1. Markets, Demand and Supply

Economic Systems Classifying economic systems –methods of classification –classification by degree of government control command economies free-market economies mixed economies Classifying economic systems –methods of classification –classification by degree of government control command economies free-market economies mixed economies

Economic Systems The command economy –features of a command economy –planning consumption and investment matching of inputs and outputs distribution of output Advantages of a command economy –high investment, high and stable growth –social goals pursued –low unemployment The command economy –features of a command economy –planning consumption and investment matching of inputs and outputs distribution of output Advantages of a command economy –high investment, high and stable growth –social goals pursued –low unemployment

Economic Systems Problems of a command economy –problems of gathering information –inefficient allocation of resources –expensive to administer –inappropriate incentives –shortages and surpluses –lack of response to consumer demand Problems of a command economy –problems of gathering information –inefficient allocation of resources –expensive to administer –inappropriate incentives –shortages and surpluses –lack of response to consumer demand

Economic Systems The free-market economy –based on free decision making by individuals and firms –demand and supply decisions –the price mechanism shortages and surpluses –shortage  price rises –surplus  price falls equilibrium price –where demand equals supply response to change in demand and supply The free-market economy –based on free decision making by individuals and firms –demand and supply decisions –the price mechanism shortages and surpluses –shortage  price rises –surplus  price falls equilibrium price –where demand equals supply response to change in demand and supply

Economic Systems Interdependence of markets –effect of a rise in demand effect in market for that good Interdependence of markets –effect of a rise in demand effect in market for that good

Goods Market The price mechanism: the effect of a rise in demand The price mechanism: the effect of a rise in demand

Goods Market DgDg  The price mechanism: the effect of a rise in demand The price mechanism: the effect of a rise in demand

Goods Market DgDg  shortage (D g > S g ) The price mechanism: the effect of a rise in demand The price mechanism: the effect of a rise in demand

Goods Market DgDg  shortage (D g > S g ) PgPg  The price mechanism: the effect of a rise in demand The price mechanism: the effect of a rise in demand

Goods Market DgDg  shortage (D g > S g ) PgPg  SgSg  The price mechanism: the effect of a rise in demand The price mechanism: the effect of a rise in demand

Goods Market DgDg  shortage (D g > S g ) PgPg  SgSg  DgDg  The price mechanism: the effect of a rise in demand The price mechanism: the effect of a rise in demand

Goods Market DgDg  shortage (D g > S g ) PgPg  SgSg  DgDg  until D g = S g The price mechanism: the effect of a rise in demand The price mechanism: the effect of a rise in demand

Economic Systems Interdependence of markets –effect of a rise in demand effect in market for that good effect in factor markets Interdependence of markets –effect of a rise in demand effect in market for that good effect in factor markets

Goods Market DgDg  shortage (D g > S g ) PgPg  SgSg  DgDg  until D g = S g Factor Market SgSg  The price mechanism: the effect of a rise in demand The price mechanism: the effect of a rise in demand

Goods Market DgDg  shortage (D g > S g ) PgPg  SgSg  DgDg  until D g = S g Factor Market SgSg  DfDf The price mechanism: the effect of a rise in demand The price mechanism: the effect of a rise in demand

Goods Market DgDg  shortage (D g > S g ) PgPg  SgSg  DgDg  until D g = S g Factor Market SgSg  shortage (D f > S f ) DfDf The price mechanism: the effect of a rise in demand The price mechanism: the effect of a rise in demand

Goods Market DgDg  shortage (D g > S g ) PgPg  SgSg  DgDg  until D g = S g Factor Market SgSg  shortage (D f > S f ) PfPf DfDf  The price mechanism: the effect of a rise in demand The price mechanism: the effect of a rise in demand

Goods Market DgDg  shortage (D g > S g ) PgPg  SgSg  DgDg  until D g = S g Factor Market SgSg  shortage (D f > S f ) PfPf SfSf  DfDf  The price mechanism: the effect of a rise in demand The price mechanism: the effect of a rise in demand

