1. Copyright © 2001 by The McGraw-Hill Companies, Inc. All rights reserved. McGraw-Hill/Irwin Supply and Demand

2. Copyright © 2001 by The McGraw-Hill Companies, Inc. All rights reserved. McGraw-Hill/Irwin 4 - 2 Laugher Curve Q. What do you get when you cross the Godfather with an economist? A. An offer you can't understand.

3. Copyright © 2001 by The McGraw-Hill Companies, Inc. All rights reserved. McGraw-Hill/Irwin 4 - 3 Demand u Demand means the willingness and capacity to pay.

4. Copyright © 2001 by The McGraw-Hill Companies, Inc. All rights reserved. McGraw-Hill/Irwin 4 - 4 Demand u Prices are the tools by which the market coordinates individual desires.

5. Copyright © 2001 by The McGraw-Hill Companies, Inc. All rights reserved. McGraw-Hill/Irwin 4 - 5 The Law of Demand u Quantity demanded rises as price falls, other things constant. u Quantity demanded falls as prices rise, other things constant. l Thus, there is an inverse relationship between price and quantity demanded.

6. Copyright © 2001 by The McGraw-Hill Companies, Inc. All rights reserved. McGraw-Hill/Irwin 4 - 6 The Law of Demand u What accounts for the law of demand? People tend to substitute for goods whose price has gone up

7. Copyright © 2001 by The McGraw-Hill Companies, Inc. All rights reserved. McGraw-Hill/Irwin 4 - 7 The Demand Curve u The demand curve is the graphic representation of the law of demand. u The demand curve slopes downward and to the right. l As the price goes up, the quantity demanded goes down.

8. Copyright © 2001 by The McGraw-Hill Companies, Inc. All rights reserved. McGraw-Hill/Irwin 4 - 8 The Demand Curve u The slope tells us that quantity demanded varies indirectly—in the opposite direction—with price.

9. Copyright © 2001 by The McGraw-Hill Companies, Inc. All rights reserved. McGraw-Hill/Irwin 4 - 9 Other Things Constant u Other things constant means that all other factors that affect the analysis are assumed to remain constant, whether they actually remain constant or not. u These factors may include changing tastes, prices of other goods, even the weather.

10. Copyright © 2001 by The McGraw-Hill Companies, Inc. All rights reserved. McGraw-Hill/Irwin 4 - 10 D Price (per unit) 0 Quantity demanded (per unit of time) PAPA QAQA A A Sample Demand Curve

11. Copyright © 2001 by The McGraw-Hill Companies, Inc. All rights reserved. McGraw-Hill/Irwin 4 - 11 Shifts in Demand Versus Movements Along a Demand Curve u Demand refers to a schedule of quantities of a good that will be bought per unit of time at various prices, other things constant. u Graphically, it refers to the entire demand curve.

12. Copyright © 2001 by The McGraw-Hill Companies, Inc. All rights reserved. McGraw-Hill/Irwin 4 - 12 Shifts in Demand Versus Movements Along a Demand Curve u Quantity demanded refers to a specific amount that will be demand per unit of time at a specific price. Graphically, it refers to a specific point on the demand curve.

13. Copyright © 2001 by The McGraw-Hill Companies, Inc. All rights reserved. McGraw-Hill/Irwin 4 - 13 Shifts in Demand Versus Movements Along a Demand Curve u A movement along a demand curve is the graphical representation of the effect of a change in price on the quantity demanded.

14. Copyright © 2001 by The McGraw-Hill Companies, Inc. All rights reserved. McGraw-Hill/Irwin 4 - 14 Shifts in Demand Versus Movements Along a Demand Curve u A shift in demand is the graphical representation of the effect of anything other than price on demand. The original curve will move to the right or to the left.

15. Copyright © 2001 by The McGraw-Hill Companies, Inc. All rights reserved. McGraw-Hill/Irwin 4 - 15 Change in Quantity Demanded 0 D1D1 Change in quantity demanded (a movement along the curve) B Price (per unit) Quantity demanded (per unit of time) 100 $2 $1 200 A

16. Copyright © 2001 by The McGraw-Hill Companies, Inc. All rights reserved. McGraw-Hill/Irwin 4 - 16 D0D0 D1D1 Shift in Demand Price (per unit) Quantity demanded (per unit of time) 100 $2 $1 200 B A Change in demand (a shift of the curve) 250

17. Copyright © 2001 by The McGraw-Hill Companies, Inc. All rights reserved. McGraw-Hill/Irwin 4 - 17 Shift Factors of Demand u Shift factors of demand are those that cause shifts in the demand curve to the right or left.

