Supply and Demand

1. Supply and Demand Chapter -2

2. The Law of Demand Buyers of a product will purchase more of the product if its price is lower and vice versa, assuming all other things remain constant. 2

3. Demand Determinants The following changes will shift the demand curve to the right or to the left. • A change in real incomes or wealth (normal and inferior products). • A change in tastes or preferences. • A change in the prices of related products (substitute and complementary products). • A change in the expectation of the product’s future price or buyers’ future incomes. • A change in the number of buyers (population). 3

4. Two Reasons Why Buyers Buy More at Lower Prices and Less at Higher Prices 1- The Substitution Effect When the price of a product decreases, ceteris paribus, the product becomes cheaper. It is, therefore, more attractive relative to other products (and vice versa). 2-The Income Effect When the price of a product decreases, ceteris paribus, consumers have more relative income. They can, therefore, purchase additional products (and vice versa). 4

5. Demand Curve One Buyer How much gasoline would you purchase at the following prices (gallons per month)? 5

6. Price in DollarsPer Gallon 5.00 4.50 4.00 3.50 3.00 2.50 D Quantity Demanded One Individual’s Demand Curve 6

7. Demand Curve Several Buyers (the Market) How much gasoline would you purchase at the following prices (gallons/month)? 7

8. Price in DollarsPer Gallon 5.00 4.50 4.00 3.50 3.00 2.50 D Quantity Demanded Market Demand Curve 8

9. Demand Curve A change in the price is a movement along the demand curve. This is called a change in “quantity demanded”. Price Individual product demand curves always extend from the upper left to the lower right. They are downward sloping. A $4 B $1.75 Demand Curve Quantity Demanded 60 80 9

10. The Law of Supply Producers supply more of a product at higher than at lower prices, ceteris paribus (and vice versa). Big Screen TVs CDs Cell Phones 10

11. Supply Determinants The following changes will shift the supply curve to the right or to the left. • An advance in technology. • A change in input prices. • A change in taxes, subsidies, or regulations. • A change in the number of firms selling the product. 11

12. Reasons why producers produce more at higher prices 1-The Substitution Effect When the market price increases, other competing products will become less profitable and less attractive to produce (and vice versa). 2-The Income Effect When the price increases, the product earns more money (income) and the supplier has more incentive to produce (and vice versa). 12

13. Supply Curve One Supplier If you had a small oil well in your backyard and it took you some effort to get the oil out, and you were able to sell the oil, how much gasoline would you supply at the following prices (gallons per month)? 13

14. Price in DollarsPer Gallon S 5.00 4.50 4.00 3.50 3.00 2.50 Quantity Supplied Individual Supply Curve 14

15. Supply Curve Several Suppliers If you had a small oil well in your backyard and it took you some effort to get the oil out, and you were able to sell the oil, how much gasoline would you supply at the following prices (gallons per month)? 15

16. Price in DollarsPer Gallon S 5.00 4.50 4.00 3.50 3.00 2.50 Quantity Supplied Market Supply Curve 16

17. Supply Curve A change in the price is a movement along the supply curve from point A to point B. This is called a change in “ Quantity Supplied ” Price Supply Curve B $4.50 A supply curve is upward sloping. A $2 Quantity Supplied 30 90 17

18. Market Equilibrium Equilibrium Price and Quantity In a free market the equilibrium price and quantity occur where the supply and demand curves intersect. Price S $3 D 50 Quantity 18

19. Equilibrium Price and Quantity • Market Equilibrium ( Equilibrium Quantity-price ) occur when: Quantity Demanded = Quantity Supplied 19

20. Shortage Case S Rent -p $1,800 $1,000 D 700 900 Quantity The Case of Rent Control 20

21. Shortage Arise When: • Quantity Demanded > Quantity Supplied • Market Price lower than Equilibrium Price. 21

22. Surplus Case Price of Labor S $7.50 $6.00 D 900 1,000 1,100 Quantity of Labor Minimum Wage 22

23. Surplus Arise When: • Quantity Demanded < Quantity Supplied • Market Price higher than Equilibrium Price. 23

24. Equilibrium Price and Quantity When demand increases, the demand curve shifts to the right. Price S Equilibriumprice increases,and equilibriumquantity increases. $4 $3 D2 D1 50 70 Quantity 24

25. The Effect of a Change in Demand on Equilibrium Price and Quantity In the short run, when demand increases • the equilibrium price increases, and • the equilibrium quantity increases. In the short run, when demand decreases • the equilibrium price decreases, and • The equilibrium quantity decreases 25

26. Equilibrium Price and Quantity When supply increases, the supply curve shifts to the right. Price S1 S2 Equilibriumprice decreases,and equilibriumquantity increases. $3 $2 D Quantity 50 60 26

27. The Effect of a Change in Supply on Equilibrium Price and Quantity When supply increases (a rightward shift of the supply curve) • The equilibrium price decreases, and • The equilibrium quantity increases. When supply decreases (a leftward shift of the supply curve) • The equilibrium price increases, and • The equilibrium quantity decreases. 27

28. Changes in Demand and Supply • Example 1 What happens to the equilibrium price and quantity of an Ipod (a normal product) when simultaneously: • Buyers’ incomes rise, and • Technology to make the Ipods improves? 28

29. 0 / 30 What happens to the price and quantity bought/sold of Ipods if incomes rise and technology advances? 5 • Price down; quantity up • Price same; quantity up • Price up; quantity up • Price down; quantity down • None of the above 0 Cross-Tab Label 29

30. Changes in Demand and Supply • Example 1 Answer • An increase in incomes will increase demand (price and quantity increase). • An advance in technology will increase supply (price decreases and quantity increases). The combined effect is that price change is indeterminate and equilibrium quantity increases. 30

31. Changes in Demand and Supply • Example 2 What happens to the equilibrium price and quantity of toilet paper when simultaneously • Buyers expect the future price of toilet paper to be higher • The government taxes the production of toilet paper 31

32. Changes in Demand and Supply • Example 2 Answer • The expectation of a higher future price increases the current demand for the product (price and quantity increase). • The imposition of a government tax reduces the supply (price increases and quantity decreases). The combined effect is that the equilibrium quantity change is unknown (indeterminate) and the equilibrium price increases. 32

33. Manufactured Products • Prices of Manufactured Products Manufactured products are abundantly available and are produced in competitive industries. Examples include computers, cell phones, CDs, and bicycles. Prices of manufacturedgoods equal the cost of production plus a reasonable profit. Prices are rarely excessive, especially in the long run. 33

34. Limited-Supply Products • Prices of Limited-Supply Products Examples of limited-supply products include land, office space, labor, Super Bowl tickets, and products sold by monopolies. Prices of limited-supply products can be excessive, even in the long run. 34