Unit #2 student notes

Unit #2 SUPPLY & DEMAND

Markets
What is a market?
It is any place where people come together to buy and sell goods or services
market has two sides
1. Buying side = demand
2. Selling side = supply
TODAY we focus on DEMAND!

What is demand?
Demand is the amount of a good/service that consumers are willing and able to buy at all prices
To analyze demand, we use a…
Demand schedule : a table that lists the quantities of a good that consumers will buy at various prices
Demand Curve : a graph of the demand schedule

Example Demand Schedule

Demand Curve for Movie Tickets $10 8 0 Number of Movie Tickets per Month Price of Movie Tickets 1 1 2 3 4 5 6 7 8 9 2 3 4 5 6 7 A B

Law of Demand
Two scenarios:
High prices = low quantities demanded
Low prices = high quantities demanded
Law represents an inverse relationship between price and quantity demanded
Quantity Demanded
Amount of a good or service that consumers are willing and able to buy at a specific price

What can cause demand to change?
Week 1: I buy 1 bag of peanuts at $2.00.
Week 2: I buy 2 bags of peanuts at $1.00 each.
The PRICE decrease of peanuts caused my demand to change.
This is called a CHANGE IN QUANTITY DEMANDED!

Change in Quantity Demanded Quantity Price D $10 $5 20 10

Change in Quantity Demanded
Shown by movement along the demand curve
PRICE changes always cause changes in Qd!!

What can cause demand to change?
Week 1: I buy 1 bag of peanuts at $2.00.
Week 2: I buy 5 bags of peanuts at $2.00 each.
This time PRICE did NOT change.
Task! Provide a reason for my demand change.
Any of these reasons cause a CHANGE IN DEMAND (not the Qd at one specific price). In this case the Qd at all prices will change!

Increase in Demand Quantity Demanded Price

Increase in Demand Quantity Demanded Price D 1

Increase in Demand –Curve Shift to the Right Quantity Demanded Price D 1 D 2

Decrease in Demand Quantity Demanded Price

Decrease in Demand Quantity Demanded Price D 1

Decrease in Demand - Curve Shift to Left Quantity Demanded Price D 2 D 1

Demand Shifters– reasons why the demand curve shifts
Consumer Income
as income rises consumers can buy more at each & every price
Number of Consumers
More consumers = more demand
Consumer Expectations
News reports or expected price changes
Consumer Tastes/Preferences
Advertising, celebrity endorsements, trends can cause these shifts
Prices of Related Products
Substitutes – products that can be used in place of other products
Increase in price of one increases demand for other
Example – Butter & margarine
Complements - related goods used together
Use of one increases the use of the other
Example – film & camera

Reminders
PRICE is NOT a demand shifter. When price changes, there is movement along the curve.
A change in demand, caused by factors other than the price of a particular good, is when the curve shifts.
Shift to right = increase in demand
Shift to left = decrease in demand

Elasticity of Demand
Elasticity of Demand – the degree to which the quantity demanded changes in response to a change in price
Consumers care about changes in price
Demand is:
Elastic when a small change in price = large change in quantity demanded
Inelastic when change in price causes only small change in quantity demanded

Determinants of Elasticity
1. Needs vs. Wants
The more necessary a good/service is, the more inelastic it becomes
Examples: insulin, gasoline, & tobacco (all inelastic)
Things that are wants are usually elastic
2. Availability of Substitutes
Consumers regularly switch back & forth to get best price of similar products
If product has more substitutes = elastic demand
3. Amount of Income Required to Purchase
When products are high priced (luxury items) = elastic demand
Example: buying a car
When products are lower priced = inelastic demand
Example: buying salt

What is supply?
Supply is the amount of a product that producers are willing and able to offer for sale at all prices
To analyze supply, we use a…
Supply Schedule – a table that lists the quantities supplied at different prices in a market
Supply Curve – a graph of the supply schedule

Supply Schedule for Painting Services

Supply Curve for Painting Services $200 5 0 Rooms Painted per Week Price per Room 1 20 40 60 80 100 120 140 160 180 2 3 4

Law of Supply
Law says
If prices are high = quantity supplied increases
If prices are low = quantity supplied decreases
Price and quantity supplied have a direct relationship
Quantity Supplied
amount of a good or service that producers are willing and able to offer for sale at a specific price

What can cause supply to change?
Week 1: I try to sell 10 pretzels at $0.75.
Week 2: I try to sell 20 pretzels at $1.00 each.
The PRICE increase of pretzels caused my supply to change.
This is called a CHANGE IN QUANTITY SUPPLIED!

