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Demand, Supply, and Market Equilibrium

3. Teach a parrot the terms " supply and demand " and you've got an economist. Thomas Carlyle. Demand, Supply, and Market Equilibrium. Chapter Objectives. Demand Defined and What Affects It Supply Defined and What Affects It How Supply & Demand Together Determine Market Equilibrium

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Demand, Supply, and Market Equilibrium

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  1. 3 Teach a parrot the terms "supply and demand" and you've got an economist. Thomas Carlyle Demand, Supply, and Market Equilibrium

  2. Chapter Objectives • Demand Defined and What Affects It • Supply Defined and What Affects It • How Supply & Demand Together Determine Market Equilibrium • How Changes in Supply and Demand Affect Equilibrium Prices and Quantities

  3. Demand • Demand Defined • A schedule (curve) that shows the various quantities of a good or service that consumers are willing and able to purchase at various possible prices during a specific time period, ceteris paribus. • Individual demand shows price/qty combinations for individual buyer. • Market demand is the sum of all individual demands.

  4. Demand • Law of Demand • Price and quantity demanded are inversely related (as price falls, qty demanded increases, and vice versa), ceteris paribus. • When price increases, people consume less of the good because: • They substitute away from the relatively higher priced goods to relatively lower priced goods (substitution effect). • Their REAL income (purchasing power) has fallen, so they are not able to consume as much as before (income effect).

  5. 6 5 4 3 2 1 0 Price (per bushel) 10 20 30 40 50 60 70 80 Quantity Demanded (bushels per week) Demand P Individual Demand P Qd $5 4 3 2 1 10 20 35 55 80 D Q

  6. Demand Demand Can Increase or Decrease P 6 5 4 3 2 1 0 Individual Demand Increase in Demand P Qd $5 4 3 2 1 10 20 35 55 80 Price (per bushel) D2 D1 Decrease in Demand D3 Q 2 4 6 8 10 12 14 16 18 Quantity Demanded (bushels per week)

  7. Demand Demand Can Increase or Decrease A change in demand means a shift of the curve - Demand will shift if something OTHER than price changes (if one of the underlying assumptions change) P 6 5 4 3 2 1 0 Individual Demand P Qd $5 4 3 2 1 10 20 35 55 80 Price (per bushel) D2 D1 Decrease in Demand D3 Q 2 4 6 8 10 12 14 16 18 Quantity Demanded (bushels per week)

  8. Demand Change in Quantity Demanded is a Movement Along the Existing Curve P A Movement Between Any Two Points on a Demand Curve is Called a Change in Quantity Demanded – can only be caused by a change in price of this good. 6 5 4 3 2 1 0 Individual Demand P Qd $5 4 3 2 1 10 20 35 55 80 Price (per bushel) D1 Q 2 4 6 8 10 12 14 16 18 Quantity Demanded (bushels per week)

  9. Demand Determinants (Shifters) of Demand • Tastes and Preferences • Some change that makes consumers want to buy more or less of the good or service. • Can be trends, fads, news reports of something bad for you (or good for you), change in tastes because of aging, etc.

  10. Tastes/Preferences This is the demand curve for my new book, The Wonderful World of Economics P 6 5 4 3 2 1 0 What would happen to demand for my book if Oprah endorsed it on her show? Increase in Demand D2 D1 Q 2 4 6 8 10 12 14 16 18 Quantity Demanded

  11. Individual Demand Determinants (Shifters) of Demand • Tastes and Preferences • Number of Buyers (Mkt Size) • An increase in the number of buyers in a market, for whatever reason, will increase demand for a good (a decrease in number of buyers will decrease demand), ceteris paribus.

  12. Number of Buyers This is the demand curve for textbooks at UNC Charlotte. P 6 5 4 3 2 1 0 What would happen to demand for textbooks if UNC Charlotte no longer required textbooks for classes? D1 Decrease in Demand D3 Q 2 4 6 8 10 12 14 16 18 Quantity Demanded

  13. Individual Demand Determinants (Shifters) of Demand • Tastes and Preferences • Number of Buyers (Mkt Size) • Income • Normal Goods • When income increases, demand increases (when income falls, demand falls). • Most goods are normal goods.

