Lecture slides for an undergraduate course on Basic Macroeconomics that I taught in the Fall of 2007. This lecture introduces equilibrium analysis

1. Comparative statics
Market Equilibrium, Price Rationing and Consumer Welfare

2. P
Q
Market Equilibrium:
Where Quantity Demanded equals Quantity Supplied.
E
Q
s
Q
d

3. Doing Some Math
Equilibrium Analysis, Mathematically.
Suppose an economy is described by the following system of equations:
Q = 16 – 4P
Q = 8P – 2
(Demand)
(Supply)
Demand Schedule
Price
Qty.
Demanded
$1 12
$2 8
$3 4
Supply Schedule
Price
Qty.
Supplied
$1 6
$2 14
$3 22
*To find the equilibrium price,
set quantity supplied equal to
quantity demanded and solve:
P* = $1.50
QD* = QS* = 10 Units

4. P
Q
What happens if the good is priced at $6?
Q
s
Q
d
E
$10
24

5. P
Q
What happens if the good is priced at $6?
Q
s
Q
d
A B
$6
20 35
At that price, households will demand B = 35 units, but firms are only
willing to supply A= 20; price will have to rise.
E
$10
24

6. P
Q
What happens if the good is priced at $15?
E
Q
s
Q
d
$10
24

7. P
Q
What happens if the good is priced at $15?
E
Q
s
Q
d
$10
24
At that price, firms will be willing to produce as much as B’= 32 units,
but households are only willing to buy A’ = 18; price will have to fall.
$15
A’ B’
18 32

8. Excess
Supply
Excess
Demand
P
Q
Therefore, “above” the equilibrium point we have excess supply,
and “below” the equilibrium point we have excess demand.
E
Q
s
Q
d

9. P
Q
Scenario: Wealth Increases and
the Good is Normal
S
D
P
Q

10. P
Q
Scenario: Wealth Increases and
the Good is Normal
S
D
P
Q
D’
P’
Q’

11. P
Q
Scenario: The Price of
Complementary Goods Increases
S
D
P
Q

12. P
Q
Scenario: The Price of
Complementary Goods Increases
S
D
P
Q
D’
P’
Q’

13. P
Q
Scenario: Technology Improves
S
P
Q

14. P
Q
Scenario: Technology Improves
S
P
Q
D
S’
P’
Q’

15. P
Q
S
D
P
Q
Scenario: Both Demand and
Supply Curves Shift

16. Scenario: Both Demand and
Supply Curves Shift
IT DEPENDS!!!
• Hypothetically, if they shift in the same direction and in
the same proportion, then quantities will change in the
direction of the shift but prices will remain the same.
• Otherwise, it is necessary to know which shift has the
larger magnitude to draw any conclusions.
• The effect is clearer when the two curves shift in
opposite directions.

17. P
Q
D
Case 1: Rare Item Auctions
Why do rare items fetch such high prices?
S
P
Q

18. Case 2: Minimum Wage
What happens when there are price floors.
Labor Supply
Labor Demand
W
Q
Min.
Wage
Excess Supply
L
W

19. Case 3: Oil Prices
What happens when there are price ceilings.
P
Q
$1.50
S1974
D1974
QS d
Q
Excess
Demand
$0.57

20. Case 4: Oil Consumption
Introducing a fee on Oil Imports.
P
Q
S
D
World Oil Price
($18) Imports
Domestic Oil Production
and Consumption
Import Fee
Price w/ Import
Fee ($24)

21. Case 5: Illegal Narcotics
Demand versus supply approaches to combat the drug problem.
P
Q
S
D
P
Q
A Supply-Oriented Approach
Q’
S’
P’

22. Case 5: Illegal Narcotics
Demand versus supply approaches to combat the drug problem.
P
Q
S
D
P
Q
A Demand-Oriented Approach
Q’
D’
P’

23. P
Q
Q
s
Q
d
P*
Consumer Surplus:
The area below the
demand curve but
above the price level.
E
Welfare Analysis
Free markets maximize the benefit to households and firms...

24. P
Q
Q
s
Q
d
P*
Consumer Surplus:
The area below the
demand curve but
above the price level.
Producer Surplus:
The area above the
supply curve but
below the price level.
E
Welfare Analysis
Free markets maximize the benefit to households and firms...

25. P
Q
Q
s
Q
d
P*
E
Welfare Analysis (2)
...although sometimes firms get the prices right and get the quantities wrong.

26. P
Q
Q
s
Q
d
P*
E
Welfare Analysis (2)
...although sometimes firms get the prices right and get the quantities wrong.
Y
B

27. P
Q
Q
s
Q
d
P*
E
Welfare Analysis (2)
...although sometimes firms get the prices right and get the quantities wrong.
Y
B

28. P
Q
Q
s
Q
d
P*
E
Welfare Analysis (2)
...although sometimes firms get the prices right and get the quantities wrong.

29. P
Q
Q
s
Q
d
P*
Deadweight Loss:
Loss in consumer and/or
producer surplus resulting from
over- or underproduction.
E
Welfare Analysis (2)
...although sometimes firms get the prices right and get the quantities wrong.
B’
Y’