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The Market Forces of
 Supply and Demand

      Lecture 4




                       1
• Demand and supply are two words that
  economists use most often.
• These are the forces that make market
  economies work.
• They determine the quantity of each good
  produced and the price at which it is sold.


                                          2
Markets and Competition
• What is a Market?
  – A market is a group of buyers and sellers of a
    particular good or service.
  – The terms supply and demand refer to the
    behavior of people as they interact with one
    another in markets.
  – Buyers determine demand for the product.
  – Sellers determine supply of the product.

                                              3
Markets and Competition
                                           Cont…

• What is Competition?
  – A business relation/rivalry in which two parties
    compete to gain customers.
  – Economists use the term competitive market to
    describe a market in which there are many buyers
    and sellers so that each has an impact on the
    market price.


                                                   4
Markets and Competition
                                              Cont…

• What is Competition? (Cont.)
  – Economists believe that in order to be perfectly
    competitive, markets must have the following
    characteristics:
    1. Products offered for sale are the same.
    2. There are numerous buyers and sellers so that no
       single buyer or seller has any influence over the
       market price.

                                                      5
Markets and Competition
                                            Cont…

• What is Competition? (Cont.)
  – Not all goods and services are sold in perfectly
    competitive markets.
  – Some markets have only one seller, and this seller
    sets the price.
  – This situation refers to monopoly.



                                                    6
Demand
• Quantity demanded is the amount of the good that
  buyers are willing and able to purchase.
• Many things determine the quantity demanded, but
  one determinant plays a central role ---- the price of
  the good.
• Quantity demanded falls as the price rises and rises
  as the price falls, we say that these two are negatively
  related.

                                                      7
Demand
                                   Cont…


• This relationship is true in most cases, therefore,
  economists term it as the law of demand.
• Law of Demand states that when the price of a good
  rises, the quantity demanded falls and vice versa.




                                                 8
The Demand Curve: Relationship between Price
         and Quantity Demanded

• Demand Schedule:
  – It is a table that shows the relationship between
    the price of the good and the quantity demanded.




                                                 9
Demand Schedule for Ice Cream




                                10
The Demand Curve: Relationship between Price
       and Quantity Demanded (Cont.)

• Demand Curve:
  – It is a graph of the relationship between the price
    of a good and the quantity demanded.




                                                  11
Demand Schedule and Demand Curve


            Price of
          Ice-Cream
                 $3.00


                  2.50

1. A decrease
                  2.00
in price ...

                  1.50

                  1.00


                  0.50


                         0 1 2 3 4 5 6 7 8 9 10 11 12      Quantity of
                                                           Ice-Cream
                               2. ... increases quantity
                               of cones demanded.                        12
The Demand Curve: Relationship between Price
       and Quantity Demanded (Cont.)
• Market Demand:
  – To analyze how markets work, we need to
    determine the market demand.
  – Market demand is the sum of all the individual
    demands for a particular good or service.




                                              13
Shifts in the Demand Curve
• Change in Demand:
  – A shift in the demand curve, either to the left or
    right.
  – Caused by a change that alters the quantity
    demanded (e.g. increase in tax).




                                                 14
Shifts in the Demand Curve

Price



                     Increase
                     in Demand




                   Decrease
                   in Demand
                                                 Demand
                                                 curve, D2
                                     Demand
                                     curve, D1
                  Demand curve, D3
        0                                        Quantity
                                                       15
Shifts in the Demand Curve
• Factors that Cause Shifts in Demand Curve:
   1. Consumer Income:
     • As income increases the demand for a normal good will
       increase.
     • As income increases the demand for an inferior good
       will decrease.




                                                       16
Shifts in the Demand Curve
                                               Cont…

• Factors that Cause Shifts in Demand Curve (Cont.):
   2. Prices of Related Goods:
     • When a fall in the price of one good reduces the
       demand for another good, the two goods are called
       substitutes.
     • When a fall in the price of one good increases the
       demand for another good, the two goods are called
       complements (e.g. cars and fuel).


                                                    17
Shifts in the Demand Curve
                                                      Cont…


• Factors that Cause Shifts in Demand Curve (Cont.):
   3. Tastes.
   4. Expectations:
     • If the prices are expected to fall within a few days.
     • Expect an increase in salary.
  5. Number of Buyers:
     • Increased number of buyers result in increased
       demand.

                                                               18
Supply
• Quantity supplied is the amount of a good that sellers
  are willing and able to sell.
• Like demand, many things determine the quantity
  supplied, but in this also price plays the central role.
• Quantity supplied rises as the price rises and falls as
  the price falls, we say that these two are positively
  related.


                                                     19
Supply
                                      Cont…


• This relationship price and quantity supplied is
  called the law of supply.
• Law of Supply states that when the price of a good
  rises, the quantity supplied also rises and vice versa.




