Objectives  Explain the law of demand  Change in quantity demanded  Change in demand

Markets

Represent the interaction of buyers and sellers

Markets

Markets set the prices we pay and receive

The Law of Demand  Demand Quantities of specific goods or services that individuals or groups will purchase at various possible prices, ceteris paribus.

The Law of Demand  Law of Demand Quantity demanded is inversely related to price, all things equal

The Law of Demand What are we holding constant? Income  Income Effect Price of other goods  Substitution Effect Many other factors

The Demand Schedule  The demand schedule is a table relating prices to quantity demanded.  We must consider: The time dimension Constant-quality units

The Market Demand Schedule for Minidisks

The Market Demand Curve for Minidisks

Shifts in Demand Determinants of demand Income Tastes and preferences The price of related goods  Complements  Substitutes

Shifts in Demand Determinants of demand Expectations  Future prices  Income  Product availability Market size (number of buyers)

Shifts in Demand The Determinants of Demand Income: Normal Good D1D1 Q/Units D2D2 D3D3 Price Decrease in income decreases demand Increase in income increases demand

Shifts in Demand The Determinants of Demand Income: Inferior Good D1D1 Q/Units Decrease in income increases demand Increase in income decreases demand Price D2D2 D3D3

Shifts in Demand The Determinants of Demand Income: Tastes and Preferences D1D1 Q/Units Price Sport Utility Vehicle Increase in demand D2D2 Smoking Decrease in demand D3D3

Shifts in Demand The Determinants of Demand Price of Related Goods: Substitutes D1D1 Q/Butter Butter and Margarine Price of both = $2/lb. Price of margarine increases to $3/lb. Demand for butter increases D2D2 Price

Shifts in Demand The Determinants of Demand Price of Related Goods: Complements D1D1 Q/Speakers Speakers and Amplifiers Decrease the relative price of amplifiers Demand for speakers increases D2D2 D3D3 Speakers and Amplifiers Increase the relative price of amplifiers Demand for speakers decreases Price

Shifts in Demand The Determinants of Demand Expectations D1D1 Q/Units A higher income or expectations of a higher future price will increase demand D2D2 D3D3 A lower income or expectations of a lower future price will decrease demand Price

Shifts in Demand The Determinants of Demand Population D1D1 Q/Units Increase in the population increases demand D2D2 D3D3 Decrease in population decreases demand Price

Shifts in Demand Changes in demand versus changes in quantity demanded –A change in one or more of the non-price determinants (income, tastes, etc.) will lead to a change in demand. –This is a movement of the whole curve.

Shifts in Demand Changes in demand versus changes in quantity demanded –A change in a good’s own price leads to a change in quantity demanded. –This is a movement on the same curve.

Movement Along a Given Demand Curve Quantity of Rewritable CDs Demanded (millions of constant-quality units per year) Price of Rewritable CDs($)

A change in the price changes the quantity of a good demanded Movement Along a Given Demand Curve Quantity of Rewritable CDs Demanded (millions of constant-quality units per year) Price of Rewritable CDs($) D

D A change in the price changes the quantity of a good demanded Movement Along a Given Demand Curve Quantity of Rewritable CDs Demanded (millions of constant-quality units per year) Price of Rewritable CDs($)

Movement Along a Given Demand Curve Quantity of Rewritable CDs Demanded (millions of constant-quality units per year) Price of Rewritable CDs($) D A change in the price changes the quantity of a good demanded

Objectives  Explain the law of supply  Distinguish between changes in supply and changes in quantity supplied  Explain how supply and demand interact to determine equilibrium price and quantity

The Law of Supply Supply –The amount of a product or service that firms are willing to sell at alternative prices –Chicago Burgerwurks 8819 Ogden Ave Brookfield, IL

The Law of Supply Law of Supply –The price of a product or service and the quantity supplied are directly related

