Chapter 3 Demand Supply Demand Supply Markets are

Chapter 3 Demand Supply

Demand Supply • Markets are the institutions that bring together buyers and sellers. – Examples include: farmer’s markets, e. Bay, Amazon. com, and retail outlets.

1. DEMAND Learning Objectives 1. Define the quantity demanded of a good or service and illustrate it using a demand schedule and a demand curve. 2. Distinguish between the following pairs of concepts: demand quantity demanded, demand schedule and demand curve, movement along and shift in a demand curve. 3. Identify demand shifters and determine whether a change in a demand shifter causes the demand curve to shift to the right or to the left.

1. 1 Price and the Demand Curve • • • The quantity demanded is the quantity buyers are willing and able to buy of a good or service at a particular price during a particular period, all other things unchanged. A demand schedule is a table that shows the quantities of a good or service demanded at different prices during a particular period, all other things unchanged. A demand curve is a graphical representation of a demand schedule.

1. 1 Price and the Demand Curve • • A change in quantity demanded is a movement along a demand curve that results from a change in price. The law of demand states that for virtually all goods and services, a higher price leads to a reduction in quantity demanded and a lower price leads an increase in quantity demanded.

A Demand Schedule and a Demand Curve Price per pound ($) 9 8 7 6 5 4 Quantity demanded per month (millions of pounds) 10 15 20 25 30 35 The demand schedule lists points on the demand curve. 25 million pounds of coffee per month are demanded at a price of $6 per pound. 30 million pounds of coffee per month are demanded at a price of $5 per pound.

1. 2 Changes in Demand • A change in demand is characterized by a shift in a demand curve. A demand shifter is a variable that can change the quantity of a good or service demanded at each price. • – – Preferences Prices of related goods and services • Complements and Substitutes – Income • Normal and Inferior goods – Demographic characteristics – Buyer expectations

An Increase in Demand Price Old New quantity demanded $9 10 20 8 15 25 7 20 30 6 25 35 5 30 40 4 35 45 A’ A D 1 D 2

A Reduction in Demand Price Old New quantity demanded $9 10 0 8 15 5 7 20 10 6 25 15 5 30 20 4 35 25 A’’ A D 3 D 1

Complements and Supplements Complements (coffee and doughnuts) Reducing the price of one… Increases the demand for the other. Increasing the price of one… Reduces the demand for the other. Substitutes (coffee and tea) Increasing the price of one… Increases the demand for the other. Reducing the price of one… Reduces the demand for the other.

A ifts Sh the m de the d an rve cu dc an m de to ve ur the to lef t nt ht rig the e em ov a m ve. es cur us ca and ice m pr de in the ge g an lon ch A ifts Sh Quantity period An increase in demand A reduction in demand Price per unit Changes in Price Versus Changes in Demand curve

2. Supply Learning Objectives 1. Define the quantity supplied of a good or service and illustrate it using a supply schedule and a supply curve. 2. Distinguish between the following pairs of concepts: supply and quantity supplied, supply schedule and supply curve, movement along and shift in a supply curve. 3. Identify supply shifters and determine whether a change in a supply shifter causes the supply curve to shift to the right or to the left.

2. 1 Price and the Supply Curve • • The quantity supplied is the quantity sellers are willing to sell of a good or service at a particular price during a particular period, all other things unchanged. A supply schedule is a table that shows quantities supplied at different prices during a particular period, all other things unchanged. A supply curve is a graphical representation of a supply schedule. A change in quantity supplied is characterized by movement along the supply curve caused by a change in price.

A Supply Schedule and a Supply Curve Price per pound ($) 4 5 6 7 8 9 Quantity supplied per month (millions of pounds) 15 20 25 30 35 40 The supply schedule lists points on the supply curve. 30 million pounds of coffee per month are supplied at a price of $7 per pound. 25 million pounds of coffee per month are supplied at a price of $6 per pound.

2. 2 Changes in Supply • A change in supply is characterized by a shift in the supply curve. A supply shifter is a variable that can change the quantity of a good or service supplied at each price. • – – – Prices of factors of production Returns from alternative activities Technology Seller expectations Natural events The number of sellers

An Increase in Supply Price Old quantity supplied New quantity supplied $4 15 25 5 20 30 6 25 35 7 30 40 8 35 45 9 40 50 A S 1 A’ S 2

A Reduction in Supply Price Old quantity supplied New quantity supplied $4 15 5 5 20 10 6 25 15 7 30 20 8 35 25 9 40 30 A’’ S 3 A S 1

the su ly c pp he et ot urv t lef Supply curve A reduction in supply Quantity period Sh ift ve cur An increase in supply up es s th to the rig h t ng e Alo in pri ng ce the cau su ses pp ly c a mo urv ve me e. nt ha Ac ifts Sh Price per unit Changes in Price Versus Changes in Supply

3 Demand, Supply, and Equilibrium Learning Objectives 1. Use demand supply to explain how equilibrium price and quantity are determined in a market. 2. Understand the concepts of surpluses and shortages and the pressures on price they generate. 3. Explain the impact of a change in demand or supply on equilibrium price and quantity. 4. Explain how the circular flow model provides an overview of demand supply in product and factor markets and how the model suggests ways in which these markets are linked.

3. 1 The Determination of Price and Quantity • • The Equilibrium price (market clearing price) is the price at which quantity demanded equals quantity supplied. The Equilibrium quantity is the quantity demanded and supplied at the equilibrium price. A Surplus is the amount by which the quantity supplied exceeds the quantity demanded at the current price. A Shortage is the amount by which the quantity demanded exceeds the quantity supplied at the current price.

The Determination of Equilibrium Price and Quantity At a price of $8 per pound, 15 million pounds of coffee are demanded At a price of $4 per pound, 15 million pounds of coffee are supplied Surplus at P = $8 S D Shortage at P = $4 At a price of $8 per pound, 35 million pounds of coffee are supplied Equilibrium price and quantity At a price of $4 per pound, 35 million pounds of coffee are demanded

3. 2 Shifts in Demand Supply S 1 D 2 D 1 D 2

3. 2 Shifts in Demand Supply S 2 S 1 D 1 S 2

Simultaneous Decreases in Demand Supply S 2 S 1 D 2

Simultaneous Decreases in Demand Supply S 1 S 2 D 1

Simultaneous Decreases in Demand Supply S 1 S 2 D 1

Simultaneous Shifts in Demand Supply Shift in Supply Increase in Decrease in demand Shifts in Demand Decrease in supply Increase in supply Equilibrium price Equilibrium quantity

3. 3 An Overview of Demand Supply: The Circular Flow Model • • • The circular flow model is a model that provides a look at how markets work and how they are related to each other. The Product markets are markets in which firms supply goods and services demanded by households. The Factor markets are markets in which households supply factors of production – labor, capital, and natural resources – demanded by firms.

3. 3 An Overview of Demand Supply: The Circular Flow Model Payments to firms for goods and services Product markets D Blue jeans S Price S D D Apartments Haircuts Supply goods and services Demand goods and services Households Firms And supply factors S D Textile workers S D Barbers Price Factors markets Price Demand factors S D Apartment buildings Wages paid to household for labor