                                                    20
The Supply Curve: Relationship between Price
           and Quantity Supplied

• Supply Schedule:
   – It is a table that shows the relationship between
     the price of the good and the quantity supplied.




                                                 21
Supply Schedule




                  22
The Supply Curve: Relationship between Price
        and Quantity Supplied (Cont.)

• Supply Curve:
   – It is the graph of the relationship between the
     price of a good and the quantity supplied.




                                                23
Supply Schedule and Supply Curve

           Price


                $3.00

                 2.50
1. An
increase
 in price ...    2.00

                 1.50

                 1.00

                 0.50


                        0   1 2     3   4   5   6   7   8   9 10 11 12   Quantity

                                  2. ... increases quantity supplied.           24
The Supply Curve: Relationship between Price
        and Quantity Supplied (Cont.)
• Market Supply:
  – Market supply refers to the sum of the supplies of
    all sellers.




                                                 25
Shifts in the Supply Curve
• Change in Quantity Supplied:
  – A shift in the supply curve, either to the left or
    right.
  – Caused by a change that alters the quantity
    supplied.




                                                 26
Shifts in the Supply Curve

Price
                    Supply curve, S3
                                        Supply
                                       curve, S1
                                                    Supply
                      Decrease                     curve, S2
                      in supply




                        Increase
                        in supply




        0                                          Quantity
                                                        27
Shifts in the Supply Curve

• Factors that Cause Shifts in Supply Curve:
   1. Input Prices:
     • When the price of inputs rises, producing that good
       becomes less profitable, thus, firms reduce supply.


  2. Technology:
     • Use of modern technology increases supply.



                                                     28
Shifts in the Supply Curve
                                              Cont…

• Factors that Cause Shifts in Supply Curve (Cont.):
   3. Number of Sellers:
     • When the number of sellers increases, supply also
       increases.




                                                   29
Supply And Demand Together:
                 Equilibrium
• There is one point at which supply and demand
  curves intersect.
• This point is called the market’s equilibrium.
• The price at this intersection is called the
  equilibrium price.
• The quantity at this point is called the equilibrium
  quantity.


                                                 30
Supply And Demand Together:
               Equilibrium (Cont.)
• At the equilibrium price, the quantity demanded
  exactly balances the quantity supplied.
• Equilibrium price is also called market-clearing
  price because at this price, everyone in the market is
  satisfied:
   – Buyers have bought all they wanted to buy.
   – Sellers have sold all they wanted to sell.


                                                   31
Demand Schedule           Supply Schedule




    At $2.00, the quantity demanded
    is equal to the quantity supplied!
                                            32
Equilibrium of Supply and Demand


Price

                                                                     Supply




            Equilibrium price                                 Equilibrium
$2.00




                                                Equilibrium           Demand
                                                quantity


        0   1    2   3    4     5   6   7   8    9   10 11 12 13
                                                                            Quantity
                                                                              33