Goods Market DgDg  shortage (D g > S g ) PgPg  SgSg  DgDg  until D g = S g Factor Market SgSg  shortage (D f > S f ) PfPf SfSf  DfDf  DfDf  The price mechanism: the effect of a rise in demand The price mechanism: the effect of a rise in demand

Goods Market DgDg  shortage (D g > S g ) PgPg  SgSg  DgDg  until D g = S g Factor Market SgSg  shortage (D f > S f ) PfPf SfSf  DfDf  until D f = S f DfDf  The price mechanism: the effect of a rise in demand The price mechanism: the effect of a rise in demand

Economic Systems Interdependence of markets –effect of a rise in demand effect in market for that good effect in factor markets effect in other goods markets Interdependence of markets –effect of a rise in demand effect in market for that good effect in factor markets effect in other goods markets

Economic Systems Interdependence of markets –effect of a rise in demand effect in market for that good effect in factor markets effect in other goods markets effect in other factor markets Interdependence of markets –effect of a rise in demand effect in market for that good effect in factor markets effect in other goods markets effect in other factor markets

Economic Systems Interdependence of markets –effect of a rise in demand effect in market for that good effect in factor markets effect in other goods markets effect in other factor markets Competitive markets Interdependence of markets –effect of a rise in demand effect in market for that good effect in factor markets effect in other goods markets effect in other factor markets Competitive markets

Economic Systems Interdependence of markets –effect of a rise in demand effect in market for that good effect in factor markets effect in other goods markets effect in other factor markets Competitive markets –perfectly competitive markets Interdependence of markets –effect of a rise in demand effect in market for that good effect in factor markets effect in other goods markets effect in other factor markets Competitive markets –perfectly competitive markets

Economic Systems Interdependence of markets –effect of a rise in demand effect in market for that good effect in factor markets effect in other goods markets effect in other factor markets Competitive markets –perfectly competitive markets –everyone is a price taker Interdependence of markets –effect of a rise in demand effect in market for that good effect in factor markets effect in other goods markets effect in other factor markets Competitive markets –perfectly competitive markets –everyone is a price taker

Economic Systems Interdependence of markets –effect of a rise in demand effect in market for that good effect in factor markets effect in other goods markets effect in other factor markets Competitive markets –perfectly competitive markets –everyone is a price taker –why study perfect markets? Interdependence of markets –effect of a rise in demand effect in market for that good effect in factor markets effect in other goods markets effect in other factor markets Competitive markets –perfectly competitive markets –everyone is a price taker –why study perfect markets?

Demand The relationship between demand and price –the income effect –the substitution effect The demand curve The relationship between demand and price –the income effect –the substitution effect The demand curve

Quantity (tonnes: 000s) Price (pence per kg) Price (pence per kg) 20 Market demand (tonnes 000s) 700 A Point A Market demand for potatoes (monthly) Demand

Quantity (tonnes: 000s) Price (pence per kg) Price (pence per kg) Market demand (tonnes 000s) ABAB Point A B Demand Market demand for potatoes (monthly)

Quantity (tonnes: 000s) Price (pence per kg) Price (pence per kg) Market demand (tonnes 000s) ABCABC Point A B C Demand Market demand for potatoes (monthly)

Quantity (tonnes: 000s) Price (pence per kg) Price (pence per kg) Market demand (tonnes 000s) ABCDABCD Point A B C D Demand Market demand for potatoes (monthly)

Quantity (tonnes: 000s) Price (pence per kg) Price (pence per kg) Market demand (tonnes 000s) ABCDEABCDE Point A B C D E Demand Market demand for potatoes (monthly)

Demand Other determinants of demand –tastes –number and price of substitute goods –number and price of complementary goods –income –distribution of income –expectations Movements along and shifts in the demand curve Other determinants of demand –tastes –number and price of substitute goods –number and price of complementary goods –income –distribution of income –expectations Movements along and shifts in the demand curve

