1. Markets Markets Defined
A market is an institution or mechanism that brings together buyers (demanders) and sellers (suppliers) of particular goods and services.
A market may be local, national, or international in scope.
Some markets are highly personal, face-to-face exchanges; others are impersonal and remote.
This chapter concerns purely competitive markets with a large number of independent buyers and sellers.
Product market involves goods and services.
Resource market involves factors of production.
The goal of the chapter is to explain the way in which markets adjust to changes and the role of prices in bringing the markets toward equilibrium.

2. Demand Schedule
A. Demand is a schedule that shows the various amounts of a product consumers are willing and able to buy at each specific price in a series of possible prices during a specified time period.
1. Example of demand schedule for corn is Table 3-1.
2. The schedule shows how much buyers are willing and able to purchase at five possible prices.
3. The market price depends on demand and supply.
4. To be meaningful, the demand schedule must have a period of time associated with it.

3. …a specified time period …other things being equal
Demand Schedule
Consumers “willingness to buy”
Price decreases; QD increases D P QD $5 $4 $3 $2 $1 $5 4 3 2 1 10 20 35 55 80
Quantity Demanded
…a specified time period
…other things being equal
QD – how much will be purchased at a specific price [& date].

4. Law of demand is a fundamental characteristic of demand behavior.
1. Other things being equal, as price increases, the corresponding quantity demanded falls.
2. Restated, there is an inverse relationship between price and quantity demanded.
3. Note the “other things being constant” assumption refers to consumer income and tastes, prices of related goods, and other things besides the price of the product being discussed.
4. Explanation of the law of demand:
a. Diminishing marginal utility: The decrease in added satisfaction that results as one consumes additional units of a good or service, i.e., the second “Big Mac” yields less extra satisfaction (or utility) than the first.
b. Income effect: A lower price increases the purchasing power of money income enabling the consumer to buy more at lower price (or less at a higher price).
c. Substitution effect: A lower price gives an incentive to substitute the lower-priced good for now relatively higher-priced goods.
The income and substitute effects combine to make consumers able and willing to buy more of a product at a low price than at a high price.

5. The Law of Demand: Why is the Demand Curve Downward-sloping?
The Income Effect
as the price rises given your income-you buy less
as the price falls given your income-you can afford to buy more
The Substitution Effect
As the price rises, buyers switch to relatively cheaper goods
As the price falls, buyers switch to relatively more expensive goods

6. D Law of Demand [Change in QD] iPhone $399.00 $250.00 Change in QD QD1
Reasons For Downsloping “D” Curve
1. Income Effect –current buyers buy more.
2. Substitution Effect– new buyers now purchase.
3. Diminishing Marginal Utility - because buyers
of successive units receive less marginal utility,
they will buy more only when the price is lowered.
iPhone
[8GB]
$399.00
[with 2 yr contract]
Change in QD
1. Price change
2. Movement
[up/down the demand curve]
3. Point to point [along the curve]
Price QD
$250.00
Inverse relationship
QD1
QD2
“D” refers to the “whole curve”. [“all prices”]
“QD” refers to a “point on the curve”
based on a “particular price.”

7. Three Reasons Why the Law of Demand ExistsP1 P2
Income Effect
When things are expensive, money buys less
When things are cheap, money buys more
Substitution Effect
When apples are expensive and their
substitutes (pears) are relatively cheap,
I buy fewer apples and more pears
Diminishing Marginal Utility
Each additional unit of an item purchased gives less marginal utility (happy points) than the previous unit. Therefore, the only way I will buy more is if the price is lower.
Ex. When I’m hungry, I typically will buy 2 breakfast tacos. The reason I don’t buy a third taco is because the marginal utility of the third taco is less than the price of the taco. But, if the price of the taco is less than the marginal utility of the taco, then I will buy the third taco
QD1
QD1

8. The demand curve:
1. Illustrates the inverse relationship between price and quantity (see corn example, Figure 3-1).
2. The downward slope indicates lower quantity (horizontal axis) at higher price (vertical axis), higher quantity at lower price.