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Supply and Demand

  • 1. The Market Forces of Supply and Demand Lecture 4 1
  • 2. • Demand and supply are two words that economists use most often. • These are the forces that make market economies work. • They determine the quantity of each good produced and the price at which it is sold. 2
  • 3. Markets and Competition • What is a Market? – A market is a group of buyers and sellers of a particular good or service. – The terms supply and demand refer to the behavior of people as they interact with one another in markets. – Buyers determine demand for the product. – Sellers determine supply of the product. 3
  • 4. Markets and Competition Cont… • What is Competition? – A business relation/rivalry in which two parties compete to gain customers. – Economists use the term competitive market to describe a market in which there are many buyers and sellers so that each has an impact on the market price. 4
  • 5. Markets and Competition Cont… • What is Competition? (Cont.) – Economists believe that in order to be perfectly competitive, markets must have the following characteristics: 1. Products offered for sale are the same. 2. There are numerous buyers and sellers so that no single buyer or seller has any influence over the market price. 5
  • 6. Markets and Competition Cont… • What is Competition? (Cont.) – Not all goods and services are sold in perfectly competitive markets. – Some markets have only one seller, and this seller sets the price. – This situation refers to monopoly. 6
  • 7. Demand • Quantity demanded is the amount of the good that buyers are willing and able to purchase. • Many things determine the quantity demanded, but one determinant plays a central role ---- the price of the good. • Quantity demanded falls as the price rises and rises as the price falls, we say that these two are negatively related. 7
  • 8. Demand Cont… • This relationship is true in most cases, therefore, economists term it as the law of demand. • Law of Demand states that when the price of a good rises, the quantity demanded falls and vice versa. 8
  • 9. The Demand Curve: Relationship between Price and Quantity Demanded • Demand Schedule: – It is a table that shows the relationship between the price of the good and the quantity demanded. 9
  • 10. Demand Schedule for Ice Cream 10
  • 11. The Demand Curve: Relationship between Price and Quantity Demanded (Cont.) • Demand Curve: – It is a graph of the relationship between the price of a good and the quantity demanded. 11
  • 12. Demand Schedule and Demand Curve Price of Ice-Cream $3.00 2.50 1. A decrease 2.00 in price ... 1.50 1.00 0.50 0 1 2 3 4 5 6 7 8 9 10 11 12 Quantity of Ice-Cream 2. ... increases quantity of cones demanded. 12
  • 13. The Demand Curve: Relationship between Price and Quantity Demanded (Cont.) • Market Demand: – To analyze how markets work, we need to determine the market demand. – Market demand is the sum of all the individual demands for a particular good or service. 13
  • 14. Shifts in the Demand Curve • Change in Demand: – A shift in the demand curve, either to the left or right. – Caused by a change that alters the quantity demanded (e.g. increase in tax). 14
  • 15. Shifts in the Demand Curve Price Increase in Demand Decrease in Demand Demand curve, D2 Demand curve, D1 Demand curve, D3 0 Quantity 15
  • 16. Shifts in the Demand Curve • Factors that Cause Shifts in Demand Curve: 1. Consumer Income: • As income increases the demand for a normal good will increase. • As income increases the demand for an inferior good will decrease. 16
  • 17. Shifts in the Demand Curve Cont… • Factors that Cause Shifts in Demand Curve (Cont.): 2. Prices of Related Goods: • When a fall in the price of one good reduces the demand for another good, the two goods are called substitutes. • When a fall in the price of one good increases the demand for another good, the two goods are called complements (e.g. cars and fuel). 17
  • 18. Shifts in the Demand Curve Cont… • Factors that Cause Shifts in Demand Curve (Cont.): 3. Tastes. 4. Expectations: • If the prices are expected to fall within a few days. • Expect an increase in salary. 5. Number of Buyers: • Increased number of buyers result in increased demand. 18
  • 19. Supply • Quantity supplied is the amount of a good that sellers are willing and able to sell. • Like demand, many things determine the quantity supplied, but in this also price plays the central role. • Quantity supplied rises as the price rises and falls as the price falls, we say that these two are positively related. 19
  • 20. Supply Cont… • This relationship price and quantity supplied is called the law of supply. • Law of Supply states that when the price of a good rises, the quantity supplied also rises and vice versa. 20
  • 21. The Supply Curve: Relationship between Price and Quantity Supplied • Supply Schedule: – It is a table that shows the relationship between the price of the good and the quantity supplied. 21
  • 23. The Supply Curve: Relationship between Price and Quantity Supplied (Cont.) • Supply Curve: – It is the graph of the relationship between the price of a good and the quantity supplied. 23
  • 24. Supply Schedule and Supply Curve Price $3.00 2.50 1. An increase in price ... 2.00 1.50 1.00 0.50 0 1 2 3 4 5 6 7 8 9 10 11 12 Quantity 2. ... increases quantity supplied. 24
  • 25. The Supply Curve: Relationship between Price and Quantity Supplied (Cont.) • Market Supply: – Market supply refers to the sum of the supplies of all sellers. 25
  • 26. Shifts in the Supply Curve • Change in Quantity Supplied: – A shift in the supply curve, either to the left or right. – Caused by a change that alters the quantity supplied. 26
  • 27. Shifts in the Supply Curve Price Supply curve, S3 Supply curve, S1 Supply Decrease curve, S2 in supply Increase in supply 0 Quantity 27
  • 28. Shifts in the Supply Curve • Factors that Cause Shifts in Supply Curve: 1. Input Prices: • When the price of inputs rises, producing that good becomes less profitable, thus, firms reduce supply. 2. Technology: • Use of modern technology increases supply. 28
  • 29. Shifts in the Supply Curve Cont… • Factors that Cause Shifts in Supply Curve (Cont.): 3. Number of Sellers: • When the number of sellers increases, supply also increases. 29
  • 30. Supply And Demand Together: Equilibrium • There is one point at which supply and demand curves intersect. • This point is called the market’s equilibrium. • The price at this intersection is called the equilibrium price. • The quantity at this point is called the equilibrium quantity. 30
  • 31. Supply And Demand Together: Equilibrium (Cont.) • At the equilibrium price, the quantity demanded exactly balances the quantity supplied. • Equilibrium price is also called market-clearing price because at this price, everyone in the market is satisfied: – Buyers have bought all they wanted to buy. – Sellers have sold all they wanted to sell. 31
  • 32. Demand Schedule Supply Schedule At $2.00, the quantity demanded is equal to the quantity supplied! 32
  • 33. Equilibrium of Supply and Demand Price Supply Equilibrium price Equilibrium $2.00 Equilibrium Demand quantity 0 1 2 3 4 5 6 7 8 9 10 11 12 13 Quantity 33