1. Supply, Demand, and the Market Process
Chapter 3

2. Chapter 3 Objectives Describe consumer behavior.
Separate the difference between a change in demand and a change in quantity demanded.
Describe firm behavior.
Separate the difference between a change in supply and a change in quantity supplied.
Investigate how a market establishes an equilibrium price.

3. The Law of Demand
There is an inverse relationship between the price of a good and the quantity of it buyers are willing and able to purchase
When the price rises, quantity demanded falls
When the price falls, quantity demanded rises
Ceteris paribus!

4. The Market Demand Schedule
Quantity demanded – the number that people are willing and able to buy at each price
Pizza Demand Schedule
Price
Quantity Demanded
$20 10 16 60 12
110 8
160 4
210

5. The Market Demand Curve
Pizza Demand Schedule
Pizza Demand Curve
Price
Quantity Demanded
$20 10 16 60 12
110 8
160 4
210

6. The Demand Curve: A Tell All Story about Consumers
How much do consumers value the good?
Max amount willing to buy at any given price
Consumers value additional units less

7. Consumer Surplus
Consumer Surplus – the difference between the maximum price consumers are willing to pay and the price they actually pay.
Represents the net benefit of buying the good.
Example: You’re willing to pay $25 for a shirt. You buy it for $15. Your consumer surplus is $25 - $15 = $10.

8. Consumer Surplus
On a graph, consumer surplus is the area below the demand curve and above the price
Price P1
Demand Q1
Quantity

9. Consumer Surplus
Marginal value – height of demand curve at each quantity
Total value – the combined value of all units purchased
Price P1
Demand Q1
Quantity

10. Consumer Surplus Lower price  more consumer surplus
Higher price  less consumer surplus
Consume good until
Price = Marginal Value
Price reflects marginal value, not total value

11. Substitutes
Products that serve similar purposes

12. Elastic and Inelastic Demand
Many substitutes are available
Quantity demanded is quite responsive to a change in price
The demand curve is relatively flat (but still downward sloping)
Red Nike Running Shoes
Price
Demand
Quantity

13. Elastic and Inelastic Demand
Few substitutes are available
Quantity demanded is not very responsive to a change in price
The demand curve is relatively steep (but still downward sloping)
Econ Text
Price
Demand
Quantity

14. Change in Quantity Demanded vs. Change in Demand
Increase in Quantity Demanded
Increase in Demand
Price
Price D2 D1 Q1 Q2
Quantity
Quantity

15. Change in Quantity Demanded vs. Change in Demand
Decrease in Quantity Demanded
Decrease in Demand
Price
Price D1 D2 Q2 Q1
Quantity
Quantity

16. Change in Quantity Demanded vs. Change in Demand
Change in Quantity Demanded: caused by a change in the price of the good.
Change in Demand: caused by changes in factors other than a good’s price that influence consumer decisions
Consumer income
Number of consumers
Price of related goods
Expectations
Demographics
Tastes and preferences

17. Demand Shifter #1 Change in Consumer Income
For most goods,
An increase in income leads to an increase in demand for the good
A decrease in income leads to a decrease in demand for the good
Examples: food, clothing, housing

18. Demand Shifter #2 Changes in the Number of Consumers in the Market
When the number of consumers
increases, demand increases
falls, demand decreases

19. Demand Shifter # 3 Changes in Prices of Related Goods
Substitutes -- goods that perform similar functions or fulfill similar needs
When the price of a substitute changes, the demand for the other good is impacted

21. Demand Shifter # 3 Changes in Prices of Related Goods
An increase in the price of one substitute good leads to an increase in the demand for the other
An decrease in the price of one substitute good leads to an decrease in the demand for the other
Prices of substitutes move in the same direction

22. Demand Shifter # 3 Changes in Prices of Related Goods
Complements -- products consumed jointly
When the price of a complement changes, the demand for the other good is impacted

23. Demand Shifter # 3 Changes in Prices of Related Goods
An increase in the price of one complement good leads to an decrease in the demand for the other
An decrease in the price of one complement good leads to an increase in the demand for the other
Prices of complements move in opposite directions

24. Complements or Substitutes?

25. Demand Shifter # 4 Changes in Consumer Expectations
Expectations about the future can shift demand curves in the present
Expect rain tomorrow, demand for umbrellas increases today.
Expect a raise in the future, demand for clothing increases today.

26. Demand Shifter # 5 Demographic Changes
Changes in sex, race, or age of population change demand for certain goods

27. Demand Shifter #6 Changes in Consumer Tastes and Preferences
Tastes and preferences change due to changes in trends, information, and people