  14. Income (Normal Good) This is the demand curve for dinner at Carrabba’s Italian Restaurant (my fav). P 6 5 4 3 2 1 0 What would happen to demand for eating out if incomes increased? (assume restaurant meals are normal goods) Increase in Demand D2 D1 Q 2 4 6 8 10 12 14 16 18 Quantity Demanded

  15. Individual Demand Determinants (Shifters) of Demand • Tastes and Preferences • Number of Buyers (Mkt Size) • Income • Normal Goods • Inferior Goods • When income falls, demand increases (when income increases, demand falls). • Not necessarily a good of inferior quality.

  16. Income (Inferior Goods) This is the demand curve for Ramen Noodles P 6 5 4 3 2 1 0 What will happen to demand for Ramen noodles when you graduate and your income goes up? D1 Decrease in Demand D3 Q 2 4 6 8 10 12 14 16 18 Quantity Demanded

  17. Individual Demand Determinants (Shifters) of Demand • Tastes and Preferences • Number of Buyers (Mkt Size) • Income • Price of Related Goods • Substitute Good • Goods that are used instead of other goods. • When the price of one good increases, demand for its substitutes will increase (when price falls, demand for a sub will fall).

  18. Price of Related Goods (Substitute Goods) This is the demand curve for Red Bull. P 6 5 4 3 2 1 0 What will happen to demand for Red Bull when the price of Monster (another energy drink) goes down? (NOTE: There has been NO change in the price of Red Bull!) Buyers will substitute away from Red Bull to the relatively cheaper Monster. D1 Decrease in Demand D3 Q 2 4 6 8 10 12 14 16 18 Quantity Demanded

  19. Price of Related Goods (Substitute Goods) This is the demand curve for Burger King Whoppers. P 6 5 4 3 2 1 0 What would happen to demand for BK Whoppers if the price of McDonald’s Big Macs goes up? (no change in the price of Whoppers) Increase in Demand D2 D1 Q 2 4 6 8 10 12 14 16 18 Quantity Demanded

  20. Demand Determinants (Shifters) of Demand • Tastes and Preferences • Number of Buyers (Mkt Size) • Income • Price of Related Goods • Substitute Good • Complementary Good • Goods that are used together. • When the price of one good increases, demand for it’s complement will decrease (when price falls, demand for a complement will increase).

  21. Price of Related Goods (Complementary Goods) This is the demand curve for DVD’s. When DVD players are more expensive, the quantity demanded of DVD players will fall (Law of Demand), so people do not need as many DVD’s – demand will fall. P 6 5 4 3 2 1 0 What will happen to demand for DVD’s when the price of DVD players goes up? (NOTE: The price of DVD’s did not change) D1 Decrease in Demand D3 Q 2 4 6 8 10 12 14 16 18 Quantity Demanded

  22. Price of Related Goods (Complementary Goods) This is the demand curve for i-Tunes downloads. P 6 5 4 3 2 1 0 What would happen to demand for i-Tunes when the price of iPods goes down? Increase in Demand D2 D1 Q 2 4 6 8 10 12 14 16 18 Quantity Demanded

  23. Demand Determinants (Shifters) of Demand • Tastes and Preferences • Number of Buyers (Mkt Size) • Income • Price of Related Goods • Consumer Expectations • If consumers expect prices to increase in the future, demand will increase today (if they expect prices to fall, demand will fall today)

  24. Consumer Expectations This is the demand curve for houses. Demand will fall today because homebuyers will wait to buy the home in the future when prices fall. P 6 5 4 3 2 1 0 What will happen to demand for houses when people expect home prices to fall in the future? D1 Decrease in Demand D3 Q 2 4 6 8 10 12 14 16 18 Quantity Demanded

  25. Demand Determinants (Shifters) of Demand • Tastes • Number of Buyers • Income • Price of Related Goods • Consumer Expectations • These are the assumptions underlying the demand curve. When they change, demand changes (shifts). • There is one thing and one thing only that moves us along the demand curve (change in quantity demanded) – that is a change in the PRICE of the thing we are graphing.

