Demand and Supply

2. 4 CHAPTER Demand and Supply Wealth has never been a sufficient source of honor in itself. It must be advertised, and the normal medium is obtrusively expensive goods.-J.K.G

3. 1 2 3 C H A P T E R C H E C K L I S T • When you have completed your study of this chapter, you will be able to • Distinguish between quantity demanded and demand and explain what determines demand. Distinguish between quantity supplied and supply and explain what determines supply. • Explain how demand and supply determine price and quantity in a market and explain the effects of changes in demand and supply.

4. COMPETITIVE MARKETS A market is any arrangement that bring buyers and sellers together. A market might be a physical place or a group of buyers and sellers spread around the world who never meet.

5. What is the Law of Demand? The principle that there is an inverse relationship between the price of a good and the quantity buyers are willing to purchase in a given time period, ceteris paribus. Negative relationship or inverse relationship. A relationship between two variables that move in opposite directions. • When price increases quantity demanded decreases (PQ) • The demand curves slope downward because as the price increases and other things remain the same, the quality demanded decrease. • When price decreases quantity demanded increases (PQ)

6. DEMAND

7. Why do Demand Curves have a Negative Slope or are usually downward sloping? At a higher price consumers will buy fewer units, and at a lower price they will buy more units. Why? • Substitution effect • Income effect

8. INCOME EFFECT x y budget/income $1(4) + $2(3) = $10 PX increases to $2.00 $2(4) + $2(3) = $14 • $2(2) + $2(3) = $10 • $2(4) + $2(1) = $10 • $2(3) + $2(2) = $10

9. What does “Ceteris Paribus” mean? • All else remains the same • Ceteris Paribus • Third Variable • What are we holding constant?

10. Third variables or background variables are held constant • Income • Prices of Closely Related Goods • Taste and preferences • Number of Consumers • Expectations

11. What happens when income increases? P A C 8.00 D1 B $30K $4.00 D0 Q $10K 1 3

12. What is the difference between change in quantity demanded and change in demand • What is the difference between a “change in quantity demanded” and a “change in demand”? • There are two ways of showing a change on a graph.

13. Change in price, the movement is along the curve from A to B (change in quantity demanded) P A $8.00 P B $4.00 D0 Q $10K 1 3

14. Change in Quantity demanded vs. Change in Demand • Change in quantity demanded is caused by the change in the price of the good only, and all other factors (income, expectations etc.) remain constant/unchanged. The movement is along the curve • (AB) • We are still on the same demand cure (BLUE)

15. P Change in Demand is caused by a change in third variable (price does not change) A C $8.00 D1 $30K D0 Q $10K 1 3

16. Change in Quantity demanded vs. Change in Demand • Change in demanded is caused by the change in one of the five non-price determinants (income, expectations etc.) while the price of the good remains constant/ unchanged. The movement is from Do D1(shift to the right) showing a increase in demand from Do D1. (shift to the left)showing an decrease in demand.

17. What happens when income increases? P DECREASE A C B INCREASE $8.00 D1 $30K D0 Q $20K $10K 1 2 3

18. Prices of related goods • Substitution • Complementary goods • Normal goods • Inferior goods

19. Prices of related goods: Substitutes • Substitute • Goods that compete with one another for consumer purchases and provides the consumer with same or similar satisfaction from its consumption. • Who determines whether this good or that good provides the consumer with similar satisfaction? • A good that can be consumed in place of another good. For example, Nissan and Toyota. • The demand for a good increases, if the price of one of its substitutes rises.(increase in price of Nissan causes increase in demand for Toyota) • The demand for a good decreases, if the price of one of its substitutes falls. .(decrease in price of Nissan causes decrease in demand for Toyota)

20. Prices of related goods: Complements • Complements • A good that is consumed with another good. For example, coffee and sugar • The demand for a good increases, if the price of one of its complement decreases.(increase in price of coffeecauses decrease in demand forsugar) • The demand for a good decreases, if the price of one of its complement increases.(decrease in price of coffee causes increase in demand forsugar)

21. Prices of related goods: Normal Goods • Income • The demand for a normal good increasesif income increases. • Incomedemand for normal goods • Income demand for normal goods  • The demand for an inferior good decreasesif income increases. • Incomedemand for inferior goods • Income demand for inferior goods 

22. SUPPLY The Supply curve The graph depicts direct relationship between quantity of goods and services sellers are willing to sell during a specified period at a specified price. The Law of Supply Other things remaining the same, • If the price of a good rises, the quantity supplied of that good increases. • If the price of a good falls, the quantity supplied of that good decreases. Why?

