1. Chapter 7
Prices

2. Rationing
Governments have tried to operate economies where they control prices and quantities.
During WWII, the U.S. did this with rationing of gasoline.
People were given coupons allowing them to buy a pre-determined amount of gasoline based upon their need.
The rationing coupons turned could be turned into money, which raised the price of the gasoline to the price people would have paid without rationing.

3. Prices
Prices in our economy are determined by the amount of supply and demand for that economic product
As changes occur in supply and demand, price also changes.
The market in which an economic product competes will have an affect on price.

4. Market Equilibrium
The price of an economic product will occur where the quantity demanded = the quantity supplied for that product.

5. Market Equilibrium Model
Given:
Current Level of Demand

6. Market Equilibrium Given: Current Level of Demand
Current Level of Supply
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7. Market Equilibrium Given: Current Level of Demand
Current Level of Supply
****************************
Equilibrium price occurs at Pe1 and Qe2

8. Economic Model
The graph of supply, demand and equilibrium price is an example of an economic model.
An economic model displays in graphic form some change in economic conditions.

9. Economic Shortage Model
Given:
Current level of supply and demand
Equilibrium P and Q
********************************

10. Economic Shortage Model
Given:
Current level of supply and demand
Equilibrium P and Q
********************************
Price drops below equilibrium to P2

11. Economic Shortage Model
Given:
Current level of supply and demand
Equilibrium P and Q
********************************
Price drops below equilibrium to P2
Quantity demanded is now Qd2
Quantity supplied is now Qs2
Conclusion:
When price drops below equilibrium,
Qd > Qs

12. Economic Shortage
If price drops below equilibrium in the short run, a shortage occurs.
When the shortage occurs, competitors will realize that they can charge higher prices and price will go back up to equilibrium!

13. Economic Surplus Model
Given:
Current level of supply and demand
Equilibrium P and Q
********************************

14. Economic Surplus Model
Given:
Current level of supply and demand
Equilibrium P and Q
********************************
Price rises above equilibrium to P2

15. Economic Surplus Model
Given:
Current level of supply and demand
Equilibrium P and Q
********************************
Price rises above equilibrium to P2
Quantity demanded is now Qd2
Quantity supplied is now Qs2

16. Economic Surplus Model
Given:
Current level of supply and demand
Equilibrium P and Q
********************************
Price rises above equilibrium to P2
Quantity demanded is now Qd2
Quantity supplied is now Qs2
Conclusion:
When price rises above equilibrium,
Qs > Qd

17. Economic Surplus
If price rises above equilibrium in the short run, a surplus occurs.
When the surplus occurs, competitors will realize that if they charge too high of a price that they will not sell their product and price will go back up to equilibrium!

18. Change in Level of Demand – Affect on Price
Review what causes demand curve to shift:
Cravings for seasonal products
Change is disposable income
Change in price of a complement
Change in price of a substitute
Changes in tastes, styles, and preferences
Changes in expectations

19. Increase in Level of Demand
Given:
Current level of supply and demand
Equilibrium P and Q
********************************

20. Increase in Level of Demand
Given:
Current level of supply and demand
Equilibrium P and Q
********************************
Level of demand shifts to D1

21. Increase in Level of Demand
Given:
Current level of supply and demand
Equilibrium P and Q
********************************
Level of demand shifts to D1
New equilibrium price is now Pe2
New equilibrium quantity is now Qe2

22. Increase in Level of Demand
Given:
Current level of supply and demand
Equilibrium P and Q
********************************
Level of demand shifts to D1
New equilibrium price is now Pe2
New equilibrium quantity is now Qe2
Conclusion:
When the level of demand increases, equilibrium P and Q both increase.

23. Decrease in Level of Demand
Given:
Current level of supply and demand
Equilibrium P and Q
********************************

24. Decrease in Level of Demand
Given:
Current level of supply and demand
Equilibrium P and Q
********************************
Level of demand shifts to D2

25. Decrease in Level of Demand
Given:
Current level of supply and demand
Equilibrium P and Q
********************************
Level of demand shifts to D2
New equilibrium price is now Pe2
New equilibrium quantity is now Qe2

26. Decrease in Level of Demand
Given:
Current level of supply and demand
Equilibrium P and Q
********************************
Level of demand shifts to D2
New equilibrium price is now Pe2
New equilibrium quantity is now Qe2
Conclusion:
When the level of demand decreases, equilibrium P and Q both decrease.

27. Changes in Level of Supply- Affect on Price
Review what causes the supply curve to shift:
Change in price of an input
Change in productivity

28. Increase in Level of Supply
Given:
Current level of supply and demand
Equilibrium P and Q
********************************

29. Increase in Level of Supply
Given:
Current level of supply and demand
Equilibrium P and Q
********************************
Level of supply shifts to S1

30. Increase in Level of Supply
Given:
Current level of supply and demand
Equilibrium P and Q
********************************
Level of supply shifts to S1
New equilibrium price is now Pe2
New equilibrium quantity is now Qe2

31. Increase in Level of Supply
Given:
Current level of supply and demand
Equilibrium P and Q
********************************
Level of supply shifts to S1
New equilibrium price is now Pe2
New equilibrium quantity is now Qe2
Conclusion:
When the level of supply increases, equilibrium P decreases and equilibrium Q increases.

