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Demand

Absolute Price and Relative Price

Supply

The Market

In This Lecture…..

Consumers’ Surplus, Producers’ Surplus, and Total Surplus

Price Ceilings

Price Floors

In This Lecture…..

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Theory

Economists build theories to answer

questions that do not have obvious answers.

Cause Effect

Theory is an abstract representation of the real world designed with the intent to better understand the world.

Market

Any place people come together to trade

Trade or exchangemay take place at aphysical or virtuallocation

DemandA Definition

The willingness and ability of buyers:

to purchase different quantities of a good

at different prices during a specific time

period.

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Law of Demand

As the price of a good rises, the

quantity demanded of the good falls,

and as the price of a good falls, the

quantity demanded of the good rises,

ceteris paribus

Price Quantity

Ceteris Paribus

A Latin term meaning “all other things

constant” or “nothing else changes.”

Ceteris paribus is an assumption used to

examine the effect of one influence on an

outcome while holding all other influences

Constant.

Demand Schedule

The numerical tabulation of the

quantity demanded of a good at

different prices. A demand schedule is

the numerical representation of the law

of demand.

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Downward Slopping Demand Curve

The graphical representation of the demand

schedule and law of demand.

Prices

�Absolute (Money) Price - The price of a

good in money terms.

�Relative Price (opportunity cost) - The price of a good in terms of another good.

Demand

Schedule and Graph

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Why does the price of one more day at Disney World cost less than the

cost of the first day?

Law of DiminishingMarginal Utility

For a given time period, the marginal

(additional) utility or satisfaction gained by

consuming equal successive units of a good

will decline as the amount consumed

increases.

Derivation of Market DemandSchedule

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Derivation of Market DemandCurve

Change in Quantity Demanded

Change in Demand

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Increase in Demand

Decrease in Demand

Factors Causing a Shift in the Demand Curve

�Income

�Preferences

�Prices of substitute goods

�Prices of complementary goods

�Number of buyers

�Expectations of future prices

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Factors Causing a Shift in the Demand Curve - Income

Normal Good - A good the demand for

which rises (falls) as income rises (falls).

Inferior Good - A good the demand for

which falls (rises) as income rises (falls).

Neutral Good – A good the demand for

which does not change as income rises or

falls.

Factors Causing a Shift in the Demand Curve - Substitutes

Substitutes

Two goods that satisfy similar needs or

desires. If two goods are substitutes,

the demand for one rises as the price

of the other rises (or the demand for

one falls as the price of the other

falls).

Factors Causing a Shift in the Demand Curve - Complements

Complements

Two goods that are used jointly in

consumption. If two goods are

complements, the demand for one rises as

the price of the other falls (or the demand

for one falls as the price of the other rises).

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Effect on Demand if Price Increases on a Substitute Good

Effect on Demand if Price Increases on a Complementary

Good

Self Test Questions

1. As Sandi’s income rises, her demand for popcorn rises. As Mark’s income falls, his demand for prepaid telephone cards rises. What kinds of goods are popcorn and telephone cards for the people who demand each?

2. Why are demand curves downward sloping?

3. Give an example that illustrates how to derive a market demand curve.

4. What factors can change demand? What factors can change quantity demanded?

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Supply

The willingness and ability of sellers

to produce and offer to sell different

quantities of a good at different prices

during a specific time period.

Law of Supply

As the price of a good rises, the quantity

supplied of the good rises, and as the price

of a good falls, the quantity supplied of the

good falls, ceteris paribus.

Price Quantity

Supply Curve

The graphical representation of the law of

supply, which states that price and quantity

supplied are directly related, ceteris paribus.

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Fixed Supply

Supply Schedule

The numerical tabulation of the

quantity supplied of a good at

different prices.

A supply schedule is the numerical

representation of the law of supply.