The Market Supply Schedule for Rewritable CDs

The Market Supply Curve for Rewritable CDs

Shifts in Supply Determinants of supply Cost of inputs Technology and productivity Taxes and subsidies Price of other goods Price expectations Number of firms in industry

Shifts in Supply The Determinants of Supply Cost of Inputs S1S1 Q/Units Decrease in cost increases supply S2S2 Increase in cost decreases supply S3S3 Price

Shifts in Supply The Determinants of Supply Technology and Productivity S1S1 Q/Units Improvements in technology or increases in productivity increase supply S2S2 Decreases in productivity decrease supply S3S3 Price

Shifts in Supply The Determinants of Supply Taxes and Subsidies S1S1 Q/Units Decreases in taxes or increases in subsidies increase supply S2S2 Increases in taxes or decreases in subsidies decrease supply S3S3 Price

Shifts in Supply The Determinants of Supply Price Expectations S1S1 Q/Units Expectations of lower future prices increase supply S2S2 Expectations of higher future prices decrease supply S3S3 Price

Shifts in Supply The Determinants of Supply Number of Firms in Industry S1S1 Q/Units Increase in the number of firms increases supply S2S2 Decrease in the number of firms decreases supply S3S3 Price

Shifts in Supply Changes in supply versus changes in quantity supplied A change in one or more of the non-price determinants will lead to a change in supply. This is a movement of the whole curve.

Shifts in Supply Changes in supply versus changes in quantity supplied A change in a good’s own price leads to a change in quantity supplied. This is a movement on the same curve.

Your 3 Step Program Decide if event shifts supply or demand Decide direction the curve shifts Identify new equilibrium

Putting Demand and Supply Together

Quantity of Rewritable CDs (millions of constant-quality units per year) Price per Rewritable CD($) S D AB Excess quantity demanded at price $1 Shortage At P = $1: Q s (A) = 2 < Q d (B) = 10 All prices below $3 Q d > Q s Price will be pushed up

Putting Demand and Supply Together Quantity of Rewritable CDs (millions of constant-quality units per year) Price per Rewritable CD($) S D DC Excess quantity demanded at price $5 Surplus At P = $5: Q d (D) = 2 < Q s (C) = 10 All prices above $3 Q d < Q s Price will be pushed down

Putting Demand and Supply Together Quantity of Rewritable CDs (millions of constant-quality units per year) Price per Rewritable CD($) S D DC Excess quantity demanded at price $5 AB Excess quantity demanded at price $1 Equilibrium Market clearing, or equilibrium price E

Putting Demand and Supply Together Equilibrium The situation when quantity supplied equals quantity demanded at a particular price

Putting Demand and Supply Together Shortages The situation when quantity demanded is greater than quantity supplied Exists at any price below the equilibrium price Is not the same as scarcity

Putting Demand and Supply Together Surpluses The situation when quantity supplied is greater than quantity demanded Exists at any price above the equilibrium price

Why Online Auctions Aren’t So Lucrative Anymore Selling prices of auctioned items have fallen in the past two years –More items are for sale –The supply of items has increased more rapidly than has the demand, causing a drop in equilibrium prices

Why Online Auctions Aren’t So Lucrative Anymore

Summary  The law of demand says that prices and quantity demanded are inversely related.  A change in quantity demanded versus a change in demand A change in quantity demanded is a movement along the same demand curve A change in demand is a shift of the whole demand curve

Summary  The law of supply states that price and quantity supplied are directly related.  A change in quantity supplied versus a change in supply A change in quantity supplied is a movement along the same supply curve A change in supply is a shift of the whole supply curve

Summary  Determining market price and equilibrium quantity The demand and supply curves intersect at the equilibrium point. Shortages exist when the price of a good is below the market price. Surpluses exist if the price of the good is greater than the market price.

Conclusion  Market economies harness the forces of supply and demand.  Supply and demand together determine the prices of the economy’s goods and services.  Prices are the signals that guide the allocation of resources.