1. © 2010 Pearson Addison-Wesley

2. Demand and Supply Supply and demand are the two words that economists use most often. Supply and demand are the forces that make market economies work. Modern microeconomics is about supply, demand, and market equilibrium.

3. © 2010 Pearson Addison-Wesley 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. MARKETS

4. © 2010 Pearson Addison-Wesley MARKETS Buyers determine demand. Sellers determine supply

5. © 2010 Pearson Addison-Wesley Competitive Markets A competitive market is a market in which there are many buyers and sellers so that each has a negligible impact on the market price.

6. © 2010 Pearson Addison-Wesley Perfect Competition Products are the same Numerous buyers and sellers so that each has no influence over price Buyers and Sellers are price takers Monopoly One seller, and seller controls price Competition: Perfect and Otherwise

7. © 2010 Pearson Addison-Wesley Oligopoly Few sellers Not always aggressive competition Monopolistic Competition Many sellers Slightly differentiated products Each seller may set price for its own product Competition: Perfect and Otherwise

8. © 2010 Pearson Addison-Wesley Prices The money price of a good is the amount of money needed to buy it. The relative price of a good—the ratio of its money price to the money price of the next best alternative good—is its opportunity cost.

9. © 2010 Pearson Addison-Wesley Demand If you demand something, then you 1. Want it, 2. Can afford it, and 3. Have made a definite plan to buy it. Wants are the unlimited desires or wishes people have for goods and services. Demand reflects a decision about which wants to satisfy. The quantity demanded of a good or service is the amount that consumers plan to buy during a particular time period, and at a particular price.

10. © 2010 Pearson Addison-Wesley The Law of Demand The law of demand states: Other things remaining the same, the higher the price of a good, the smaller is the quantity demanded; and the lower the price of a good, the larger is the quantity demanded. The law of demand results from  Substitution effect  Income effect Demand

11. © 2010 Pearson Addison-Wesley Substitution effect When the relative price (opportunity cost) of a good or service rises, people seek substitutes for it, so the quantity demanded of the good or service decreases. Income effect When the price of a good or service rises relative to income, people cannot afford all the things they previously bought, so the quantity demanded of the good or service decreases. Demand

12. © 2010 Pearson Addison-Wesley Demand Curve and Demand Schedule The term demand refers to the entire relationship between the price of the good and quantity demanded of the good. A demand curve shows the relationship between the quantity demanded of a good and its price when all other influences on consumers’ planned purchases remain the same. The demand schedule is a table that shows the relationship between the price of the good and the quantity demanded. Demand

13. © 2010 Pearson Addison-Wesley Catherine’s Demand Schedule

14. © 2010 Pearson Addison-Wesley Figure 1 Catherine’s Demand Schedule and Demand Curve Copyright © 2004 South-Western Price of Ice-Cream Cone 0 2.50 2.00 1.50 1.00 0.50 1234567891011 Quantity of Ice-Cream Cones $3.00 12 1. A decrease in price... 2....increases quantity of cones demanded.

15. © 2010 Pearson Addison-Wesley Demand Willingness and Ability to Pay A demand curve is also a willingness-and-ability-to-pay curve. The smaller the quantity available, the higher is the price that someone is willing to pay for another unit. Willingness to pay measures marginal benefit.

16. © 2010 Pearson Addison-Wesley Demand Change in Quantity Demanded Movement along the demand curve. Caused by a change in the price of the product.