Change in Quantity Supplied $200 5 0 Rooms Painted per Week Price per Room 1 20 40 60 80 100 120 140 160 180 2 3 4 A B
Shown by movement along the supply curve
PRICE changes always cause changes in Qs!!

What can cause supply to change?
This time PRICE did NOT change.
Task! Provide a reason for my supply change.
Any of these reasons cause a CHANGE IN SUPPLY (not the Qs at one specific price). In this case the Qs at all prices will change!

Increase in Supply Quantity Supplied Price S 1

Increase in Supply – Curve Shift to the Right Quantity Supplied Price S 1 S 2

Decrease in Supply Quantity Supplied Price S 1

Decrease in Supply – Curve Shift to the Left Quantity Supplied Price S 1 S 1

Supply Shifters
Cost of Inputs
Input costs refer to costs of production
Increasing or decreasing costs will impact supply
Productivity
The more productive workers are or the more efficiently businesses use resources then supply increases!
Number of Producers/Sellers
When more businesses enter the market = supply increases or vice-versa
Technology
New technology usually shifts curve to the right
Natural Disasters or International Events
Hurricanes, floods, wildfires decrease supply
Wars and revolutions can have similar effects

Supply shifters continued…
Government Policy
Increased regulations restrict supply
Relaxed regulations increase supply
Tax on the manufacture or sale of a good = decreases supply
Subsidy (cash payment to producers) = increases supply
Producer Expectations
Anticipation of future events can affect supply curve
1. Producers think prices will go up = decrease supply NOW
2. Producers think prices will go down = increase supply NOW

Reminders
PRICE is NOT a supply shifter. When price changes, there is movement along the curve.
A change in price, caused by factors other than the price of a particular good, is when the curve shifts.
Shift to right = increase in supply
Shift to left = decrease in supply

Elasticity of Supply
Supply elasticity measures the sensitivity of producers to a change in price
Small increase in price leads to larger increase in output = elastic
Small increase in price leads to little change in quantity supplied = inelastic
Examples of elastic & inelastic
Candy
Bananas
Oil
Yogurt

Supply & Demand Interaction
In a perfectly competitive market, supply & demand work together to determine prices.
The interaction usually creates 3 scenarios:
Equilibrium
Shortage
Surplus

Market Equilibrium
Equilibrium – point at which quantity supplied = quantity demanded
IN OTHER WORDS: Qd = Qs
Price in equilibrium is the equilibrium price and the quantity in equilibrium is the equilibrium quantity

Market Equilibrium
Price equilibrium can be found where the supply curve intersects the demand curve

Market Equilibrium Price 0 Quantity

Market Equilibrium Price S D 0 Quantity

Market Equilibrium Price S D A Q 1 0 P 1 Quantity

Market Equilibrium Price S D A Equilibrium Q 1 0 P 1 Quantity

Market Equilibrium Price S D A Equilibrium Q 1 0 P 1 Equilibrium Price Quantity

Market Equilibrium Equilibrium Quantity Price S D A Equilibrium Q 1 0 P 1 Quantity Equilibrium Price The equilibrium price is also known as the “market-clearing” price. At this price, both consumers and producers are satisfied.