  26. NOTHING! No shift of demand, just a change in quantity demanded, movement along the curve. Change in Price (change in qty demanded) This is the demand curve for Starbucks coffee. P 6 5 4 3 2 1 0 What would happen to demand for Starbucks coffee if the price of Starbucks coffee goes up from $2 to $3? D2 D1 Q 2 4 6 8 10 12 14 16 18 Quantity Demanded

  27. Supply • Supply Defined • A schedule (curve) that shows the various quantities of a good or service that suppliers are willing and able to make available for purchase at various possible prices during a specific time period. • Individual supply shows price/qty combinations for individual seller. • Market supply is the sum of all individual supply curves.

  28. Supply • Law of Supply • Price and quantity supplied are positively related (as price increases, qty supplied increases, and vice versa), ceteris paribus. • Marginal costs of production tend to increase as more is produced. So firms will not produce additional (more costly) units unless they can get a higher price for them to cover the higher marginal cost.

  29. Supply P 6 5 4 3 2 1 0 Individual Supply S1 P Qs $5 4 3 2 1 60 50 35 20 5 Price (per bushel) Q 10 20 30 40 50 60 70 Quantity Supplied (bushels per week)

  30. Supply Supply Can Increase or Decrease P 6 5 4 3 2 1 0 S3 Individual Supply S1 S2 P Qs $5 4 3 2 1 60 50 35 20 5 Price (per bushel) Q 2 4 6 8 10 12 14 Quantity Supplied (bushels per week)

  31. Supply Supply Can Increase or Decrease A Movement Between Any Two Points on a Supply Curve is Called a Change in Quantity Supplied P 6 5 4 3 2 1 0 S3 Individual Supply S1 S2 P Qs $5 4 3 2 1 60 50 35 20 5 Price (per bushel) A change (increase or decrease) in Supply Means a shift of the curve Q 2 4 6 8 10 12 14 Quantity Supplied (bushels per week)

  32. Supply Determinants (Shifters) of Supply • Resource Prices (costs) • When costs of inputs increase, suppliers must supply less at every price, so supply will decrease.

  33. Resource Costs This is the supply curve for Toyotas. P 6 5 4 3 2 1 0 S2 Decrease in Supply What would happen to the supply of Toyotas if the cost of steel increases? S1 Q 2 4 6 8 10 12 14 Quantity Supplied

  34. Resource Costs This is the supply curve for gasoline. P 6 5 4 3 2 1 0 S2 Decrease in Supply What would happen to the supply of gasoline if the cost of oil increases? S1 Q 2 4 6 8 10 12 14 Quantity Supplied

  35. Supply Determinants (Shifters) of Supply • Resource Prices (costs) • Technology • Improvements in technology allow suppliers to produce same output with fewer resources. • Using fewer resources lowers production costs, which increases supply.

  36. Technology This is the supply curve for big screen TV’s. P 6 5 4 3 2 1 0 What would happen to the supply of big screen TV’s if the technology used to build them improves? S1 S2 Increase in Supply Q 2 4 6 8 10 12 14 Quantity Supplied

  37. Supply Determinants (Shifters) of Supply • Resource Prices (costs) • Technology • Taxes and Subsidies • Taxes are considered costs, so when taxes increase, costs increase, and supply decreases. • Subsidies are “taxes in reverse”, lower costs, supply increases.

  38. Supply Determinants (Shifters) of Supply • Resource Prices (costs) • Technology • Taxes and Subsidies • Prices of Other Goods • If a firm can produce alternative goods (substitutes in production), they may switch from one product to another higher priced good, decreasing supply of the original product.

