33CHAPTE R

DYNAMIC POWERPOINT™ SLIDES BY SOLINA LINDAHL

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Supply and DemandSupply and DemandCOPYRIGHT 2012 WORTH PUBLISHERS

CHAPTER OUTLINE

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To Try it! To Try it! questionsquestions

Some good blogs and other sites to get the juices flowing:

Food for Food for Thought….Thought….

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Demand

What made him buy it?

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Demand

Demand represents the behavior of buyers.A Demand Curve A Demand Curve shows the quantity demanded at different prices.

The Quantity DemandedQuantity Demanded: the : the quantity that buyers are willing (and able) to purchase at a particular price.

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Law of Demand

Price and Quantity Demanded are negatively related

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The Demand Curve

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The Demand Curve for Oil

Price of Oil per Barrel

Quantity of Oil (MBD)

$55

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$5

50

$20

25

Demand

Price Quantity Demanded

$55 5$20 25$5 50

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Reading Demand Curves

Demand curves can be read in two ways:

Horizontally: How much buyers are willing and able to purchase at a certain price.Vertically: The highest price buyers are willing to pay for a certain quantity.

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Intuition of the Demand Curve

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When the price is high, oil will only be used in the high value products. If the price falls, oil will also be used in lower value products.

$120

20

$20

120

Demand

Higher Valued Uses of Oil

Lower Valued Uses of Oil

Price of Oil per Barrel

Quantity of Oil (MBD)

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Consumer Surplus

Consumer SurplusConsumer Surplus is the consumer’s gain from exchange,

the difference between the highest price a consumer will pay at a given quantity and the actual market price.

Total consumer surplus Total consumer surplus is the sum of consumer surplus of all buyers.

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Try it!Try it!

Your roommate just bought an iPad for $600. She would have been willing to pay $1,000 for a machine that could make her life so much more worthwhile. How much consumer surplus does your roommate enjoy from the iPad?a)$600b)$400c)$1600d)$1400 To next To next

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Consumer Surplus

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Total Consumer Surplus at a Price of $20

½(80-20)x90 = $2,700

Area of TriangleHeight

Base½(Base x Height)

80

20

90

Joe’s Consumer Surplus

The President’s Consumer Surplus

Demand

Price of Oil per Barrel

Quantity of Oil (MBD)

Consumer Surplus is the Area beneath the Demand Curve and above the Price

Try it!Try it!If the price is $2010, what is the consumer surplus?a)$3,588,000b)$1,794,000c)$6,000,000d)$3,000,000

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What Shifts the Demand Curve?

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An “increase in demand” An “increase in demand” means that consumers buy more at every price level, (or consumers are willing to pay more for each quantity.)

On the graph: the demand curve shifts outwards, up, and to the right.

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What Shifts the Demand Curve?A “decrease in demand” decrease in demand” means that consumers buy less at every price level, (or they reduce the price they’re willing to pay for a given quantity.)

On the graph: the demand curve shifts inwards, down, and to the left.

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A Decrease in Demand

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$50

80

Old Demand Curve

$25

70

Less Quantity Demanded at the Same Price

Lower Willingness to Pay for the Same Quantity

Price per Unit

Quantity

New Demand Curve

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An Increase in Demand

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$50

80

Old Demand Curve

$25

70

Price per Unit

Quantity

New Demand Curve

Greater Quantity Demanded at the Same Price

Greater Willingness to Pay for the Same Quantity

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Demand Shifters

Important Demand Shifters:1.Income2.Population3.Price of Substitutes4.Price of Complements5.Expectations6.Tastes

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Important Demand Shifters: Income1.The effect of changes in

income on demand depends on the nature of the good in question.A Normal GoodNormal Good: : demand increases when income increases (and vice versa).An Inferior GoodInferior Good: : demand decreases when income increases (and vice versa)

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When the price of petroleum goes up, the demand for natural gas ______, the demand for coal ______, and the demand for solar power ______.a)increases; increases; increasesb)increases; increases; decreasesc)decreases; decreases; increasesd)decreases; decreases; decreases

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Important Demand Shifters:Population2.As the population of an

economy changes, the # of buyers of a particular good also changes, (thereby changing its demand.)What happens to the demand for diapers in Russia as birth rates drop?

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Important Demand Shifters: Price of Substitutes3.Two goods are SubstitutesSubstitutes if a

decrease in the price of one leads to a decrease in demand for the other (or vice versa).- What happens to the demand for

travel in Hawaii if the (perceived) safety cost of traveling to Mexico increases?