Deriving a Market Supply Schedule

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Deriving a Market Supply Curve

Factors that Cause the Supply Curve to Shift

�Prices of relevant resources

�Technology

�Number of sellers

�Expectation of future prices

�Taxes and subsidies

�Government restrictions

Change in Supply

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Change in Supply

Change in Quantity Supplied

A change in quantity supplied refers to a movement along a supply curve. The only factor that can directly cause a change in the quantity supplied of a good is a change in the price of the good, or own price.

Change in Quantity Supplied

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Self Test Questions1. What would the supply curve for houses (in a

given city) look like for a time period of (a) the next ten hours and (b) the next three months?

2. What happens to the supply curve if each of the following occurs?

a. There is a decrease in the number of sellers.

b. A per-unit tax is placed on the production of a good.

c. The price of a relevant resource falls.

3. “If the price of apples rises, the supply of apples will rise.” True or false? Explain your answer.

Putting Supply and DemandTogether

Market Equilibrium

Equilibrium in a market is the price

Quantity combination from which

there is no tendency for buyers or

sellers to move away. Graphically,

equilibrium is the intersection point of

the supply and demand curves.

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Auction at Work in a Market

Supply and Demand at WorkThe auctioneer calls out different prices, and buyers record how much they are willing and able to buy. At prices of $6.00, $5.00, and $4.00, quantity supplied is greater than quantity demanded. At prices of $1.25 and $2.25, quantity demanded is greater than quantity supplied.

Auction at Work in a Market

At a price of $3.10, quantity demanded equals quantity supplied.

Equilibrium

Equilibrium Price (Market- Clearing Price)

The price at which quantity demanded

of the good equals quantity supplied

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Surplus and Shortage

Surplus (Excess Supply)

A condition in which quantity supplied is

Greater than quantity demanded. Surpluses

occur only at prices above equilibrium price.

Shortage (Excess Demand)

A condition in which quantity demanded is

greater than quantity supplied. Shortages

occur only at prices below equilibrium price.

Move to Market Equilibrium

Market Demand and Supply

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Moving to Equilibrium

Equilibrium

Consumer, Producer and Total Surplus

Consumers’ Surplus (CS)

CS= Maximum buying price - Price paidThe difference between the maximum price a buyer iswilling and able to pay for a good or service and the priceactually paid.

Producers’ (Sellers’) Surplus (PS)

PS = Price received - Minimum Selling priceThe difference between the price sellers receive for a goodand the minimum or lowest price for which they would

have sold the good.

Total Surplus (TS) TS _ CS _ PSThe sum of consumers’ surplus and producers’ surplus.

Consumer Surplus

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Producer Surplus

Total Surplus

Equilibrium

Equilibrium Price and Quantity Effects of Supply and Demand Curve Shifts

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Self-Test Questions

1. When a person goes to the grocery store to buy food, there is no auctioneer calling out prices for bread, milk, and other items. Therefore, supply and demand cannot be operative. Do you agree or disagree? Explain your answer.

2. The price of a given-quality personal computer is lower today than it was five years ago. Is this necessarily the result of a lower demand for computers? Explain your answer.

Self-Test Questions(continued)

3. What is the effect on equilibrium price and quantity of the following? a. A decrease in demand that is greater than the increase in supply b. An increase in supply c. A decrease in supply that is greater than the increase in demand d. A decrease in demand

Self-Test Questions(continued)

4. At equilibrium quantity, what is the relationship between the maximum buying price and the minimum selling price?

5. If the price paid is $40 and the consumers’surplus is $4, then what is the maximum buying price? If the minimum selling price is $30 and producers’ surplus is $4, then what is the price received by the seller?

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Price Controls

Price Ceiling

A government-mandated maximum

price above which legal trades cannot

be made.

Price Floor

A government-mandated minimum

price below which legal trades cannot

be made.

Price Ceiling

Price Floor

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Self Test Questions

1. Do buyers prefer lower prices to higher prices?

2. “When there are long-lasting shortages, there are long lines of people waiting to buy goods. It follows that the shortages cause the long lines.” Do you agree or disagree? Explain your answer.

3. Who might argue for a price ceiling? a price floor?

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