18. Copyright © 2001 by The McGraw-Hill Companies, Inc. All rights reserved. McGraw-Hill/Irwin 4 - 18 Shift Factors of Demand u Shift factors of demand include—but are not limited—to the following: Society's income The prices of other goods Tastes Expectations

19. Copyright © 2001 by The McGraw-Hill Companies, Inc. All rights reserved. McGraw-Hill/Irwin 4 - 19 Shift Factors of Demand u A rise in income will increase demand for goods. When the prices of substitute goods fall, you will consume less of the good whose price has not changed. A change in taste will change demand with no change in price.

20. Copyright © 2001 by The McGraw-Hill Companies, Inc. All rights reserved. McGraw-Hill/Irwin 4 - 20 Shift Factors of Demand u If you expect your income to rise, you may consume more now. If you expect prices to fall in the future, you may put off purchases today.

21. Copyright © 2001 by The McGraw-Hill Companies, Inc. All rights reserved. McGraw-Hill/Irwin 4 - 21 The Demand Table u The demand table assumes all the following: l As price rises, quantity demanded declines. l Quantity demanded has a specific time dimension to it.

22. Copyright © 2001 by The McGraw-Hill Companies, Inc. All rights reserved. McGraw-Hill/Irwin 4 - 22 The Demand Table u The demand table assumes all the following: All the products involved are identical in shape, size, quality, etc. The schedule assumes that everything else is held constant.

23. Copyright © 2001 by The McGraw-Hill Companies, Inc. All rights reserved. McGraw-Hill/Irwin 4 - 23 From a Demand Table to a Demand Curve u You plot each point in the demand table on a graph and connect the points to derive the demand curve.

24. Copyright © 2001 by The McGraw-Hill Companies, Inc. All rights reserved. McGraw-Hill/Irwin 4 - 24 From a Demand Table to a Demand Curve u The demand curve graphically conveys the same information that is on the demand table.

25. Copyright © 2001 by The McGraw-Hill Companies, Inc. All rights reserved. McGraw-Hill/Irwin 4 - 25 From a Demand Table to a Demand Curve u The curve represents the maximum price that you will for various quantities of a good—you will happily pay less.

26. Copyright © 2001 by The McGraw-Hill Companies, Inc. All rights reserved. McGraw-Hill/Irwin 4 - 26 Price per cassette (in dollars) A Demand Curve Quantity of cassettes demanded (per week) 123456789 101112 13 $6.00 5.00 4.00 3.00 2.00 1.00.50 0 3.50 E D C BF A From a Demand Table to a Demand Curve Price per cassette ABCDEABCDE A Demand Table Cassette rentals demanded per week $0.50 1.00 2.00 3.00 4.00 9864298642 Demand for cassettes G

27. Copyright © 2001 by The McGraw-Hill Companies, Inc. All rights reserved. McGraw-Hill/Irwin 4 - 27 Individual and Market Demand Goods u A market demand curve is the horizontal sum of all individual demand curves. l This is determined by adding the individual demand curves of all the demanders.

28. Copyright © 2001 by The McGraw-Hill Companies, Inc. All rights reserved. McGraw-Hill/Irwin 4 - 28 Individual and Market Demand Goods u Real world sellers do not add up individual demand curves.

29. Copyright © 2001 by The McGraw-Hill Companies, Inc. All rights reserved. McGraw-Hill/Irwin 4 - 29 Individual and Market Demand Goods u They estimate total market demand for their product which becomes smooth and downward sloping curve.

30. Copyright © 2001 by The McGraw-Hill Companies, Inc. All rights reserved. McGraw-Hill/Irwin 4 - 30 Individual and Market Demand Goods u The demand curve is downward sloping for the following reasons: At lower prices, existing demanders buy more. At lower prices, new demanders enter the market.