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Important Demand Shifters: Price of Complements4.Two goods are ComplementsComplements

if a decrease in the price of one good leads to an increase in the demand for the other (or vice versa).What happens to the demand for

Sport Utility Vehicles when gasoline gets more expensive?

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Price of Complements

Consumers often have to buy goods together.An increase in price of gasoline will decrease the demand for SUVs

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Important Demand Shifters: Expectations

5. The expectation of a higher (lower) price for a good in the future increases (decreases) current demand for the good.Consumers will adjust their current spending in anticipation of the direction of future prices in order to obtain the lowest possible price.

If prices for Xbox 360 consoles are expected to drop right before Christmas, what will happen to sales during November?

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Important Demand Shifters:

Tastes6.Tastes and preferences are

subjective and will vary among consumers.

Seasonal changes or fads have predictable effects on demand. What happens to demand for boots in October? To carbohydrates during the Atkins diet fad? Or to Acai berries after newly perceived health benefits?

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What Shifts the Demand Curve?

A “change in quantity demanded” is NOT the same as a “change in demand.”

“Quantity demanded” changes only when the price of a good changes.

It is a movement along a fixed demand curve.

“Demand” changes only when a non-price factor (demand shifter) changes.

It is a shift in the entire demand curve.A “change in Quantity Demanded”

A “change in Demand”

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When the price of a good increases the quantity demanded ______. When the price of a good decreases the quantity demanded ______. a)rises; risesb)rises; fallsc)falls; risesd)falls; falls

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Supply

What made this oil field happen?

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Supply

Supply represents the behavior of sellers.A Supply CurveSupply Curve shows the quantity supplied at different prices.

The Quantity SuppliedQuantity Supplied is the quantity that producers are willing and able to sell at a particular price.

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Law of SupplyWhat do you think happens to the quantity of human organs donated in Israel when the government issues a point system that rewards donors? The Law of SupplyLaw of Supply: : there is a direct relationship between price and quantity supplied.

When price rises, all else equal, quantity supplied rises and vice versa

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The Supply Curve

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Quantity of Oil (MBD)

Price of Oil per Barrel

Supply Curve for Oil

503010

$5

$20

$55

The Supply Curve for Oil

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Reading Supply Curves

Supply curves can be read in two ways:

Horizontally: How much suppliers are willing and able to sell at a certain price.Vertically: The minimum price for which suppliers are willing to sell a certain quantity.

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Supply CurvesWhy is the supply curve upward sloping?

The cost of producing a good is not equal across all suppliers.

At a low price, a good is produced and sold only by the lowest cost suppliers.At a high price, a good is

also produced and sold by higher cost suppliers.

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The Supply Curve for Oil

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Supply

Quantity of Oil (MBD)

Price of Oil per Barrel

604020

$60

$40

$20

80 100

Oil Shale Profitable Here

Low Cost OilHigher Cost Oil

The Supply Curve for Oil

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Furthermore…

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Does sex have a “price?” See thisthis blog post for a discussion about changes in supply and demand for sex.

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Producer SurplusProducer SurplusProducer Surplus is the producer’s gain from exchange

the difference between the market price and the minimum price at which producers would be willing to sell a certain quantity.

Total producer surplus Total producer surplus is the sum of the producer surplus of each seller.Graphically, total producer surplus is measured by the area above the supply curve and below the price.

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Producer Surplus

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$40

$20

$60

60

40

Supply Curve

20

80

Total Producer Surplus at a Price of $40 Quantity of Oil

(MBD)

Price of Oil per Barrel

Producer Surplus is the Area Above the Supply Curve and Below the Price

Try it!Try it!Using the following diagram, calculate total producer surplus if the price of oil is $50 per barrel. a)0b)$45c)$1,350d)$2,700

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Change in Supply

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Old Supply

$50

20

Lower Costs Increase Supply

Quantity of Oil (MBD)

Price of Oil per Barrel New

Supply

$10

80

Greater Quantity Supplied at the Same Price

Willing to Sell Same Quantity at Lower Prices

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Change in Supply

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Old Supply

20

Higher Costs Decrease Supply

Quantity of Oil (MBD)

Price of Oil per Barrel

New Supply

$10

80

Smaller Quantity Supplied at the Same Price

Higher Price Needed to Sell Same Quantity

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Supply Shifters

Important Supply Shifters1.Technological Innovations2.Input Prices3.Taxes and Subsidies4.Expectations5.Entry or Exit of Producers6.Changes in Opportunity

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Important Supply Shifters:Technological Innovations

1. A technological innovation makes sellers willing to offer more at a given price, or sell a their quantity at a lower price.A technological innovation lowers costs and increases supply.

