1. Chapter 4: Extensions of Demand and Supply Analysis
ECON 151 – PRINCIPLES OF MACROECONOMICS
Chapter 4:
Extensions of Demand and Supply Analysis
Materials include content from Pearson Addison-Wesley which has been modified by the instructor and displayed with permission of the publisher. All rights reserved.

2. The Price System Price System (market system)
An economic system that allocates resources based on relative prices determined by supply and demand
Prices signal what is relatively scarce and relatively abundant

3. Exchange and Markets Markets Emphasize voluntary exchange
Determine the terms of exchange
Facilitate exchange

4. Exchange and Markets Voluntary Exchange Terms of Exchange
Acts of trading between individuals that make both parties to the trade subjectively better off
Terms of Exchange
The prices we pay for the desired items

5. Exchange and Markets Transaction Cost
The costs associated with exchange
Examples
Price shopping
Determining quality
Determining reliability
Service availability
Cost of contracting

6. Exchange and Markets The role of middlemen
Middlemen (intermediaries) or brokers reduce transaction cost by providing information to buyers and sellers.
Examples
Real estate brokers
Stock brokers
Consignment shops
Car dealerships

7. Changes in Demand and Supply
Changes in supply and demand create a disequilibrium
The market price and quantity adjust to a new equilibrium

8. Shifts in Demand and Supply: Determine Results
Increase Demand with Supply Constant S D1 E1 P1 Q1
Figure 4-1

9. Shifts in Demand and Supply: Determine Results
Increase Demand with Supply Constant D2 S E1
At price P1 quantity
demanded exceeds
quantity supplied—
a shortage exists P1 D1 Q1 Q2
Figure 4-1

10. Shifts in Demand and Supply: Determine Results
Increase Demand with Supply Constant S D2 E2 Q2 P2
Equilibrium price and quantity increase to P2 and Q2 E1 P1 D1 Q1
Figure 4-1

11. Shifts in Demand and Supply: Determinate Results
Decrease Demand with Supply Constant S E1
At price P1 quantity
supplied exceeds
quantity demanded—
a surplus exists. D2 P1 D1 Q2 Q1
Figure 4-1

12. Shifts in Demand and Supply: Determinate Results
Decrease Demand with Supply Constant S E1
Equilibrium price
and quantity decrease to P3 and Q3 P1 Q3 E3 P3 D1 D3 Q1
Figure 4-1

13. Shifts in Demand and Supply: Determinate Results
Increase Supply with Demand Constant S1 D E1 P1 Q1
Figure 4-1

14. Shifts in Demand and Supply: Determinate Results
Increase Supply with Demand Constant
At price P1 quantity
supplied exceeds
quantity demanded—
a surplus exists S1 S2 E1 P1 D Q1 Q3
Figure 4-1

15. Shifts in Demand and Supply: Determinate Results
Increase Supply with Demand Constant S1
Equilibrium price decreases and quantity increases to P2 and Q2 S2 E1 P1 E2 P2 Q2 D Q1
Figure 4-1

16. Shifts in Demand and Supply: Determinate Results
Decrease Supply with Demand Constant S3
At price P1 quantity
demanded exceeds
quantity supplied—
a shortage exists S1 D E1 Q1 P1 Q2
Figure 4-1

17. Shifts in Demand and Supply: Determinate Results
Decrease Supply with Demand Constant S3
Equilibrium price decreases and quantity increases to P3 and Q3 E3 S1 P3 E1 P1 Q1 D Q3
Figure 4-1

18. Changes in Demand and Supply
Summary
Increases in demand increase equilibrium price and quantity.
Decreases in demand decrease equilibrium price and quantity.

19. Changes in Demand and Supply
Summary
Increases in supply decrease equilibrium price and increase equilibrium quantity.
Decreases in supply increase equilibrium price and decrease equilibrium quantity.

20. Changes in Demand and Supply
When both demand and supply shift
Simultaneous changes in demand and supply put conflicting pressure on price or quantity
The resulting effect depends upon how much each curve shifts
Either equilibrium price or quantity will be indeterminate

21. Changes in Demand and Supply
When both demand and supply increase
Change in price is indeterminate
Quantity will increase
When both demand and supply decrease
Quantity will decrease

22. Changes in Demand and Supply
When supply decreases and demand increases
Price will increase
Change in quantity is indeterminate
When supply increases and demand decreases
Price will decrease

23. Change in demand or supply
Price
Quantity
Increase
Decrease
Change in both demand and supply
Demand
Supply
Price
Quantity
Increase
Unknown
Decrease

24. Price Flexibility and Adjustment Speed
Market characteristics influence adjustment speed
Markets may overshoot in the adjustment process

25. The Rationing Function of Prices
When surpluses and shortages exist, the price adjusts to clear the market.
This adjustment is the rationing function of price.

26. The Rationing Function of Prices
When prices cannot adjust non-price rationing occurs
Rationing by queues
Rationing by lotteries
Rationing by coupons

27. The Rationing Function of Prices
The essential role of rationing
With scarcity rationing must occur
We must choose the rationing mechanism: price or non-price
Price rationing is the most efficient
Further trades could not occur without making somebody worse-off

28. The Policy of Government-Imposed Price Controls
Government-mandated minimum or maximum prices
Price Ceiling
A legal maximum price
Price Floor
A legal minimum price

29. The Policy of Government-Imposed Price Controls
Non-Price Rationing Devices
All methods used to ration scarce goods that are price-controlled
Black Market
A market in which price-controlled goods are sold at an illegally high price

30. Quantity per Unit Time Period
Black Markets S’
Implicit supply schedule at P1 < Pe D Qe Pe Qs P1 P2 Qd
Price
Shortage
Quantity per Unit Time Period
Figure 4-3

31. The Policy of Controlling Rents
The functions of rental prices
Promote the efficient maintenance and construction of housing
Allocate existing housing
Ration the use of housing

32. The Policy of Controlling Rents
Effects on the existing supply of housing
Property owners cannot recover costs
Rationing the current use of housing
Reduces mobility
New York’s “housing gridlock”

33. The Policy of Controlling Rents
Who gains and who loses from rent controls?
Losers
Property owners
Low-income individuals
Benefits
Upper-income professionals

34. Price Floors in Agriculture
Support Price
the governmentally established minimum price farmers are to receive for a particular agricultural product.

35. Agricultural Price Supports
Excess quantity supplied S D Pe Qe Qd Ps Qs E
Dollars per Unit
Quantity of Peanuts per Time Period
Figure 4-4

36. Price Floors in the Labor Market
Minimum Wage
Lowest hourly wage rate that firms may legally pay their workers

37. The Effect of Minimum WagesD E A B C We Qe Qd Wm Qs
Excess quantity supplied at wage Wm
Reduction in quantity of labor demanded
Wage Rate per Unit
Increase in quantity of labor supplied
Quantity of Labor per Time Period
Figure 4-5

38. Quantity Restrictions
Prohibitions on the ownership or trading of a good
Human organs
Drugs
Hospital beds

39. Quantity Restrictions
Government Prohibitions or Licensing Requirements
Some commodities cannot be purchased at all legally; others require a license.
Import Quota
Supply restriction that prohibits the importation of more than a specified quantity of a particular good in a one-year period

40. Chapter 4: Extensions of Demand and Supply Analysis
ECON 151 – PRINCIPLES OF MACROECONOMICS
Chapter 4:
Extensions of Demand and Supply Analysis
Materials include content from Pearson Addison-Wesley which has been modified by the instructor and displayed with permission of the publisher. All rights reserved.