31. Copyright © 2001 by The McGraw-Hill Companies, Inc. All rights reserved. McGraw-Hill/Irwin 4 - 31 From Individual Demands to a Market (1) Price per cassette $.0.50 1.00 1.50 2.00 2.50 3.00 3.50 4.00 (2) Alice’s demand (3) Bruce’s demand (2) Cathy’s demand (3) Market demand 9876543298765432 6543210065432100 1100000011000000 16 14 11 9 7 5 3 2 ABCDEFGHABCDEFGH Quantity of cassettes demanded per week 2 Cathy Bruce Alice D A C E F G $4.00 3.50 3.00 2.50 2.00 1.50 1.00 0.50 0 Price per cassette (in dollars) 46810121416 B

32. Copyright © 2001 by The McGraw-Hill Companies, Inc. All rights reserved. McGraw-Hill/Irwin 4 - 32 Supply u Individuals control the factors of production. l Factors of production are the resources or inputs, necessary to produce goods or services.

33. Copyright © 2001 by The McGraw-Hill Companies, Inc. All rights reserved. McGraw-Hill/Irwin 4 - 33 Supply u Individuals supply factors of production to intermediaries or firms.

34. Copyright © 2001 by The McGraw-Hill Companies, Inc. All rights reserved. McGraw-Hill/Irwin 4 - 34 Supply u The analysis of the supply of produced goods has two parts: An analysis of the supply of the factors of production to households and firms. An analysis of why firms transform those factors of production into usable goods and services.

35. Copyright © 2001 by The McGraw-Hill Companies, Inc. All rights reserved. McGraw-Hill/Irwin 4 - 35 The Law of Supply u Quantity supplied rises as price rises, other things constant. u Quantity supplied falls as price falls, other things constant. u Thus, there is a direct relationship between price and quantity supplied.

36. Copyright © 2001 by The McGraw-Hill Companies, Inc. All rights reserved. McGraw-Hill/Irwin 4 - 36 The Law of Supply u The law of supply is accounted for by two factors: In the face of rising prices, firms arrange their activities to supply more of the good to the market, substituting production of that good for the production of other goods. Assuming firms' costs are constant, a higher price means higher profits.

37. Copyright © 2001 by The McGraw-Hill Companies, Inc. All rights reserved. McGraw-Hill/Irwin 4 - 37 The Supply Curve u The supply curve is the graphic representation of the law of supply. u The supply curve slopes upward to the right. u The slope tells us that the quantity supplied varies directly—in the same direction—with the price.

38. Copyright © 2001 by The McGraw-Hill Companies, Inc. All rights reserved. McGraw-Hill/Irwin 4 - 38 Quantity supplied (per unit of time) 0 S A Price (per unit) PAPA QAQA A Sample Supply Curve

39. Copyright © 2001 by The McGraw-Hill Companies, Inc. All rights reserved. McGraw-Hill/Irwin 4 - 39 Shifts in Supply Versus Movements Along a Supply Curve u Supply refers to a schedule of quantities a seller is willing to sell per unit of time at various prices, other things constant.

40. Copyright © 2001 by The McGraw-Hill Companies, Inc. All rights reserved. McGraw-Hill/Irwin 4 - 40 Shifts in Supply Versus Movements Along a Supply Curve u If the amount supplied is affected by anything other than a change in price, there will be a shift in supply. Shift in supply -- the graphic representation of the effect of a change in a factor other than price on supply.

41. Copyright © 2001 by The McGraw-Hill Companies, Inc. All rights reserved. McGraw-Hill/Irwin 4 - 41 Shifts in Supply Versus Movements Along a Supply Curve u Quantity supplied refers to a specific amount that will be supplied at a specific price.

42. Copyright © 2001 by The McGraw-Hill Companies, Inc. All rights reserved. McGraw-Hill/Irwin 4 - 42 Shifts in Supply Versus Movements Along a Supply Curve u Changes in price causes changes in quantity supplied represented by a movement along a supply curve.

43. Copyright © 2001 by The McGraw-Hill Companies, Inc. All rights reserved. McGraw-Hill/Irwin 4 - 43 Shift in Supply Price (per unit) Quantity supplied (per unit of time) S0S0 Shift in Supply (a shift of the curve) S1S1 $15 AB 1,2501,500

44. Copyright © 2001 by The McGraw-Hill Companies, Inc. All rights reserved. McGraw-Hill/Irwin 4 - 44 Change in quantity supplied (a movement along the curve) Change in Quantity Supplied Price (per unit) Quantity supplied (per unit of time) S0S0 $15 A 1,2501,500 B

45. Copyright © 2001 by The McGraw-Hill Companies, Inc. All rights reserved. McGraw-Hill/Irwin 4 - 45 Shift Factors of Supply u Shift factors of supply are those factors that cause shifts in the entire supply curve to the left or right.