23. SUPPLY

24. Why does the Supply Curves have a Positive Slope? Only at a higher price will it be profitable for sellers to incur the higher opportunity cost associated with supplying a larger quantity Why? • Profit motive • Increasing costs

25. P What happens when price increases? s $4.00 $3.00 $2.00 $1.00 Q 1 2 3 4

26. What happens when income increases? P S2 so DECREASE S1 INCREASE $2.00 Q 1 2 3 4

27. Non Price Determinants of Supply Curve The main influences on selling plans that change supply are: • Technology • Prices of related goods • Prices of resources and other Inputs • Expectations • Number of sellers • Productivity

28. Change in Supply Technology and Productivity Increase in supply (Shift to the right) • Substitute in production • A good that can be produced in place of another good. For example, wheat and corn on a plot of land in Mid-West. • What would happen to the supply of wheat if the price of corn decreases • The supply of wheat will increase as it is now more profitable to produce more wheat at a higher price instead of corn when its price decreased.

29. Change in Supply • Prices of Resources and Other Inputs • Resource and input prices influence the cost of production. And the more it costs to produce a good, the smaller is the quantity supplied of that good. • Expectations • Expectations about future prices influence supply. • You expect future prices of oil to increase supply would decrease today.

30. Change in Supply • Number of Sellers • The greater the number of sellers in a market, the larger is supply. • Productivity • Productivity is output per unit of input. • An increase in productivity lowers costs and increases supply. (Shift to the right)

31. Equilibrium P $4.000 S $3.000 $2,000 $1,000 $500 D Price Q 2,000 4,000 6,000 8k 9k # of houses in thousands

32. MARKET EQUILIBRIUM Market equilibrium When the quantity demanded equals the quantity supplied—when buyers’ and sellers’ plans are consistent. Equilibrium price ($2000) The price at which the quantity demanded equals the quantity supplied. Equilibrium quantity (4000 units) The quantity bought and sold at the equilibrium price.

33. MARKET EQUILIBRIUM • Price: A Market’s Automatic Regulator • Law of market forces • When there is a shortage, the price rises. • When there is a surplus, the price falls. • SurplusorExcess Supply • The quantity supplied exceeds the quantity demanded. • Price is above equilibrium • ShortageorExcess Demand • The quantity demanded exceeds the quantity supplied. • Price is bellow equilibrium

34. Price bellow equilibrium P $4.000 S $3.000 $2,000 shortage 4000 units $1,000 $500 D Price Q 2,000 4k 6,000 8k 9k # of houses in thousands

35. Price above equilibrium P $4.000 S $3.000 surplus 4000 units $2,000 $1,000 $500 D Price Q 2,000 4k 6,000 8k 9k # of houses in thousands

36. Equilibrium P $4.000 S $3.000 $2,000 $1,000 $500 D Price Q 2,000 4,000 6,000 8k 9k # of houses in thousands

37. Video questions for chapter 4: Demand and Supply Video:  "Markets and Prices" You can view this video online on your computer and/or view it in the library.(No 2 online) Q1: Explain how Levitt eliminate housing shortages after the Second World War.  What is effective demand?(10 points/YES, you need a graph and two detailed paragraphs for this question) Q2: Explain how Nucor, a mini mill, improved its competitiveness in the global steel market, while large integrated steel mills were going out of business. What economic lesson did you learn from Nucor's business strategy? (10 points/YES, you need a graph and two detailed paragraphs for this question)

38. Practice Questions • Effects of Changes in Demand • Event: A new study says that tap water is unsafe. • To work out the effects on the market for bottled water: • With tap water unsafe, demand for bottled water changes. • The demand for bottled water increases, the demand curve shifts rightward. • What are the new equilibrium price and equilibrium quantity and how have they changed?

39. What happens when demand increases? P Do so $1.50 $1.00 PQ Q 1 2 3 4

40. Practice Questions • Effects of Changes in Demand • Event: A new zero-calorie sports drink is invented. • To work out the effects on the market for bottled water: • The new drink is a substitute for bottled water, so the demand for bottled water changes • The demand for bottled water decreases, the demand curve shifts leftward. • What are the new equilibrium price and equilibrium quantity and how have they changed?

41. What happens demand decreases? P Do PQ so $1.50 $1.00 Q 1 2 3 4

42. Practice Questions • Effects of Changes in Supply • Event: Europeans produce bottled water in the United States. • To work out the effects on the market for bottled water: • With more suppliers of bottled water, supply changes. • The supply of bottled water increases, the supply curve shifts rightward. • What are the new equilibrium price and equilibrium quantity and how have they changed?

43. What happens when supply increases? P Do PQ so $1.50 $1.00 Q 1 2 3 4

44. Practice Questions/ Effects of Changes in Supply • Event: Drought dries up some springs in the United States. • To work out the effects on the market for bottled water: • Drought changes the supply of bottled water. • The supply of bottled water decreases, the supply curve shifts leftward. • What are the new equilibrium price and equilibrium quantity and how have they changed?

45. What happens when supply decreases? P Do PQ so $3.00 $2.00 Q 1 2 3 4

46. Changes in the Supply of Oil

47. Demand and Supply in YOUR Life The demand and supply model is going to be a big part of the rest of your life! • You’ll use it again and again in your economics course—it is your major tool. • By understanding how prices adjust, you’ll have a much better appreciation of how your economic world works. • When people complain about a price hike, think about the law of market forces and how the intersection of demand and supply determined that price. • As you shop for your favourite goods, try to describe the supply and demand influences on the price of each of them.