  39. Price of Other Goods(Substitutes in production) This is the supply curve for potatoes. P 6 5 4 3 2 1 0 S2 Decrease in Supply What would happen to the supply of potatoes if the price of corn increases? (assume farmers can grow either potatoes or corn on their land) S1 Q 2 4 6 8 10 12 14 Quantity Supplied

  40. Supply Determinants (Shifters) of Supply • Resource Prices • Technology • Taxes and Subsidies • Prices of Other Goods • Number of Sellers • The greater the number of suppliers, the greater the supply of the good, ceteris paribus.

  41. Number of Sellers This the supply curve for American flags. P 6 5 4 3 2 1 0 S1 What happened to the supply of American flags on 9/11/2001? S2 Increase in Supply Q 2 4 6 8 10 12 14 Quantity Supplied

  42. Supply Determinants (Shifters) of Supply • Resource Prices • Technology • Taxes and Subsidies • Prices of Other Goods • Number of Sellers • These are the assumptions underlying the supply curve. When they change, supply changes (shifts). • There is one thing and one thing only that moves us along the supply curve (change in quantity supplied) – that is a change in the PRICE of the thing we are graphing.

  43. NOTHING! No shift of supply, just a change in quantity supplied, movement along the curve. Change in Price (change in quantity supplied) This is the supply curve for Chik-Fila sandwiches. P 6 5 4 3 2 1 0 S1 What will happen to the supply of Chik-Fila sandwiches if the price of Chick-Fila sandwiches changes from $3 to $2? Q 2 4 6 8 10 12 14 Quantity Supplied

  44. Market Equilibrium Qty Demanded = Qty Supplied Price Market Demand Market Supply 6 5 4 3 2 1 0 S P Qd P Qs $5 4 3 2 1 2,000 4,000 7,000 11,000 16,000 $5 4 3 2 1 12,000 10,000 7,000 4,000 1,000 D 2 4 6 8 10 12 14 16 18 7 Qty Demanded

  45. Market Equilibrium What if market price is $4? When price is above equilibrium, market has a surplus (QD<QS). Price Market Demand Market Supply 6 5 4 3 2 1 0 S P Qd P Qs Surplus $5 4 3 2 1 2,000 4,000 7,000 11,000 16,000 $5 4 3 2 1 12,000 10,000 7,000 4,000 1,000 3 D 7 2 4 6 8 10 12 14 16 18 QD QS Qty Demanded

  46. Market Equilibrium What if market price is $2? When price is below equilibrium, market has a shortage (QD>QS). Price Market Demand Market Supply 6 5 4 3 2 1 0 S P Qd P Qs $5 4 3 2 1 2,000 4,000 7,000 11,000 16,000 $5 4 3 2 1 12,000 10,000 7,000 4,000 1,000 3 Shortage D 7 2 4 6 8 10 12 14 16 18 QS QD Qty Demanded

  47. Market Equilibrium When market price is not equilibrium price Price 6 5 4 3 2 1 0 When market has shortage, price is too low. If market is allowed to operate freely, price will rise to equilibrium. When market has surplus, price is too high. If market is allowed to operate freely, price will fall to equilibrium. S Surplus Shortage D 2 4 6 8 10 12 14 16 18 7 Qty Demanded

  48. Market Equilibrium • Changes in Demand • Assume we begin at equilibrium price and quantity. What happens if something (a change in one of the underlying assumptions) shifts the demand curve?

  49. Change in Demand This is the market for i-Tunes downloads. P What would happen to demand for i-Tunes when the price of iPods goes down? 6 5 4 3 2 1 0 D2 D1 Q 2 4 6 8 10 12 14 16 18 Quantity Demanded

  50. Change in Demand This is the market for i-Tunes downloads. P 6 5 4 3 2 1 0 • Demand up • Shortage at old price will put upward pressure on price. • Movement along supply curve as price increases. • Market finds new equilibrium. D2 D1 Q 2 4 6 8 10 12 14 16 18 Quantity Demanded

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