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Chapter 5: Demand and Supply. 5.2 How Do Demand and Price Interact?. Demand is what people are willing and able to buy at various prices. • Quantity demanded is a specific amount an individual is willing and able to buy at a given price.
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5.2 How Do Demand and Price Interact? • Demandis what people are willing and able to buy at various prices. • • Quantity demanded is a specific amount an individual is willing and able to buy at a given price. • • A demand schedule is a table that shows the quantity demanded at each price. • When the data are graphed, the result is a demand curve. • The law of demand states that as price increases, the quantity demanded for a good or service decreases, and vice versa.
5.3 What Can Cause Demand to Change? • Factors other than price can cause the entire demand curve to shift. This is called • a change in demand. These factors, called demand shifters, include changes in • consumer income, • the number of consumers • consumer tastes and preferences • consumer expectations, • the price of substitute goods, and the price of complementary goods.
5.4 How Do Supply and Price Interact? • Supplyis what producers are willing and able to supply at various prices. • • Quantity supplied is the quantity producers are willing and able to supply at a specific price. • • A supply schedule is a table that shows the quantity supplied at different prices. • When the data are graphed, the result is a supply curve. • The law of supply states that as price increases, the quantity supplied for a good or service also increases, and vice versa.
5.5 What Can Cause Supply to Change? • Factors other than price can cause an entire supply curve to shift. This is called a change in supply. These factors, called supply shifters, include changes in the • cost of inputs • the number of producers • conditions due to natural disasters or international events • Technology • producer expectations • government policy
5.6 What Is Demand Elasticity? What Factors Influence It? • Demand elasticity is the degree to which the quantity demanded changes in response to a change in price. • Factors that influence demand elasticity are • availability of substitutes • price relative to income • necessities versus luxuries • time needed to adjust to a price change.
5.7 What Is Supply Elasticity? What Factors Influence It? • Elasticity of supply measures the sensitivity of producers to a change in price. • If supply is elastic, producers will increase supply significantly, even for a small increase in price. If supply is inelastic, producers cannot easily increase supply even for a big increase in price. Factors that influence supply elasticity are • availability and mobility of inputs • storage capacity • time needed to adjust to a price change.
6.2 What Happens When Demand Meets Supply? • In a perfectly competitive market, demand and supply work together to determine prices. • Direct and indirect communication between consumers and producers drives prices to a market equilibrium point at which the quantity demanded and quantity supplied are equal. On a graph, the equilibrium point is the point of intersection of the demand and supply curves. • Equilibrium price can also be described as the market-clearing price, or the “right” price. At this price, both consumers and producers are satisfied.
6.3 What Happens When the Price Isn’t “Right”? • When prices are set above or below the equilibrium price, disequilibrium occurs: • quantity demanded no longer equals quantity supplied. Equilibrium quantity, as determined by the market equilibrium point, is disrupted. • When prices are too low, excess demand leads to shortages. • When prices are too high, excess supply leads to surpluses. Adjusting prices can restore equilibrium.
6.4 How Do Shifts in Demand or Supply Affect Markets? • To analyze how an event will affect market equilibrium, ask yourself these questions: • • Does the event affect market demand, supply, or both? • • Does the event shift the demand or supply curve to the right (increase) or to the left (decrease)? • • What are the new equilibrium price and quantity? How have they changed as a result of the event?
6.5 What Roles Do Prices Play in a Modern Mixed Economy? • Prices convey information by signaling opportunity cost to consumers and helping producers make production decisions. • Prices provide an incentive for firms and workers to produce. • Prices give markets flexibility to respond to changing conditions. • Prices guide scarce resources to their most efficient uses.
6.6 How Does Government Intervention Affect Markets? • Because of political pressure, governments sometimes implement price controls when prices are considered unfairly high for consumers or unfairly low for producers. • • A price floor, such as minimum wage, prevents prices from going too low. The result is excess supply, which causes a surplus. • • A price ceiling, such as rent control, prevents prices from going too high. The result is excess demand, which causes a shortage. • Shortages may result in government-imposed rationing, the controlled distribution of a limited supply of a good or service. • Or they may create black markets, in which goods are traded at prices or in quantities higher than allowed by the law.
7.2 What Is Perfect Competition, and Why Do Economists Like It So Much? • Businesses operate in different market structures, which are primarily defined by the degree of competition among producers. • Four characteristics are used to categorize market structures: • number of producers • similarity of products • ease of entry • control over prices • Perfect competition includes these beneficial characteristics: many producers and consumers, identical products, easy entry into the market, and prices determined by supply and demand. • Furthermore, consumers have easy access to information about products and prices, producers are forced to be as efficient as possible, and consumers always get to pay the equilibrium price.
7.3 What Is a Monopoly, and Why Are Some Monopolies Legal? • Monopolies, oligopolies, and monopolistic competition do not allocate resources efficiently. • A monopoly is a market in which a single producer provides unique products. It usually has significant control over prices and less incentive to satisfy consumers, making it the opposite of perfect competition. • Monopolies are often illegal, although governments may allow beneficial monopolies to exist.
7.4 What Is an Oligopoly, and How Does It Limit Competition? • An oligopoly is a market in which a small number of producers provide similar, but not identical, goods. • Firms in an oligopoly have some control over prices but often set them in response to the decisions of other firms. • Because an oligopoly dominates the market, its effect may be much like that of a monopoly. • Illegal collusion may occur, and cartels may be created.
7.5 What Is Monopolistic Competition, and How Does It Affect Markets? • Monopolistic competition is a market in which many producers provide similar but varied goods. • Such markets are characterized by both price and nonprice competition, in which firms compete through differentiated product characteristics, service, location, and brand image. • To the extent that firms are able to monopolize their own brands, they may have some control over prices. However, such markets remain relatively competitive.
7.6 Market Failures: What Are Externalities and Public Goods? • When markets do not allocate goods and services efficiently, economists refer to • them as market failures. Market failures include the three imperfect market structures: monopolies, oligopolies, and monopolistic competition. Externalities are spillover costs or benefits that affect someone other than the producer or consumer. • Negative externalities, such as pollution, tend to happen because producers are not paying the full cost of their actions (their neighbors alsopay). • Positive externalities have the opposite problem—they are underproduced. • Why pay for a flu shot if most of the others in your community already got one? Public goods are available for everyone to consume, whether or not those people pay for them, and are defined as being nonexcludable and nonrival in consumption. • The market fails to provide public goods because private firms cannot make people pay for their use (the free-rider problem); thus the government must provide them.
