1. Lecture 6 : Examining Market Mechanics  Money prices and relative real prices  Influences on demand  Influences on supply  Prices and quantities determined by demand and supply  Why prices change  Work for the Week –Chapter 4 in both book and EIA

2. Opportunity Cost and Price  Economic actions arise from scarcity, wants in excess of available resources.  Scarcity implies choices.  Choices are influenced by opportunity costs through substitution.

3. Opportunity Cost and Relative Price  The ratio of one price to another is called a relative price.  A relative price is an opportunity cost.  We often measure prices relative to a price index, the average price of a basket of goods.

4. Demand, Supply and Relative Prices  Demand and supply determine relative prices.  The word “price” means relative price.  If we predict a price will fall, we mean its price will fall relative to the average price of other goods and services.  All movements in price in the market analysis that we examine refers to relative price movements.  Relative Price is not “Money” Price.

5. The Price of Wheat

6. Demand  If a person demands something, they –Want it, –Can afford it, and –Have made a definite plan to buy it.  Wants are the unlimited desires or wishes that people have for goods and services.

7. Demand  The quantity demanded of a good or service is the amount that consumers plan to buy during a given time period at a particular price.

8. Demand  What determines buying plans? – The price of the good – The prices of related goods – Income – Population – Preferences – Expected future prices

9. Demand  The Law of Demand – Other things remaining the same, the higher the price of a good, the smaller is the quantity demanded.  Reasons for the Law of Demand – Substitution Effect – Income Effect

10. Demand  Demand Curve and Demand Schedule – Demand curves show the relationship between the quantity demanded of a good and its price (ceteris paribus). – Demand schedules list the quantities demanded at each different price (ceteris paribus).

11. Demand a19 a19 b26 b26 c34 c34 d43 d43 e52 e52 PriceQuantity (dollars per tape)(millions of tapes per week)

12. Demand 0246810 1 2 3 4 5 6 Quantity (millions of tapes per week) Price ( dollar per tape)

13. Demand 0246810 1 2 3 4 5 6 Quantity (millions of tapes per week) Price ( dollar per tape) e d c b a

14. Demand 0246810 1 2 3 4 5 6 e d c b a Demand for tapes Quantity (millions of tapes per week) Price ( dollar per tape)

15. Demand  A Change in Demand – When any factor that influences buying plans other than the price of the good changes, there is a change in demand. An increase in demand causes the demand curve to shift rightward. A decrease in demand causes the demand curve to shift leftward.

16. A Change in Demand  Price of Related Goods – Substitutes - goods used in the place of another good – Complements - goods used in conjunction with another good What Happens to Demand if the price of a substitute good increases? A complement?

17. A Change in Demand  Income – Normal Goods — demand increases as income increases – Inferior Goods — demand decreases as income increases

18. A Change in Demand  Population – Size and age structure  Preferences – Attitudes toward goods and services  Expected Future Prices

19. Demand Original demand schedule New demand schedule Walkman $200Walkman $50 Price Quantity Price Quantity (dollars (millions of tapes (dollars (millions of tapes per tape) per week) per tape)per week)) a1 9 b2 6 c3 4 d4 3 e5 2 Assume the original price of Walkmans is $200. The demand schedule shows the Price-Quantity relationship for tapes.

20. Demand Original demand schedule New demand schedule Walkman $200Walkman $50 Price Quantity Price Quantity (dollars (millions of tapes (dollars (millions of tapes per tape) per week) per tape)per week)) a1 9 a' 1 b2 6 b' 2 c3 4 c' 3 d4 3 d' 4 e5 2 e' 5

21. Demand Original demand schedule New demand schedule Walkman $200Walkman $50 Price Quantity Price Quantity (dollars (millions of tapes (dollars (millions of tapes per tape) per week) per tape)per week)) a1 9 a' 1 13 b2 6 b' 2 10 c3 4 c' 3 8 d4 3 d' 4 7 e5 2 e' 5 6

22. Demand 0 2 4 6 8 10 12 14 1 2 3 4 5 6 Quantity (millions of tapes per week) Price ( dollar per tape) e d c b a Demand for tapes (Walkman $200)

23. Demand 0 2 4 6 8 10 12 14 1 2 3 4 5 6 e d c b a Demand for tapes (Walkman $200) Quantity (millions of tapes per week) Price ( dollar per tape) e' d' c' b' a' Demand for tapes (Walkman $50)

24. The Demand for Tapes  The Law of Demand – The quantity of tapes demanded Decreases if: – The price of a tape rises Increases if: – The price of a tape falls

25. The Demand for Tapes  Changes In Demand – The demand for tapes Decreases if: – The price of a substitute falls – The price of a complement rises – Income falls (a tape is a normal good) – The population decreases – The price of a tape is expected to fall in the future

26. The Demand for Tapes  Changes In Demand – The demand for tapes Increases if: – The price of a substitute rises – The price of a complement falls – Income rises (a tape is a normal good) – The population increases – The price of a tape is expected to rise in the future

27. A Change in the Quantity Demanded Versus a Change in Demand  A movement along a demand curve, which results from a change in price, shows a change in the quantity demanded.  If some other influence on buyers’ plans changes, holding price constant, there is a change in demand.

28. A Change in the Quantity Demanded Versus a Change in Demand Quantity Price D0D0

29. A Change in the Quantity Demanded Versus a Change in Demand Quantity Price D0D0 Decrease in quantity demanded Increase in quantity demanded

30. A Change in the Quantity Demanded Versus a Change in Demand Quantity Price D0D0 P0P0 Q0Q0

31. A Change in the Quantity Demanded Versus a Change in Demand Quantity Price D0D0 P0P0 P1P1 Q0Q0 Q1Q1

32. A Change in the Quantity Demanded Versus a Change in Demand Quantity Price D0D0 P0P0 P2P2 P1P1 Q0Q0 Q2Q2 Q1Q1

33. A Change in the Quantity Demanded Versus a Change in Demand Quantity Price D0D0

34. A Change in the Quantity Demanded Versus a Change in Demand Quantity Price D0D0 D1D1 Increase in demand

35. A Change in the Quantity Demanded Versus a Change in Demand Price Quantity D0D0 D1D1 D2D2 Increase inDecrease in demand

36. A Change in the Quantity Demanded Versus a Change in Demand Quantity Price D0D0 D1D1 D2D2 D0D0 Decrease in quantity demanded Increase in quantity demanded Increase in demand Decrease in demand

37. Movement Along Versus a Shift of the Demand Curve  If the price of a good changes but everything else remains the same, there is a movement along the demand curve.  If the price of a good remains constant but some other influence on buyers’ plans changes, there is a shift of the demand curve.

38. A Change in Quantity Demanded Versus a Change in Demand  A movement along the demand curve shows a change in the quantity demanded.  A shift of the demand curve shows a change in demand.