D1D1 Price P OQ0Q0 Q1Q1 Quantity An increase in demand D0D0

Supply Relationship between supply and price –as price rises, firms supply more it is worth incurring the extra unit costs they switch from less profitable goods in the long run, new firms will be encourage dot enter the market The supply curve Relationship between supply and price –as price rises, firms supply more it is worth incurring the extra unit costs they switch from less profitable goods in the long run, new firms will be encourage dot enter the market The supply curve

Price (pence per kg) Quantity (tonnes: 000s) Supply a P 20 Q 100 a Market supply of potatoes (monthly)

Price (pence per kg) Quantity (tonnes: 000s) Supply a b P Q abab Market supply of potatoes (monthly)

Price (pence per kg) Quantity (tonnes: 000s) Supply a b c P Q abcabc Market supply of potatoes (monthly)

Price (pence per kg) Quantity (tonnes: 000s) Supply a b c d P Q abcdabcd Market supply of potatoes (monthly)

Price (pence per kg) Quantity (tonnes: 000s) Supply a b c d e P Q abcdeabcde Market supply of potatoes (monthly)

Supply Other determinants of supply –costs of production –profitability of alternative products –profitability of goods in joint supply –nature and other random shocks –aims of producers –expectations of producers Movements along and shifts in the supply curve Other determinants of supply –costs of production –profitability of alternative products –profitability of goods in joint supply –nature and other random shocks –aims of producers –expectations of producers Movements along and shifts in the supply curve

P QO S0S0 Shifts in the supply curve

P QO S0S0 Increase S1S1 Shifts in the supply curve

P QO S2S2 S0S0 S1S1 IncreaseDecrease Shifts in the supply curve

The Determination of Price Equilibrium price and output –response to shortages and surpluses –significance of “equilibrium” Demand and supply curves Equilibrium price and output –response to shortages and surpluses –significance of “equilibrium” Demand and supply curves

The determination of market equilibrium (potatoes: monthly) Quantity (tonnes: 000s) E D C B A a b c d e Supply Demand Price (pence per kg)

The Determination of Price Equilibrium price and output –response to shortages and surpluses –significance of “equilibrium” Demand and supply curves –effect of price being above equilibrium Equilibrium price and output –response to shortages and surpluses –significance of “equilibrium” Demand and supply curves –effect of price being above equilibrium

The Determination of Price Equilibrium price and output –response to shortages and surpluses –significance of “equilibrium” Demand and supply curves –effect of price being above equilibrium surplus  price falls Equilibrium price and output –response to shortages and surpluses –significance of “equilibrium” Demand and supply curves –effect of price being above equilibrium surplus  price falls

Quantity (tonnes: 000s) E C B A a b c e Supply Demand Price (pence per kg) D d SURPLUS ( ) The determination of market equilibrium (potatoes: monthly)

The Determination of Price Equilibrium price and output –response to shortages and surpluses –significance of “equilibrium” Demand and supply curves –effect of price being above equilibrium surplus  price falls –effect of price being below equilibrium Equilibrium price and output –response to shortages and surpluses –significance of “equilibrium” Demand and supply curves –effect of price being above equilibrium surplus  price falls –effect of price being below equilibrium

The Determination of Price Equilibrium price and output –response to shortages and surpluses –significance of “equilibrium” Demand and supply curves –effect of price being above equilibrium surplus  price falls –effect of price being below equilibrium shortage  price rises Equilibrium price and output –response to shortages and surpluses –significance of “equilibrium” Demand and supply curves –effect of price being above equilibrium surplus  price falls –effect of price being below equilibrium shortage  price rises

Quantity (tonnes: 000s) E D C B A a b c d e Supply Demand Price (pence per kg) SHORTAGE ( ) The determination of market equilibrium (potatoes: monthly)

The Determination of Price Equilibrium price and output –response to shortages and surpluses –significance of “equilibrium” Demand and supply curves –effect of price being above equilibrium surplus  price falls –effect of price being below equilibrium shortage  price rises –equilibrium: where D = S Equilibrium price and output –response to shortages and surpluses –significance of “equilibrium” Demand and supply curves –effect of price being above equilibrium surplus  price falls –effect of price being below equilibrium shortage  price rises –equilibrium: where D = S