17. © 2010 Pearson Addison-Wesley 0 D Price of Ice- Cream Cones Quantity of Ice-Cream Cones A tax that raises the price of ice- cream cones results in a movement along the demand curve. A B 8 1.00 $2.00 4 Changes in Quantity Demanded

18. © 2010 Pearson Addison-Wesley A Change in Demand When some influence on buying plans other than the price of the good changes, there is a change in demand for that good. The quantity of the good that people plan to buy changes at each and every price, so there is a new demand curve. When demand increases, the demand curve shifts rightward. When demand decreases, the demand curve shifts leftward. Demand

19. © 2010 Pearson Addison-Wesley Figure 3 Shifts in the Demand Curve Copyright©2003 Southwestern/Thomson Learning Price of Ice-Cream Cone Quantity of Ice-Cream Cones Increase in demand Decrease in demand Demand curve,D 3 Demand curve,D 1 Demand curve,D 2 0

20. © 2010 Pearson Addison-Wesley Six main factors that change demand are  The prices of related goods  Expected future prices  Income  Expected future income and credit  Population  Preferences Demand

21. © 2010 Pearson Addison-Wesley Prices of Related Goods A substitute is a good that can be used in place of another good.(coke and pepsi) A complement is a good that is used in conjunction with another good.(ipod and ihome, burger and fries) When the price of substitute for an energy bar rises or when the price of a complement of an energy bar falls, the demand for energy bars increases. Demand

22. © 2010 Pearson Addison-Wesley Expected Future Prices If the price of a good is expected to rise in the future, current demand for the good increases and the demand curve shifts rightward. Income When income increases, consumers buy more of most goods and the demand curve shifts rightward. A normal good is one for which demand increases as income increases. An inferior good is a good for which demand decreases as income increases. Demand

23. © 2010 Pearson Addison-Wesley Expected Future Income and Credit When income is expected to increase in the future or when credit is easy to obtain, the demand might increase now. Population The larger the population, the greater is the demand for all goods. Preferences People with the same income have different demands if they have different preferences. Demand

24. © 2010 Pearson Addison-Wesley Figure 3.2 shows an increase in demand. Because an energy bar is a normal good, an increase in income increases the demand for energy bars. Demand

25. © 2010 Pearson Addison-Wesley A Change in the Quantity Demanded Versus a Change in Demand Figure 3.3 illustrates the distinction between a change in demand and a change in the quantity demanded. Demand

26. © 2010 Pearson Addison-Wesley A Movement along the Demand Curve When the price of the good changes and everything else remains the same, the quantity demanded changes and there is a movement along the demand curve. Demand

27. © 2010 Pearson Addison-Wesley A Shift of the Demand Curve If the price remains the same but one of the other influences on buyers’ plans changes, demand changes and the demand curve shifts. Demand

28. © 2010 Pearson Addison-Wesley Supply If a firm supplies a good or service, then the firm 1. Has the resources and the technology to produce it, 2. Can profit from producing it, and 3. Has made a definite plan to produce and sell it. Resources and technology determine what it is possible to produce. Supply reflects a decision about which technologically feasible items to produce. The quantity supplied of a good or service is the amount that producers plan to sell during a given time period at a particular price.

29. © 2010 Pearson Addison-Wesley The Law of Supply The law of supply states: Other things remaining the same, the higher the price of a good, the greater is the quantity supplied; and the lower the price of a good, the smaller is the quantity supplied. The law of supply results from the general tendency for the marginal cost of producing a good or service to increase as the quantity produced increases (Chapter 2, page 35). Producers are willing to supply a good only if they can at least cover their marginal cost of production. Supply

30. © 2010 Pearson Addison-Wesley Supply Schedule The supply schedule is a table that shows the relationship between the price of the good and the quantity supplied. Supply

31. © 2010 Pearson Addison-Wesley Ben’s Supply Schedule

32. © 2010 Pearson Addison-Wesley Supply Supply Curve The term supply refers to the entire relationship between the quantity supplied and the price of a good. The supply curve shows the relationship between the quantity supplied of a good and its price when all other influences on producers’ planned sales remain the same.

33. © 2010 Pearson Addison-Wesley Figure 5 Ben’s Supply Schedule and Supply Curve Copyright©2003 Southwestern/Thomson Learning Price of Ice-Cream Cone 0 2.50 2.00 1.50 1.00 1234567891011 Quantity of Ice-Cream Cones $3.00 12 0.50 1. An increase in price... 2.... increases quantity of cones supplied.