9. Demand is a whole bunch of QDs strung together.
Demand [curve]
Demand Can Increase or Decrease
“Change in Demand (curve)” [“TIMER] 5 4 3 2 1 P
Demand Schedule D2 D1
Individual Demand D3 P Qd
Increase in Demand $5 4 3 2 1 10 20 35 55 80
Price (per bushel)
Decrease in Demand
Demand is a whole bunch of QDs strung together. Q
Quantity Demanded (bushels per week)

10. (Food, sleep, date, study, etc.)
The LAW of DEMAND states that consumers are willing and able to consume less of a good as its price rises.
…..or consume more of a good as its price decreases.
$80
$70
$60
$50
$40
$30
$20
$10 P
R I
C E
D (demand)
(Food, sleep, date, study, etc.)
QUANTITY

11. Graphing The Demand Curve
[Price Change, Point to Point Movement]
Picture of
Law of
Demand

12. Individual vs. market demand:
1. Transition from an individual to a market demand schedule is accomplished by summing individual quantities at various price levels.
2. Market curve is horizontal sum of individual curves (see corn example, Tables 3-2, 3-3 and Figure 3-2).

13. Individual Demand Market Demand To “JO” “Mo” “Bo” + = + D D D D2 D 261
[Total] $3 + $3 + = $3 $3 $2 $2 $2 $2 35 40 26 39 45 30
100
115
115
From “individual” demand to “market” demand
And, what if the price of this product decreases from $3 to $2?
A point to point movement on the same “D” curve is a “Change in QD”

14. Change in “Demand” [curve] [“TIMER”].
Consumers change
their minds at each
and every price.
Based on good or bad
publicity about OJ.
16 oz. Orange juice = 220 calories
16 oz. Tomato juice = 78 calories

15. Quantity Demanded vs. Demand
Quantity Demanded [QD] is triggered by a price chg.
The quantities of a good or service that people will purchase at a specific price at a given time.
Demand [D] is triggered by “TIMER” [non-price].
A schedule of the total quantities of a good or service that purchasers will buy at different prices at a given time.
Demand is a bunch of QD’s strung together.

16. P D3 D1 D2 P P Bread Butter Bagels D D1 D2 D1 P1 P2
“Demand Shifters” [TIMER]
1. Taste [direct]
2. Income [normal-direct] [inferior-inverse]
3. Market Size [number of consumers-direct]
4. Expectations [of consumers about future *price-direct,
about future availability-inverse, or about future income–direct.
5. Related Good *Prices [substitutes-direct] [complements-inverse] D1 D2 D D1 D1 P1 D3 D2 D2 P P2 P P
Complement
[inverse]
QD1
QD2
Substitute
[Direct]
Bread
Butter
Bagels
Change in “D” [curve]
1. Non price change [“TIMER”]
2. Whole “D” curve shifts
[There is a change in “QD” but it is
not caused by a change in “price.”
[QD-”single price”; D-”all prices”]
QD3
QD1
QD2

17. Change in “Taste” D1 D2 D3 P QD3 QD2
Mini
Skirts
Hip Huggers
Bell Bottoms
1. An “Increase in Taste” shifts the D curve right
a. The Nehru jacket came & went in 6 months.
b. Jordache jean demand created by TV
c. Leisure suits and bell bottoms.
d. Technological change may cause
consumer taste to change[slide rules].
QD3
QD1
QD2
Platforms

18. 1. "Change in Taste" for Dark Chocolate
Increase in demand for dark chocolate after studies
revealed that there were health benefits from eating it.
Scientists have discovered that smokers who ate dark chocolate had
less hardening of the arteries and a lowered risk of blood clots. D2 D1 P