46. Copyright © 2001 by The McGraw-Hill Companies, Inc. All rights reserved. McGraw-Hill/Irwin 4 - 46 Shift Factors of Supply u The following are shift factors of supply: Changes in the prices of inputs used in the production of a good Changes in technology Changes in suppliers' expectations Changes in taxes and subsidies

47. Copyright © 2001 by The McGraw-Hill Companies, Inc. All rights reserved. McGraw-Hill/Irwin 4 - 47 Shift Factors of Supply u Changes in the prices of inputs used in the production of a good. If costs go up, then profits go down, and the incentive to supply also goes down. If costs go up substantially, the firm may even shut down.

48. Copyright © 2001 by The McGraw-Hill Companies, Inc. All rights reserved. McGraw-Hill/Irwin 4 - 48 Shift Factors of Supply u Technology makes costs go down, profits go up, thus the incentive to supply also goes up. This is especially true when technology replaces labor.

49. Copyright © 2001 by The McGraw-Hill Companies, Inc. All rights reserved. McGraw-Hill/Irwin 4 - 49 Shift Factors of Supply u If they expect prices to rise in the future, suppliers may store today's production for an expected windfall later. If they expect prices to fall in the future, suppliers may sell off more of their inventories today.

50. Copyright © 2001 by The McGraw-Hill Companies, Inc. All rights reserved. McGraw-Hill/Irwin 4 - 50 Shift Factors of Supply u If taxes go up, costs also go up, and profits go down, leading suppliers to reduce output. If government subsidies go up, costs go down, and profits go up, leading suppliers to increase output.

51. Copyright © 2001 by The McGraw-Hill Companies, Inc. All rights reserved. McGraw-Hill/Irwin 4 - 51 From a Supply Table to a Supply Curve u To derive a supply curve from a supply table, you plot each point in the supply table on a graph and connect the points.

52. Copyright © 2001 by The McGraw-Hill Companies, Inc. All rights reserved. McGraw-Hill/Irwin 4 - 52 From a Supply Table to a Supply Curve u The supply curve represents the set of minimum prices an individual seller will accept for various quantities of a good.

53. Copyright © 2001 by The McGraw-Hill Companies, Inc. All rights reserved. McGraw-Hill/Irwin 4 - 53 From a Supply Table to a Supply Curve u Competing suppliers’ entry into the market places a limit on the price any supplier can charge.

54. Copyright © 2001 by The McGraw-Hill Companies, Inc. All rights reserved. McGraw-Hill/Irwin 4 - 54 Individual and Market Supply Curves u The market supply curve is derived by horizontally adding the individual supply curves of each supplier.

55. Copyright © 2001 by The McGraw-Hill Companies, Inc. All rights reserved. McGraw-Hill/Irwin 4 - 55 From Individual Supplies to a Market Supply Quantities Supplied ABCDEFGHIABCDEFGHI (1) Price (in dollars) (2) Ann's Supply (5) Market Supply (4) Charlie's Supply $0.00 0.50 1.00 1.50 2.00 2.50 3.00 3.50 4.00 012345678012345678 001234555001234555 000000022000000022 0 1 3 5 7 9 11 14 15 (3) Barry's Supply

56. Copyright © 2001 by The McGraw-Hill Companies, Inc. All rights reserved. McGraw-Hill/Irwin 4 - 56 1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16 From Individual Supplies to a Market Supply Price per cassette (in dollars) CharlieBarry Ann Quantity of cassettes supplied (per week) $4.00 3.50 3.00 2.50 2.00 1.50 1.00 0.50 0 I H G F E D C B A Market Supply CACA

57. Copyright © 2001 by The McGraw-Hill Companies, Inc. All rights reserved. McGraw-Hill/Irwin 4 - 57 The Marriage of Supply and Demand u The English historian Thomas Carlyle once said: “Teach any parrot the words supply and demand and you’ve got an economist.”