34. © 2010 Pearson Addison-Wesley Supply Minimum Supply Price A supply curve is also a minimum-supply-price curve. As the quantity produced increases, marginal cost increases. The lowest price at which someone is willing to sell an additional unit rises. This lowest price is marginal cost.

35. © 2010 Pearson Addison-Wesley Supplyin the Supply Curve Change in Quantity Supplied Movement along the supply curve. Caused by a change in anything that alters the quantity supplied at each price.

36. © 2010 Pearson Addison-Wesley 1 5 Price of Ice- Cream Cone Quantity of Ice-Cream Cones 0 S 1.00 A C $3.00 A rise in the price of ice cream cones results in a movement along the supply curve. Change in Quantity Supplied

37. © 2010 Pearson Addison-Wesley A Change in Supply When some influence on selling plans other than the price of the good changes, there is a change in supply of that good. The quantity of the good that producers plan to sell changes at each and every price, so there is a new supply curve. When supply increases, the supply curve shifts rightward. When supply decreases, the supply curve shifts leftward. Supply

38. © 2010 Pearson Addison-Wesley Figure 7 Shifts in the Supply Curve Copyright©2003 Southwestern/Thomson Learning Price of Ice-Cream Cone Quantity of Ice-Cream Cones 0 Increase in supply Decrease in supply Supply curve,S 3 curve, Supply S 1 curve,S 2

39. © 2010 Pearson Addison-Wesley The five main factors that change supply of a good are  The prices of factors of production  The prices of related goods produced  Expected future prices  The number of suppliers  Technology  State of nature Supply

40. © 2010 Pearson Addison-Wesley Prices of Factors of Production If the price of a factor of production used to produce a good rises, the minimum price that a supplier is willing to accept for producing each quantity of that good rises. So a rise in the price of a factor of production decreases supply and shifts the supply curve leftward. Supply

41. © 2010 Pearson Addison-Wesley Prices of Related Goods Produced A substitute in production for a good is another good that can be produced using the same resources. The supply of a good increases if the price of a substitute in production falls. Goods are complements in production if they must be produced together. The supply of a good increases if the price of a complement in production rises. Supply

42. © 2010 Pearson Addison-Wesley Expected Future Prices If the price of a good is expected to rise in the future, supply of the good today decreases and the supply curve shifts leftward. The Number of Suppliers The larger the number of suppliers of a good, the greater is the supply of the good. An increase in the number of suppliers shifts the supply curve rightward. Supply

43. © 2010 Pearson Addison-Wesley Technology Advances in technology create new products and lower the cost of producing existing products. So advances in technology increase supply and shift the supply curve rightward. The State of Nature The state of nature includes all the natural forces that influence production—for example, the weather. A natural disaster decreases supply and shifts the supply curve leftward. Supply

44. © 2010 Pearson Addison-Wesley A Change in the Quantity Supplied Versus a Change in Supply Figure 3.6 illustrates the distinction between a change in supply and a change in the quantity supplied. Supply

45. © 2010 Pearson Addison-Wesley A Movement Along the Supply Curve When the price of the good changes and other influences on sellers’ plans remain the same, the quantity supplied changes and there is a movement along the supply curve. Supply

46. © 2010 Pearson Addison-Wesley A Shift of the Supply Curve If the price remains the same but some other influence on sellers’ plans changes, supply changes and the supply curve shifts. Supply

47. © 2010 Pearson Addison-Wesley Market Equilibrium Equilibrium is a situation in which opposing forces balance each other. Equilibrium in a market occurs when the price balances the plans of buyers and sellers. Equilibrium refers to a situation in which the price has reached the level where quantity supplied equals quantity demanded.