19. Advertising Can Shift “D” [& also impact QD]
$45
QD1
QD2

20. [Normal-Direct; Inferior-Inverse]
2. Change in Income
[Normal-Direct; Inferior-Inverse]
Spam
Steak D2 D1
Less income
results in
more demand
for spam;
less demand
for steak.
More income
results in
more demand
for steak;
less demand
for spam. P
QD1
QD2

21. Income Spam Steak 2. Change in Income Demand For Demand
Normal Good – goods whose demand
varies directly with income.
Inferior Good – goods whose demand
varies inversely with income.
Butter, filet, steel-belts, new clothing & new cars v.
Margarine, spam, used tires, old clothing & old cars
Demand
For
Steak
Income
Demand
For
Spam

22. 3. Change in Market Size [Direct]
[Number of Consumers] D2 D1 P
More demand
for both spam
and steak.
QD1
QD2

23. can increase/decrease from economic decisions, advertising, and
3. Market Size (direct) (# of consumers)
can increase/decrease from
economic decisions, advertising, and
government political decisions (China).
Ex: The large “baby boom” of
increased the demand for baby supplies.
An increase in life expectancy increased
demand for for medical care, retirement
communities, and nursing homes.
Increase in # of consumers

24. P 4. Expectations [of consumers]
[about future price, availibility, & income]
If the iPod-Touch is expected to
increase in price from $299 to $399. D2 D1
iPod-Touch P
QD1
QD2

25. 4. Consumer Expectations
car
Consumer expectations about future product
price, future availability, & future income.
Ex: When the Korean War broke out in the
summer of 1950, new car sales boomed (also
washers and refrigerators) out of the
expectation of a production stoppage like
during WWII. None occurred but it was the
expectation that affected new car demand.

26. 5. Prices of Related Goods
[Substitues-Direct; Complements-Inverse] D1 D2 D D1 P1 D2 P P2 P
Complement
[Inverse]
QD1
QD2
Substitute
[Direct]
Gangsta Grills
Chrysler 300s
Toyotas
TIMER

27. 5. Prices of Related Goods
There are three types of goods.
Independent goods – price change
of one has no impact on the other.
Ex: fishhooks & pantyhose or salt & shoelaces
2. Substitute goods(“competing goods”)
- price change of one affects the
demand of the other directly.
Ex: 7Up & Coke or Miller & Bud
3. Complementary goods(“go together”)
demand for the other inversely.
5. Prices of Related Goods D1 D2
QD2 QD1
Peanut butter & jelly D2 D1
Camera
QD1 QD2
Film
Cereal & milk Coffee & donuts

28. [Increase in price of one; increase in “D” of the other]
Substitutes - Direct
Demand
for
Dr Pepper
Price Of
7UP D1 D2 D P P2 P1
QD QD
QD2 QD1

29. Complements - Inverse Car Prices Gasoline Demand P D2 D1
[Decrease in price of one; increase in the “D” for the other]
Complements - Inverse P1 P2
QD1 QD2 D1 D2
Car Prices P
QD QD
Gasoline Demand
No change
in price
I’m making more money without dropping my prices.
They are so cheap that
even dogs are buying cars

30. [Increase in price of one; increase in “D” of the other]
Substitutes – Direct
[Increase in price of one; increase in “D” of the other]
Demand for
Microsoft’s Zune D2
Price of
iPod Video D1 D P P2 P1
QD QD
QD2 QD1
1977, Bill was
arrested for
running a stop
sign and driving
without a license.