58. Copyright © 2001 by The McGraw-Hill Companies, Inc. All rights reserved. McGraw-Hill/Irwin 4 - 58 The Dynamic Laws of Supply and Demand u Supply and demand come together to determine equilibrium quantity and equilibrium price.

59. Copyright © 2001 by The McGraw-Hill Companies, Inc. All rights reserved. McGraw-Hill/Irwin 4 - 59 Excess Supply and Excess Demand u Excess supply – prices tend to fall if quantity supplied is greater than quantity demanded. u Excess demand – prices tend to rise if quantity demanded is greater than quantity supplied.

60. Copyright © 2001 by The McGraw-Hill Companies, Inc. All rights reserved. McGraw-Hill/Irwin 4 - 60 Price Adjusts u The larger the difference between quantity demanded and quantity supplied, the greater the pressure for prices to rise (if there is excess demand) or fall (if there is excess supply.

61. Copyright © 2001 by The McGraw-Hill Companies, Inc. All rights reserved. McGraw-Hill/Irwin 4 - 61 Price Adjusts u When quantity demanded equals quantity supplied, prices have no tendency to change.

62. Copyright © 2001 by The McGraw-Hill Companies, Inc. All rights reserved. McGraw-Hill/Irwin 4 - 62 A The Marriage of Supply and Demand Price per cassette (in dollars) $5.00 4.00 3.50 3.00 2.50 2.00 1.50 1.00 S D Quantity of cassettes supplied and demanded (per week) C Excess demand 123456789101112 Excess supply B E

63. Copyright © 2001 by The McGraw-Hill Companies, Inc. All rights reserved. McGraw-Hill/Irwin 4 - 63 Equilibrium u Equilibrium is a concept in which opposing dynamic forces pushing cancel each other out.

64. Copyright © 2001 by The McGraw-Hill Companies, Inc. All rights reserved. McGraw-Hill/Irwin 4 - 64 Equilibrium u In supply and demand analysis, equilibrium means that the upward pressure on price is exactly offset by the downward pressure on price.

65. Copyright © 2001 by The McGraw-Hill Companies, Inc. All rights reserved. McGraw-Hill/Irwin 4 - 65 Equilibrium u Equilibrium price is the price toward which the invisible hand drives the market. Equilibrium quantity is the amount bought and sold at the equilibrium price.

66. Copyright © 2001 by The McGraw-Hill Companies, Inc. All rights reserved. McGraw-Hill/Irwin 4 - 66 Equilibrium Isn't: u A state of the world—it's a characteristic of the model used to look at the world. u Inherently good or bad—but simply a state in which dynamic pressures offset each other.

67. Copyright © 2001 by The McGraw-Hill Companies, Inc. All rights reserved. McGraw-Hill/Irwin 4 - 67 Desirable Characteristics of Supply/Demand Equilibrium u Consumer surplus – the distance between the demand curve and the price the demander pays is net benefit to consumers.

68. Copyright © 2001 by The McGraw-Hill Companies, Inc. All rights reserved. McGraw-Hill/Irwin 4 - 68 Desirable Characteristics of Supply/Demand Equilibrium u Producer surplus – if a producer receives more than the price he would be willing to sell it for, he receives a net benefit.

69. Copyright © 2001 by The McGraw-Hill Companies, Inc. All rights reserved. McGraw-Hill/Irwin 4 - 69 Desirable Characteristics of Supply/Demand Equilibrium u What's good about equilibrium is that it makes the combination of consumer and producer surplus as large as it can be.

70. Copyright © 2001 by The McGraw-Hill Companies, Inc. All rights reserved. McGraw-Hill/Irwin 4 - 70 Desirable Characteristics of Supply/Demand Equilibrium u Markets allow trade, thereby leading to an increase in the combination of consumer and producer surplus.

71. Copyright © 2001 by The McGraw-Hill Companies, Inc. All rights reserved. McGraw-Hill/Irwin 4 - 71 Consumer and Producer Surplus Price Supply Demand Quantity 0 $10 9 8 7 6 5 4 3 2 1 10987654321 Producer Surplus Consumer Surplus Lost Surplus

72. Copyright © 2001 by The McGraw-Hill Companies, Inc. All rights reserved. McGraw-Hill/Irwin Supply and Demand End of Chapter 4