48. © 2010 Pearson Addison-Wesley Market Equilibrium equilibrium price The price at which the quantity demanded equals the quantity supplied. On a graph, it is the price at which the supply and demand curves intersect. equilibrium quantity the quantity bought and sold at the equilibrium price. On a graph it is the quantity at which the supply and demand curves intersect.

49. © 2010 Pearson Addison-Wesley At $2.00, the quantity demanded is equal to the quantity supplied! Market Equilibrium Demand ScheduleSupply Schedule

50. © 2010 Pearson Addison-Wesley Figure 8 The Equilibrium of Supply and Demand Copyright©2003 Southwestern/Thomson Learning Price of Ice-Cream Cone 0123456789101112 Quantity of Ice-Cream Cones 13 Equilibrium quantity Equilibrium price Equilibrium Supply Demand $2.00

51. © 2010 Pearson Addison-Wesley Figure 9 Markets Not in Equilibrium Copyright©2003 Southwestern/Thomson Learning Price of Ice-Cream Cone 0 Supply Demand (a) Excess Supply Quantity demanded Quantity supplied Surplus Quantity of Ice-Cream Cones 4 $2.50 10 2.00 7

52. © 2010 Pearson Addison-Wesley Market Equilibrium Surplus When price > equilibrium price, then quantity supplied > quantity demanded. There is excess supply or a surplus. Suppliers will lower the price to increase sales, thereby moving toward equilibrium.

53. © 2010 Pearson Addison-Wesley Market Equilibrium Shortage When price the quantity supplied. There is excess demand or a shortage. Suppliers will raise the price due to too many buyers chasing too few goods, thereby moving toward equilibrium.

54. © 2010 Pearson Addison-Wesley Figure 9 Markets Not in Equilibrium Copyright©2003 Southwestern/Thomson Learning Price of Ice-Cream Cone 0 Quantity of Ice-Cream Cones Supply Demand (b) Excess Demand Quantity supplied Quantity demanded 1.50 10 $2.00 7 4 Shortage

55. © 2010 Pearson Addison-Wesley Market Equilibrium Law of supply and demand The claim that the price of any good adjusts to bring the quantity supplied and the quantity demanded for that good into balance.

56. © 2010 Pearson Addison-Wesley Three Steps to Analyzing Changes in Equilibrium Decide whether the event shifts the supply or demand curve (or both). Decide whether the curve(s) shift(s) to the left or to the right. Use the supply-and-demand diagram to see how the shift affects equilibrium price and quantity.

57. © 2010 Pearson Addison-Wesley Figure 10 How an Increase in Demand Affects the Equilibrium Copyright©2003 Southwestern/Thomson Learning Price of Ice-Cream Cone 0 Quantity of Ice-Cream Cones Supply Initial equilibrium D D 3....and a higher quantity sold. 2.... resulting in a higher price... 1. Hot weather increases the demand for ice cream... 2.00 7 New equilibrium $2.50 10

58. © 2010 Pearson Addison-Wesley Three Steps to Analyzing Changes in Equilibrium Shifts in Curves versus Movements along Curves A shift in the supply curve is called a change in supply. A movement along a fixed supply curve is called a change in quantity supplied. A shift in the demand curve is called a change in demand. A movement along a fixed demand curve is called a change in quantity demanded.

59. © 2010 Pearson Addison-Wesley Figure 11 How a Decrease in Supply Affects the Equilibrium Copyright©2003 Southwestern/Thomson Learning Price of Ice-Cream Cone 0 Quantity of Ice-Cream Cones Demand New equilibrium Initial equilibrium S1S1 S2S2 2.... resulting in a higher price of ice cream... 1. An increase in the price of sugar reduces the supply of ice cream... 3....and a lower quantity sold. 2.00 7 $2.50 4

60. © 2010 Pearson Addison-Wesley Predicting Changes in Price and Quantity An Increase in Supply Figure 3.9 shows that when supply increases the supply curve shifts rightward. At the original price, there is now a surplus. The price falls, and the quantity demanded increases along the demand curve.