31. Substitutes - Direct
Demand
for
Turkey
Price Of
Chicken D1 D2

32. Prices of Related Goods
Although both monitor & laptop QDs changed, it is still
a “Change in D” for those two, because the QD changes
were not triggered by a change in price.
The price of desktop computers did change so there is a
“Change in QD” for desktop computers. D1 D2 D D1 P1 D2 P P2 P
Complement
[inverse]
QD1
QD2
Substitute
[Direct]
Desktop
Computers
Monitor
Laptops
Prices of Related Goods

33. Substitutes - Direct Windows Apple Price Of Computers Demand for

34. Substitute/Complement Relationships. D
“Substitutes” D1 D2 P1 P
Price
Decreases
Price
Decreases P2
QD2 QD1
QD1 QD2
[DIRECT]
Hamburgers
Hot Dogs
“Complements” D D1 D2
Price
Decreases
Demand
Increases P1 P P2
QD1 QD2
QD1 QD2
[inverse]
Syrup
Pancakes

35. “TIMER” P Tastes [direct] Incomes -Normal [direct] & Inferior[inverse]
Market Size(# of consumers) [direct]
Expectations of consumers about
[future price-direct; future
income [direct]; and availability [inverse]
Related Good Price Changes
[substitutes-direct; complements-inverse]
Helmets

37. Determinants of Demand (5)
There are several determinants of demand or the “other things,” besides price, which affect demand. Changes in determinants cause changes in demand.
“Demand Shifters” [TIMER]
1. Taste [direct]
2. Income
[normal-direct]
[inferior-inverse]
3. Market Size
[number of consumers-direct]
4. Expectations [of consumers about future *price-direct,
about future availability-inverse, or about future income–direct.
5. Related Good *Prices [substitutes-direct] [complements-inverse]

38. Change in Quantity Demanded6 5 4 3 2 1
Quantity Demanded (bushels per week)
Price (per bushel) P Q D1
Decrease in Demand D2 D3
Change in Demand
Change in Quantity Demanded

39. A summary of what can cause an increase in demand:
Favorable change in consumer tastes.
Increase in the number of buyers.
Rising income if product is a normal good.
Falling incomes if product is an inferior good.
Increase in the price of a substitute good.
Decrease in the price of a complementary good.
Consumers expect higher prices in the future.
A summary of what can cause a decrease in demand:
Unfavorable change in consumer tastes,
Decrease in number of buyers,
Falling income if product is a normal good,
Rising income if product is an inferior good,
Decrease in price of a substitute good,
Increase in price of a complementary good,
Consumers’ expectations of lower prices, or incomes in the future.
Review the distinction between a change in quantity demanded caused by price change and a change in demand caused by change in determinants.

40. Work Activities 1-4 and 1-5

41. Supply
Supply is a schedule that shows amounts of a product a producer is willing and able to produce and sell at each specific price in a series of possible prices during a specified time period.
1. A supply schedule portrays this such as the corn example in Table 3-5.
2. Schedule shows what quantities will be offered at various prices or what price will be required to induce various quantities to be offered.

42. Law of supply:
1. Producers will produce and sell more of their product at a high price than at a low price.
2. Restated: There is a direct relationship between price and quantity supplied.
3. Explanation: Given product costs, a higher price means greater profits and thus an incentive to increase the quantity supplied.
4. Beyond some production quantity producers usually encounter increasing costs per added unit of output.

43. The supply curve:
1. The graph of supply schedule appears in Figure 3-4, which graphs data from Table 3-6.
2. It shows direct relationship in upward sloping curve. 5 4 3 2 1
Price (per bushel)
Quantity supplied (bushels per week) S P Q
Supply of Corn
Price per Bushel Qs
per Week $5 60 4 50 3 35 2 20 1 5

44. The demand curve:
1. Illustrates the inverse relationship between price and quantity (see corn example, Figure 3-1).
2. The downward slope indicates lower quantity (horizontal axis) at higher price (vertical axis), higher quantity at lower price.

45. The Law of Supply: Why is the Supply Curve Upward-sloping?
Marginal costs of production rise as more is produced
When producers make more output, they need more inputs
Land
Labor
Capital
Entrepreneurship
Producers bid up the price of these inputs by using more
To maintain profit margins, they must pass on the higher cost to consumers

46. (Food, sleep, date, study, etc.)
The LAW of SUPPLY states that producers are willing and able to produce more of a good as its price rises.
S (supply)
$80
$70
$60
$50
$40
$30
$20
$10 P
R I
C E
….or produce less of a good as its price decreases.
(Food, sleep, date, study, etc.)
QUANTITY

47. Determinants of supply:
A change in any of the supply determinants causes a change in supply and a shift in the supply curve. An increase in supply involves a rightward shift, and a decrease in supply involves a leftward shift.