32. Decrease in Level of Supply
Given:
Current level of supply and demand
Equilibrium P and Q
********************************

33. Decrease in Level of Supply
Given:
Current level of supply and demand
Equilibrium P and Q
********************************
Level of supply shifts to S2

34. Decrease in Level of Supply
Given:
Current level of supply and demand
Equilibrium P and Q
********************************
Level of supply shifts to S2
New equilibrium price is now Pe2
New equilibrium quantity is now Qe2

35. Decrease in Level of Supply
Given:
Current level of supply and demand
Equilibrium P and Q
********************************
Level of supply shifts to S2
New equilibrium price is now Pe2
New equilibrium quantity is now Qe2
Conclusion:
When the level of supply decreases, equilibrium P increases and equilibrium Q decreases.

36. Economic Markets
A market is a place that allows buyers and sellers to deal in economic products
Factors Markets: Where the factors of production (land, labor, and capital) are bought and sold
Product Market: Where Goods and Services are bought and sold.

37. Circular Flow of Economic Activity

38. Circular Flow of Economic Activity

39. Circular Flow of Economic Activity

40. Circular Flow of Economic Activity

41. Circular Flow of Economic Activity

42. Circular Flow of Economic Activity

43. Circular Flow of Economic Activity

44. Circular Flow of Economic Activity

45. Circular Flow of Economic Activity

46. Importance of Circular Flow
When American consumers spend money on foreign goods and services, the money leaves our economic system and becomes a part of their circular flow.
The result: Prices will increase when American business tries to make up for profits lost to foreign competition.

47. Types of Economic Markets
Pure Competition
Monopolistic Competition
Oligopoly
Monopoly

48. Pure Competition Almost infinite number of buyers and sellers
All competitors products are identical
No brand names
No advertising
Buyers and sellers can leave the market without affecting price
Buyers and sellers well informed so no need to be loyal to a seller
No examples in real life
Seller has NO CONTROL over price

49. Pure Competition Model
In Pure Competiton the demand curve is purely elastic

50. Pure Competition Model
In Pure Competiton the demand curve is purely elastic
At P1, demand is zero

51. Pure Competition Model
In Pure Competiton the demand curve is purely elastic
At P1, demand is zero
At P2, demand is zero

52. Monopolistic Competition
Still many buyers and sellers in the market
Product differentiation: sellers make their product slightly different in order to develop a brand preference
Difference may be real (hamburgers, sweepers) or imaginary (aspirin, light bulbs, batteries)
Seller has SLIGHT CONTROL over price

53. Oligopoly Few large sellers in the market
Products may be differentiated
Many car models (real); airlines (imaginary)
Opposing price philosophies:
Get a piece of “big pie” by not undercutting competition vs. looking out for own profits
Normally a “market leader” will set prices and others in industry will follow suit
Sellers have MUCH CONTROL over price

54. Oligopoly
Airlines
Gasoline
Automobiles

55. Oligopoly Why few competitors in an oligopoly?
Huge startup costs for new competitor
Possible patents or control of resources by existing competitors
Existing competitors will sacrifice profits in short run to wipe out entry of new competitors

56. Monopoly One seller of the product or service No close substitutes
No examples in real life
Seller has TOTAL CONTROL over price

57. Types of Monopolies Natural Monopolies Geographic Monopolies
Utilities, telephones
Government gives franchise exclusive rights to a territory in return for regulation
Geographic Monopolies
Local newspaper

58. Types of Monopolies Technological Monopolies Government Monopolies
New technique for doing something.
Government Monopolies
City water, sewer, garbage, transportation

59. Why Allow Monopolies?
Best use of resources: Imagine 10 utility poles going down the street
Best way to save costs
Economies of scale: larger is more efficient

60. Disadvantages of Monopolies
No benefits of competition such as lower prices and new improved products
Less efficient use of resources
No need to conserve to make a profit, just raise prices.

61. Control of Monopolies Consumers try to find substitutes
Example: Satellite dish instead of cable TV
Government controls price
Utility company must get permission from government to raise prices due to increased costs.

62. Monopolies
In a Monopoly the demand curve is purely inelastic

63. Monopolies In a Monopoly the demand curve is purely inelastic
In theory, any price could be charged and quantity demanded would remain the same.

64. Industry Pricing vs. Individual Firm
Supply and demand determine the price for the industry.

65. Industry Pricing vs. Individual Firm
Supply and demand determine the price for the industry.
Marginal Revenue = Selling Price

66. Industry Pricing vs. Individual Firm
Supply and demand determine the price for the industry.
Marginal Revenue = Selling Price
Marginal costs high at first, decrease with economies of scale, and then increase as we become inefficient.

67. Industry Pricing vs. Individual Firm
Geyers will maximize profits if it sells Q units at the market price.

68. Industry Pricing vs. Individual Firm
Geyers will maximize profits if it sells Q units at the market price.
The shaded area represents profit at Q units sold.
Profits for firm maximized where MR = MC!

69. Industry Pricing vs. Individual Firm
If less units are sold than where MR = MC, it can be seen that profits will be lower.