61. © 2010 Pearson Addison-Wesley All Possible Changes in Demand and Supply A change demand or supply or both demand and supply changes the equilibrium price and the equilibrium quantity. Predicting Changes in Price and Quantity

62. © 2010 Pearson Addison-Wesley Change in Demand with No Change in Supply When demand increases, equilibrium price rises and the equilibrium quantity increases. Predicting Changes in Price and Quantity

63. © 2010 Pearson Addison-Wesley Change in Demand with No Change in Supply When demand decreases, the equilibrium price falls and the equilibrium quantity decreases. Predicting Changes in Price and Quantity

64. © 2010 Pearson Addison-Wesley Change in Supply with No Change in Demand When supply increases, the equilibrium price falls and the equilibrium quantity increases. Predicting Changes in Price and Quantity

65. © 2010 Pearson Addison-Wesley Change in Supply with No Change in Demand When supply decreases, the equilibrium price rises and the equilibrium quantity decreases. Predicting Changes in Price and Quantity

66. © 2010 Pearson Addison-Wesley Increase in Both Demand and Supply An increase in demand and an increase in supply increase the equilibrium quantity. The change in equilibrium price is uncertain because the increase in demand raises the equilibrium price and the increase in supply lowers it. Predicting Changes in Price and Quantity

67. © 2010 Pearson Addison-Wesley Decrease in Both Demand and Supply A decrease in both demand and supply decreases the equilibrium quantity. The change in equilibrium price is uncertain because the decrease in demand lowers the equilibrium price and the decrease in supply raises it. Predicting Changes in Price and Quantity

68. © 2010 Pearson Addison-Wesley Decrease in Demand and Increase in Supply A decrease in demand and an increase in supply lowers the equilibrium price. The change in equilibrium quantity is uncertain because the decrease in demand decreases the equilibrium quantity and the increase in supply increases it. Predicting Changes in Price and Quantity

69. © 2010 Pearson Addison-Wesley Increase in Demand and Decrease in Supply An increase in demand and a decrease in supply raises the equilibrium price. The change in equilibrium quantity is uncertain because the increase in demand increases the equilibrium quantity and the decrease in supply decreases it. Predicting Changes in Price and Quantity

70. © 2010 Pearson Addison-Wesley What Happens to Price and Quantity When Supply or Demand Shifts? Copyright©2004 South-Western

71. © 2010 Pearson Addison-Wesley Summary Economists use the model of supply and demand to analyze competitive markets. In a competitive market, there are many buyers and sellers, each of whom has little or no influence on the market price.

72. © 2010 Pearson Addison-Wesley Summary The demand curve shows how the quantity of a good depends upon the price. According to the law of demand, as the price of a good falls, the quantity demanded rises. Therefore, the demand curve slopes downward. In addition to price, other determinants of how much consumers want to buy include income, the prices of complements and substitutes, preferences, expected future income and credit, and the number of buyers. If one of these factors changes, the demand curve shifts.

73. © 2010 Pearson Addison-Wesley Summary The supply curve shows how the quantity of a good supplied depends upon the price. According to the law of supply, as the price of a good rises, the quantity supplied rises. Therefore, the supply curve slopes upward. In addition to price, other determinants of how much producers want to sell include input prices, prices of substitutes and complements, technology, expected future prices, the number of sellers and the state of nature. If one of these factors changes, the supply curve shifts.

74. © 2010 Pearson Addison-Wesley Summary Market equilibrium is determined by the intersection of the supply and demand curves. At the equilibrium price, the quantity demanded equals the quantity supplied. The behavior of buyers and sellers naturally drives markets toward their equilibrium.

75. © 2010 Pearson Addison-Wesley Summary To analyze how any event influences a market, we use the supply-and-demand diagram to examine how the even affects the equilibrium price and quantity. In market economies, prices are the signals that guide economic decisions and thereby allocate resources.