48. Six basic determinants of supply, other than price.
Resource prices—a rise in resource prices will cause a decrease in supply or leftward shift in supply curve; a decrease in resource prices will cause an increase in supply or rightward shift in the supply curve.
Technology—a technological improvement means more efficient production and lower costs, so an increase in supply or rightward shift in the curve results.
Taxes and subsidies—a business tax is treated as a cost, so decreases supply; a subsidy lowers cost of production, so increases supply.
Prices of related goods—if price of substitute production good rises, producers might shift production toward the higher priced good, causing a decrease in supply of the original good.
Expectations—expectations about the future price of a product can cause producers to increase or decrease current supply.
Number of sellers—generally, the larger the number of sellers the greater the supply.
Review the distinction between a change in quantity supplied due to price changes and a change or shift in supply due to change in determinants of supply.
Any factor that increases the cost of production decreases supply.
Any factor that decreases the cost of production increases supply.

49. “Supply Shifters” [RATNEST]
1. Resource Cost [wages/raw materials] [INVERSE]
2. Alternative Output Prices [INVERSE]
3. Technology [DIRECT]
4. Number of Suppliers [DIRECT]
5. Expectations [about future price] [INVERSE]
6. Subsidies [DIRECT]
7. Taxes [INVERSE]
S S S2

50. Let's Take A Look At The
Seven Supply Shifters
["RATNEST"]

51. 1.Resource Cost [wages & raw materials] [Inverse]
If resource cost
increases
supply
Decreases
[making less $]
If resource cost
decreases
supply
Increases
[making more $] S S S P

52. 1.Resource Cost [wages & raw materials] [Inverse]P
Resource Cost [wages & raw materials] [Inverse]
Increase in wages (increases/decreases) supply.
Ex: A decrease in the price of computer chips
(increases/decreases) the supply of computers.

53. 2. Alternative Output Price Change [Inverse]
These are “things that can be supplied with the same resources”.
Corn
I only have 200 acres
Broccoli S2 S1 P1 S P2 P
QS1
QS2
Producers want to produce more of the good where price is increasing,
Corn
Broccoli S1 P1 S S2 P P2
QS1
QS2
or at least, where the price is not going down.
“Substitutes in production” [Remember, productive resources are scarce]

54. Alternative Output price changes [inverse]
2. Alternative Output Price Change [Inverse]
S S S2 P
Alternative Output price changes [inverse]
If the price of corn decreases, the supply of broccoli (increases/decreases). S1 S2 P
Supply of broccoli

55. 3. Technological Improvement [Direct]
“Can’t wait till milking time.”
This lowers production costs & increases “S”.
Ex: Suppose a new milking machine called
“The Invisible Hand” has a very soothing
effect on cows; cows find the new machine
so “udderly” delightful that they produce
30% more milk. This technological advance
will cause a shift to the right.

56. 4. Number of Producers [Direct]
S S S2 P
If more firms enter an industry, the supply curve will shift to the (left/right).
When the American Basketball League began play in 1968, there was a (bigger/smaller) supply of basketball games each week.
A new professional football league will (increase/decrease) the supply of football games.

57. Alternative Output price changes [inverse]
Alternative Output Example
S S S2 P
Alternative Output price changes [inverse]
If the price of corn decreases, the supply of broccoli (increases/decreases). S1 S2 P
Supply of broccoli

58. 3. Technological Improvement
“Can’t wait till milking time.”
This lowers production costs & increases “S”.
Ex: Suppose a new milking machine called
“The Invisible Hand” has a very soothing
effect on cows; cows find the new machine
so “udderly” delightful that they produce
30% more milk. This technological advance
will cause a shift to the right.