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Production Technology

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Important Supply Shifters:Input Prices

2. A decrease in the price of an input (all else equal) increases profits and encourages more supply (and vice versa)What will happen to the amount of new businesses if the government reduces the fees and red tape associated with new business licenses? What happens if the fees rise?

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Important Supply Shifters: Taxes and Subsidies

3. A tax on output reduces profit and makes sellers less willing to supply at a given price, unless they can effectively raise the price without losing any sales. (for now, assume they cannot)A tax on output raises costs and decreases supply.Graph the effect on supply of a new cigarette tax in your notes.

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Important Supply Shifters: Taxes and Subsidies

A subsidy on production makes sellers willing to supply a greater quantity at a given price, or the subsidy allows producers to sell a given quantity at a lower price.A subsidy on production lowers costs and increases supply.Graph the effect on supply of a new subsidy to fast food producers aimed at helping them market and sell overseas.

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Taxes and Subsidies

Taxes and subsidies affect profits and therefore supply.

A 10% yacht tax reduced the supply of yachts 53% in the early 1990s.

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Cotton Supply

When the U.S. decreases its cotton subsidies, U.S. cotton supply decreases

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Important Supply Shifters:Taxes and Subsidies

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$10

Supply With $10 Tax

$10

$1 0

$50

Supply Without Tax

$40

60

Quantity of Oil (MBD)

Price of Oil per Barrel

With a $10 Tax Suppliers Require a $10 Higher Price to Sell the Same Quantity

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Important Supply Shifters: Expectations

4. The expectation of a higher price for a good in the future decreases current supply of the good – if they can store the good- (and vice versa).Sellers will adjust their current offerings in anticipation of the direction of future prices in order to obtain the highest possible price.

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Future Expectations

A change in producers’ expectations about profitability will affect supply curves

Windmill production increases as producers expect sales and profitability to increase.

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Important Supply Shifters:Expectations

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Expectations Can Shift the Supply Curve

Quantity

Price per Unit Supply Today

Supply Today with Expectation of Future Price Increase

Into Storage

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Important Supply Shifters: Entry or Exit of Producers

5.As producers enter and exit the market, the overall supply changes.

Entry implies more sellers in the market increasing supply.Exit implies fewer sellers in the market decreasing supply.What will happen to the supply for Marijuana in California if the drug is legalized for general use?

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Number of ProducersAs more producers enter a market, supply increases (and vice versa)

As more firms enter the solar installation market, the number of solar installations available for sale increases

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Important Supply Shifters: Entry or Exit of Producers

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Domestic Supply

Domestic Supply Plus Canadian Imports

Price

Quantity

Entry Increases Supply

Greater Quantity Supplied at the Same Price

Lower Price for the Same Quantity Supplied

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Important Supply Shifters: Changes in Opportunity Costs

6. Inputs used in production have opportunity costs. Sellers will choose to use those inputs where the profit is the highest Sellers will supply less of a good if the price of an alternate good using the same inputs rises (and vice versa).

Sellers always chase the highest profit goods.

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Changes in Opportunity Costs

Producers have the ability to produce other goodsAn increase in the profitability of small cars will decrease the supply of SUVs

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Important Supply Shifters:Changes in Opportunity Costs

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$5

Supply with Low Opportunity Costs

2,800

Higher (Opportunity) Costs Reduce Supply- Rising Wheat Prices Reduce Soybean Supply

Quantity of Soybeans (Millions of Bushels)

Price per Unit

2,000

$7

Supply with High Opportunity Costs

Smaller Quantity Supplied at the Same Price

Higher Price Required to Sell the Same Quantity

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What Shifts the Supply Curve?A “change in quantity supplied” is NOT the same as a “change in supply.”

“Quantity supplied” changes only when the price of a good changes.

It is a movement along a fixed supply curve.

“Supply” changes only when a non-price factor changes.

It is a shift in the entire supply curve.A “change in Quantity Supplied” A “change

in Supply”

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Explain using the concepts of supply, demand, and transport costs (including in this case smuggling costs) the pattern of prices you see here

Market Price of Marijuana

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The market price of the product is $20 per unit. Calculate the dollar amount of consumer surplus being earned in this market.a) $120,000 b) $60,000 c) $100,000 d) $80,000

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