Equilibrium Changes
If demand increases…
P _______ & Q _______
If demand decreases…
P _______ & Q _______

An Increase in Demand Quantity Price 0 P 1 Q 1 A S 1 D 1

An Increase in Demand Quantity Price 0 P 1 Q 1 A ( Original Market Equilibrium ) S 1 D 2 D 1

An Increase in Demand Quantity Price B 0 P 1 Q 1 A S 1 D 2 D 1

An Increase in Demand Quantity Price B Q 2 0 P 2 P 1 Q 1 A S 1 D 2 D 1

An Increase in Demand Quantity Price B( New Market Equilibrium ) Q 2 0 P 2 P 1 Q 1 A S 1 D 2 D 1

Equilibrium Changes
If supply increases…
P _______ & Q _______
If supply decreases…
P _______ & Q _______

An Increase in Supply Quantity Price A (original market equilibrium) Q 1 0 P 1 D 1 S 1

An Increase in Supply Quantity Price A Q 1 0 P 1 D 1 S 1 S 2

An Increase in Supply Quantity Price A Q 1 0 P 1 P 2 Q 2 B (New Market Equilibrium) D 1 S 1 S 2

What happens when the price isn’t “right”?
When prices are set above or below the equilibrium price, disequilibrium occurs and results in…
shortages
surpluses

Shortage
Shortage – is a situation in which the quantity demanded is greater than the quantity supplied at a given price
IN OTHER WORDS: Qd > Qs
Shortage can also be called “Excess Demand”
When price is below the equilibrium price, there is a shortage and the price tends to rise towards equilibrium

Excess Demand Quantity Price S D 0 P 1 Equilibrium Price Equilibrium

Excess Demand Quantity Price S D A Equilibrium 0 P 1 Equilibrium Price P 0 Price below Equilibrium Price

Excess Demand Quantity Price S D A Equilibrium 0 P 1 Equilibrium Price P 0 Price below Equilibrium Price Q s 0

Excess Demand Quantity Price S D A Equilibrium 0 P 1 Equilibrium Price P 0 Price below Equilibrium Price Q s 0 Q d 0

Surplus explained by Michael Scott

Surplus
Surplus– is a situation in which the quantity supplied is greater than the quantity demanded at a given price
IN OTHER WORDS: Qd < Qs
Surplus can also be called “Excess Supply”
When price is above the equilibrium price, there is a surplus and the price tends to fall towards equilibrium

Excess Supply Quantity Price D Equilibrium 0 P 1 Equilibrium Price S

Excess Supply Quantity Price D Equilibrium 0 P 2 Price above Equilibrium Price P 1 Equilibrium Price S

Excess Supply Quantity Price D Equilibrium 0 P 2 Price above Equilibrium Price P 1 Equilibrium Price S Q d 2

Excess Supply Quantity Price D 0 P 2 Price above Equilibrium Price P 1 Equilibrium Price S Equilibrium Q s 2 Q d 2

What Roles Do Prices Play in a Modern Mixed Economy?
Purpose
Prices help consumers understand the costs of their decisions and help 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.

Prices
Up until now, we have assumed that the market is competitive and that prices, along with quantities offered for sale, are allowed to fluctuate
Is this a good thing? Why?
Would there ever be a time when prices would need to be controlled? Why?

Price Controls
Governments implement price controls when prices are considered unfairly high for consumers or unfairly low for producers
Price Floor – minimum legal price
Prevents prices from going too low
Usually results in an excess of supply = surplus
Ex: Minimum Wage
Price Ceiling – maximum legal price
Prevents prices from going too high
Usually results in an excess of demand = shortage
Ex. Rent Control

Shortage Quantity Price S D A Equilibrium 0 P 1 Equilibrium Price P 0 Price Below Equilibrium Price (Price Ceiling)

Shortage Quantity Price S D A Equilibrium 0 P 1 Equilibrium Price P 0 Price below Equilibrium Price Q s 0

Shortage Quantity Price S D A Equilibrium 0 P 1 Equilibrium Price P 0 Price below Equilibrium Price Q s 0 Q d 0

Surplus Quantity Price D Equilibrium 0 P 2 Price Above Equilibrium Price (Price Floor) P 1 Equilibrium Price S

Surplus Quantity Price D Equilibrium 0 P 2 Price above Equilibrium Price P 1 Equilibrium Price S Q d 2

Surplus Quantity Price D 0 P 2 Price above Equilibrium Price P 1 Equilibrium Price S Equilibrium Q s 2 Q d 2

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Unit #2 student notes

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