59. 4. Number of Producers [Direct]
S S S2 P
If more firms enter an industry, the supply curve will shift to the (left/right).
When the American Basketball League began play in 1968, there was a (bigger/smaller) supply of basketball games each week.
A new professional football league will (increase/decrease) the supply of football games.

60. 5. Producer Expectations about Future Price [Inverse]
Oil Prices
expected
to decrease
Oil Prices
expected
to increase P
If oil producers expect future oil prices to decline, they will (increase/decrease) current production.
If oil producers expect future oil prices to increase, they will (increase/decrease) current production.
For example, if the cattle farmer expects higher prices for beef in the future, he will send (more/less) cattle to market now. 
He will keep them on the farm now and would send the cattle to the market in the future when prices are expected to be higher. 

61. 6. Subsidies - free money from government
[Direct] S3 S1 S2 P
Free money from the government (subsidies) induces
suppliers to supply more.
If subsidies are taken away, then suppliers are losing money
and will decrease supply.

62. 7. Taxes Take Away Business Profits & Decrease Supply [Inverse]
I’m losing
profits.”
If business have their taxes decreased,
it moves the supply curve to the right.
If business have their taxes increased,
it moves the supply curve to the (left/right).

63. Work Activities 1-6 and 1-7

64. Supply and Demand: Market Equilibrium
1. At prices above this equilibrium, note that there is an excess quantity or surplus.
2. At prices below this equilibrium, note that there is an excess quantity demanded or shortage.
C. Market clearing or market price is another name for equilibrium price.
D. Graphically, note that the equilibrium price and quantity are where the supply and demand curves intersect. This is IMPORTANT.
E. Rationing function of prices is the ability of competitive forces of supply and demand to establish a price where buying and selling decisions are coordinated.

65. Changes in Supply and Demand, and Equilibrium
A. Changing demand with supply held constant:
1. Increase in demand will have effect of increasing equilibrium price and quantity (Figure 3-6a).
2. Decrease in demand will have effect of decreasing equilibrium price and quantity (Figure 3-6b).
B. Changing supply with demand held constant:
1. Increase in supply will have effect of decreasing equilibrium price and increasing quantity (Fig 3-6c).
2. Decrease in supply will have effect of increasing equilibrium price and decreasing quantity (Fig 3-6d).

66. Complex cases—when both supply and demand shift (see Table 3-9): Q1 S2 S1 D1 D2
P1, 2 P2 P1 Q2 Q2 S1 S2 D2 D1
P1, 2 P1 P2 Q1
Q1,2 S1 S2 D1 D2 P1 P2 Q1 Q2
Complex cases—when both supply and demand shift (see Table 3-9):
1. If supply increases and demand decreases, price declines, but new equilibrium quantity depends on relative sizes of shifts in demand and supply.
2. If supply decreases and demand increases, price rises, but new equilibrium quantity depends again on relative sizes of shifts in demand and supply.
3. If supply and demand change in the same direction (both increase or both decrease), the change in equilibrium quantity will be in the direction of the shift but the change in equilibrium price now depends on the relative shifts in demand or supply.

67. A Reminder: Other things equal:
1 Demand is an inverse relationship between price and quantity demanded, other things equal (unchanged).
2. Supply is a direct relationship showing the relationship between price and quantity supplied, other things equal (unchanged).
3. It can appear that these rules have been violated over time, when tracking the price and the quantity sold of a product such as gasoline or coffee.
4. Many factors other than price determine the outcome.
5. If neither the buyers nor the sellers have changed, the equilibrium price will remain the same.
6. The most important distinction to make is to determine if a change has occurred because of something that has affected the buyers or something that is influencing the sellers.
7. A change in any of the determinants of demand will shift the demand curve and cause a change in quantity supplied.
8. A change in any of the determinants of supply will shift the supply curve and cause a change in the quantity demanded.

68. Work Activity 1-8

69. Work Activity 1-9