D d QeQe Quantity (tonnes: 000s) E B A a b e Supply Demand Price (pence per kg) The determination of market equilibrium (potatoes: monthly)

The Determination of Price Effects of shifts in the demand curve –movement along S curve and new D curve rise in demand (rightward shift)  P rises fall in demand (leftward shift)  P falls Effects of shifts in the demand curve –movement along S curve and new D curve rise in demand (rightward shift)  P rises fall in demand (leftward shift)  P falls

Effect of a shift in the demand curve P Q O Pe1Pe1 Qe1Qe1 S D1D1 g

P Q O Pe1Pe1 Qe1Qe1 S D1D1 g

P Q O Pe1Pe1 Qe1Qe1 S D1D1 D2D2 g

P Q O Pe1Pe1 Qe1Qe1 S g h D1D1 D2D2 Pe2Pe2 Qe2Qe2 i

The Determination of Price Effects of shifts in the demand curve –movement along S curve and new D curve rise in demand (rightward shift)  P rises fall in demand (leftward shift)  P falls Effects of shifts in the supply curve Effects of shifts in the demand curve –movement along S curve and new D curve rise in demand (rightward shift)  P rises fall in demand (leftward shift)  P falls Effects of shifts in the supply curve

The Determination of Price Effects of shifts in the demand curve –movement along S curve and new D curve rise in demand (rightward shift)  P rises fall in demand (leftward shift)  P falls Effects of shifts in the supply curve –movement along D curve and new S curve Effects of shifts in the demand curve –movement along S curve and new D curve rise in demand (rightward shift)  P rises fall in demand (leftward shift)  P falls Effects of shifts in the supply curve –movement along D curve and new S curve

The Determination of Price Effects of shifts in the demand curve –movement along S curve and new D curve rise in demand (rightward shift)  P rises fall in demand (leftward shift)  P falls Effects of shifts in the supply curve –movement along D curve and new S curve rise in supply (rightward shift)  P falls Effects of shifts in the demand curve –movement along S curve and new D curve rise in demand (rightward shift)  P rises fall in demand (leftward shift)  P falls Effects of shifts in the supply curve –movement along D curve and new S curve rise in supply (rightward shift)  P falls

The Determination of Price Effects of shifts in the demand curve –movement along S curve and new D curve rise in demand (rightward shift)  P rises fall in demand (leftward shift)  P falls Effects of shifts in the supply curve –movement along D curve and new S curve rise in supply (rightward shift)  P falls fall in supply (leftward shift)  P rises Effects of shifts in the demand curve –movement along S curve and new D curve rise in demand (rightward shift)  P rises fall in demand (leftward shift)  P falls Effects of shifts in the supply curve –movement along D curve and new S curve rise in supply (rightward shift)  P falls fall in supply (leftward shift)  P rises

Effect of a shift in the supply curve P Q O Pe1Pe1 Qe1Qe1 D S1S1 g

P Q O Pe1Pe1 Qe1Qe1 D S1S1 g

P Q O Pe1Pe1 Qe1Qe1 D S1S1 S2S2 g

P Q O Pe1Pe1 Pe3Pe3 Qe3Qe3 Qe1Qe1 D S1S1 S2S2 jg k

The Free-market Economy Advantages of a free-market economy –transmits information between buyers and sellers –no need for costly bureaucracy –incentives to be efficient –competitive markets respond to consumer wishes Advantages of a free-market economy –transmits information between buyers and sellers –no need for costly bureaucracy –incentives to be efficient –competitive markets respond to consumer wishes

The Free-market Economy Problems of a free-market economy –competition may be limited –inequality –environment and social goals may be ignored The mixed economy –types of intervention use of taxes, subsidies and benefits legislation and regulation direct provision by the government Problems of a free-market economy –competition may be limited –inequality –environment and social goals may be ignored The mixed economy –types of intervention use of taxes, subsidies and benefits legislation and regulation direct provision by the government