Supply and Demand

1. Supply and Demand

2. Overview • In a Market Economy, all consumers have a great influence on the price of goods and services. • Prices are determined by two things • Demand - The amount of a good or service that consumers are able and willing to buy at various possible prices. • Supply – The amount of a good or service that producers are able and willing to sell at various prices.

3. Law of Demand • Economic rule stating that the quantity demanded and price move in the opposite. • As price goes up, quantity demanded goes down • As price goes down, quantity demanded goes up • Several factors help explain this relation • Real income, substitution, diminishing marginal utility

4. Law of Demand Factors • Real Income • Economic rule stating that individuals cannot keep buying the same quantity of a product if its price rises while their income stays the same • Ex. – You fill your car up twice a month; $15 each time; $30 total • If gas prices rise, and your income does not, then you will not be able to fill your car up twice. • Your Real Income; or purchasing power, has been reduced. • In order to keep filling your car up twice, you need to cut back spending elsewhere. • Basically, as prices increase, while your pay doesn’t, your money is “worth” less. • Real income effect forces you to make a trade-off.

5. Law of Demand Factors • Substitution Effect • Economic rule stating that if two items satisfy the same need and the price of one rises, people will buy the other.

6. Law of Demand Factors • Diminishing Marginal Utility • Everything people like, desire, want or use gives a measurable level of satisfaction. • This satisfaction is called Utility • Power a good or service has to satisfy a want. • Determines what people will buy and for how much • Marginal Utility is the satisfaction you get from each additional good or service • Diminishing Marginal Utility rule states that the additional satisfaction a consumer gets from purchasing one more unit of a product will lessen with each additional unit purchased. • Ex. – Buying a coke on a hot day at a ball park • First one great; satisfies you… Each additional one is at some point, not as satisfying as the price you pay for it.

7. Demand Curve • Quantity demanded is based on price. • When demand is low, usually prices are lower. • Then as more people want a particular product or service (increased demand) prices generally rise. • This section explains or describes graphing the demand curve, what factors determine demand, and elastic and inelastic demand.

8. Graphing the Demand Curve • A demand schedule is a table of prices and the quantity demanded at each price • List quantity demanded at different prices • A demand curve graphs the quantity demanded of a good or service at each possible price.

9. Demand Curve Figure 7.4 Part A Demand Schedule The numbers in the demand schedule to the right show that as the price per CD decreases, the quantity demanded increases. Note that at $16 each, a quantity of 500 million CDs will be demanded.

10. Figure 7.4 Part BPlotting the Price– Quantity Pairs Note how the price and quantity demanded numbers in the demand schedule have been transferred to the graph on the right. Find letter E. Note that it represents a number of CDs demanded (500 million) at a specific price ($16).

11. Figure 7.4 Part CDemand Curve for CDs The points in the previous graph have been connected with a line in the chart to the right. This line is the demand curve, which always falls from left to right. How many CDs will be demanded at a price of $12 each?

12. Determinants of Demand • Changes in Population • When pop increases, opportunities to buy and sell increase • Demand increases for most products • Meaning more CD’s will be in demand. • Changes in income • Demand for most goods and services depend on income. • Biggest influence on demand curve. • Changes in Tastes and Preferences • 2nd biggest influence on demand • Refers to peoples likes and dislikes • Up to the producer to recognize and respond to

13. Determinants of Demand • Substitutes • The arrival of a better/similar product/cheaper product • Complimentary Goods • Product often used with another product. • Ex.. Camera’s and film • When the price of one will affect the demand of the other.

14. Law of Supply • Economic rule stating that price and quantity supplied move in the same direction. • The willingness and ability of producers to provide goods and services at different prices • As price rises for good, the quantity supplied generally rises • As price falls, quantity demanded also falls. • Quantity supplied is the amount of a good or service that a producer is willing and able to supply at a specific price.

15. Supply Curve • The relationship between quantity and price is direct and always moving in the same direction.

16. Putting Supply and Demand Together • Equilibrium Price • Price at which the amount producers are will to supply is equal to the amount consumers are willing to buy.

17. Determinants of Supply • Four factors determine how much a producer is willing to supply at given prices • Price of Inputs • When raw materials, wages, etc, drop so will price. • Number of firms in the Industry • As more firm enter an industry, greater quantity supplied are offered at each price. • Taxes • The more taxes gov’t imposes, the less producers will supply • Technology • As technology develops, usually producing becomes cheaper, producers supply more

18. Prices serve as Signals • Market is designed to stay at or around equilibrium price. • From time to time situations can naturally occur to temporarily change that • Usually takes care of itself without the need for intervention • Shortages • Occurs when quantity demanded is greater that quantity supplied at the current price • If left alone, and with no gov’t interference, prices will rise till eventually consumer purchasing dies down • Happens when prices are set below equilibrium price

19. Shortage

20. Prices serve as Signals • Surpluses • Situation in which quantity supplied is greater than quantity demanded • Happens when producers set prices above the equilibrium price • Consumers are less willing to buy, good begin to stockpile, prices are lowered to reduce stock.

21. Surplus The fast-food restaurant business wants to hire students at $4.15 an hour, but the government has set a minimum wage–a price floor–of $5.15 an hour. This results in a surplus of workers.

22. Price Controls • Government intervention • For the most part, gov’t lets market forces control supply and demand. • However, gov’t does get involved for a number of reasons • 1). Believes the market is unfair to consumers. • 2). No competition for market forces to work • 3). Receive kickback from certain industries to protect their interests. • At these times, gov’t will intact certain restrictions on producers.

23. Price Controls • Price Ceilings • Government set maximum price that can be charged for goods or services • Prevents prices form going above a certain amount. • Usually a temporary situation • Usually leads to shortages occurring when done effectively • Rationing • When the economy is bad and/or shortages last for a long time (Great Depression, water), gov’t may resort to rationing. • Distribution of goods and service based on something other than price.

24. Price Controls • Price Floors • Legal minimum price below which a good or service may not be sold. • Most commonly seen with minimum wages and agriculture • Gov’t sets minimum wage to ensure employers pay fairly for their employees services • If Equilibrium price is followed, farmers would make no profits • Gov’t will set minimum prices on produce to keep farmers from turning away from agriculture, and allow them to make a profit.