Chapter 3: Competitive Dynamics

1. Chapter 3: Competitive Dynamics

2. S0 Surplus a a 2.50 PRICE 2.00 $ per Kilogram e 1.50 b b D0 Shortage 0 Quantity millions of kilograms per year 7 8 9 How Competitive Markets Operate Market Equilibrium: • The stable point at which demand and supply curves intersect

3. Market Equilibrium Interaction of Supply and Demand: At the point of equilibrium: • Quantity Supply = Quantity Demand • Since no excess demand or supply • Therefore, price is stable with no pressure to increase or decrease So, what happens when there is a surplus or shortage?

4. S0 S1 2.50 Surplus PRICE 2.00 e $ per Kilogram 1.50 a D0 0 Quantity millions of kilograms per year 7 8 9 Effects of Changes in Supply on Equilibrium An increase in supply, the equilibrium values of price and quantity move in opposite directions, with price falling and quantity rising. A decrease in supply would have the opposite effects: price would rise and quantity would fall to reach a new equilibrium

5. S0 Surplus a a 2.50 PRICE 2.00 $ per Kilogram e 1.50 D0 0 Quantity millions of kilograms per year 7 8 9 Effects of a Surplus: Surplus: an excess of quantity supplied over quantity demanded • Sellers have to lower price to sell surplus products • Lower price will cause consumers to increase the quantity they demand of the product and sellers to decrease the quantity supply In situation of excess supply there will be pressure on price to drop which will cause quantity demand to increase and quantity supplied to decrease until the equal one another

6. S0 b 2.50 PRICE $ per Kilogram 2.00 e Shortage D1 1.50 D0 0 Quantity millions of kilograms per year 10 7 8 9 Effects of Changes in Demand on Equilibrium: An increase in demand, the equilibrium values of both price and quantity rise. A decrease in demand would have the opposite effect, causing the equilibrium values of both price and quantity to fall.

7. S0 2.50 PRICE 2.00 $ per Kilogram e 1.50 b b D0 Shortage 0 Quantity millions of kilograms per year 7 8 9 Effects of Shortage: Shortage: an excess of quantity demanded over quantity supplied • Sellers can raise price to exploit shortage of product • Higher price will cause consumer to decrease the quantity the demand of product and sellers to increase the quantity they sell In this situation of excess demand there will be pressure on the price to rise which will cause quantity demand to decrease and quantity supplied to increase until they equal one another

8. S0 2.50 Price Floor @ $2.25 PRICE 2.00 $ per Kilogram e PriceCeiling @ $1.75 1.50 D0 0 Quantity millions of kilograms per year 7 8 9 Price Controls: Price Floor: a minimum price set above equilibrium • Being use in Agricultural to protect farmers Price ceiling: a maximum price set below equilibrium • Being use rent control for housing

9. Consumer's Demand Curve for Pizza PRICE ($ per Pizza) 12 6 a = $9 3 b = $18 0 Quantity 1 2 3 Consumer Surplus & Total Benefit Consumer Surplus: the extra amount of money that a consumer is willing to pay for goods or services The curve shows that this consumer will buy 1 pizza at $12, 2 pizza at $6. The demand curve can also be viewed in the opposite way. The height of the demand curve at each quantity is the maximum price the consumer is willing to pay for that unit. Therefore, in this example, the consumer is willing to pay up to $12 for her first pizza of the week, $9 for her second, and $6 for her third.

10. Market Demand Curve for Pizzas PRICE ($ per Pizza) 16 14 12 10 A = $500 000 8 D 6 B= $600 000 0 Quantity 100 50 Total Benefit: When consumers in the pizza market are charged a price of $6, they consumer 100 000 pizzas. Adding up consumers’ marginal benefits for all 100 000 pizzas gives a total benefit in the market equal to area AB. At the same time, consumers’ total expenditure on pizzas is area B ($600 000). The total consumer surplus in the market is found by subtracting area B from area A, so it is equal to area A ($500 000)

11. S0 700 PRICE 500 $ rent per month e 300 b b D0 Shortage 0 Quantity units rented per month 1500 2000 2300 Rent Controls: Rent controls force price below the equilibrium level, from $500 to $300. Quantity demanded, originally at 2000, rises to 2300 units at the new price while quantity supplied falls to 1500 units. The price ceiling thus causes a shortage of 800 units.