Cone 0 Supply Demand (a) Excess Supply Quantity demanded Quantity supplied Surplus Quantity of Ice-Cream Cones 4 $

III. Supply and Demand Together When price < equilibrium price  then there will be a shortage of the good. When price < equilibrium price  then there will be a shortage of the good. shortage: a situation in which quantity demanded > quantity supplied. shortage: a situation in which quantity demanded > quantity supplied. Sellers will respond to the shortage by raising the price of the good until the market reaches equilibrium. Sellers will respond to the shortage by raising the price of the good until the market reaches equilibrium.

III. Supply and Demand Together Price of Ice-Cream Cone 0 Supply Demand (a) Excess Supply Quantity demanded Quantity supplied Surplus Quantity of Ice-Cream Cones 4 $

III. Supply and Demand Together Law of Supply and Demand: the claim that the price of any good adjusts to bring the supply and demand for that good into balance. Law of Supply and Demand: the claim that the price of any good adjusts to bring the supply and demand for that good into balance.

Three Steps to Analyzing Changes in Equilibrium : 1. Decide whether the event shifts the supply or demand curve (or both). 2. Decide in which direction the curve shifts. 3. Use the supply-and-demand diagram to see how the shift changes the equilibrium price and quantity.

Shifts in Curves vs. Movements Along Curves 1. A shift in the demand curve is called a "change in demand." A shift in the supply curve is called a "change in supply." 2. A movement along a fixed demand curve is called a "change in quantity demanded." A movement along a fixed supply curve is called a "change in quantity supplied."

How an Increase in Demand Affects the Equilibrium Price of Ice-Cream Cone 0 Quantity of Ice-Cream Cones Supply Initial equilibrium D D 3....and a higher quantity sold resulting in a higher price Hot weather increases the demand for ice cream New equilibrium $

How a Decrease in Supply Affects the Equilibrium Price of Ice-Cream Cone 0 Quantity of Ice-Cream Cones Demand New equilibrium Initial equilibrium S1S1 S2S resulting in a higher price of ice cream An increase in the price of sugar reduces the supply of ice cream and a lower quantity sold $2.50 4

A Change in Both Supply and Demand if you do not know the relative sizes of these shifts, the end effect on either equilibrium price or equilibrium quantity will be ambiguous. if you do not know the relative sizes of these shifts, the end effect on either equilibrium price or equilibrium quantity will be ambiguous. The outcome depends on the relative sizes of the shifts in supply and demand The outcome depends on the relative sizes of the shifts in supply and demand