CHAPTER 3 Supply and Demand

Competitive market – Example: ticket scalpers and their customers. Supply and Demand Competitive market – Example: ticket scalpers and their customers. A market in which there are many buyers and sellers of the same good or service. No individual’s action have a noticeable effect on the price at which the good or service is sold. The behavior of a competitive market is well described by a model known as the supply and demand model.

Supply and Demand The supply and demand model - 5 key elements: The demand curve The supply curve Factors that cause the demand curve to shift, and factors that cause the supply curve to shift The equilibrium price How the equilibrium price changes when the supply and demand curves shift

The Demand Schedule and the Demand Curve Demand schedule – shows how much of a good or service consumers will want to buy at different prices Demand curve – a graphical representation of the demand schedule The law of demand – a higher price for a good, other things equal, leads people to demand a smaller quantity of the good.

An Increase in Demand Announcement of Gretzky’s retirement generates an increase in demand – a rise in the quantity demanded at any given price – the demand curve shifts to the right

Movement Along the Demand Curve vs. Shift of the Demand Curve A movement along the demand curve is the change in the quantity demanded for a good as a result of a change in that good’s price.

Shifts of the Demand Curve

What causes a demand curve to shift? Changes in the Prices of Related Goods Changes in Income Changes in Tastes Changes in Expectations

What causes a demand curve to shift? Changes in the Prices of Related Goods Substitutes – a fall in the price of one good leads to a fall in demand for the other good (music concert & hockey games) Complements – a fall in the price of one good leads to an increase in demand for the other good (parking & sports tickets)

What causes a demand curve to shift? Changes in the Prices of Related Goods Substitutes – a fall in the price of one good leads to a fall in demand for the other good (music concert & hockey games) Complements – a fall in the price of one good leads to an increase in demand for the other good (parking & sports tickets) Changes in Income Normal Goods – demand for a good increases when consumer income rises Inferior Goods – demand for a good decreases when income rises. Example: public transportation.

What causes a demand curve to shift? Changes in the Prices of Related Goods Substitutes – a fall in the price of one good leads to a fall in demand for the other good (music concert & hockey games) Complements – a fall in the price of one good leads to an increase in demand for the other good (parking & sports tickets) Changes in Income Normal Goods – demand for a good increases when consumer income rises Inferior Goods – demand for a good decreases when income rises. Example: public transportation Changes in Tastes When tastes change in favor of (against a) good, more (fewer) people want to buy it at any given price, the demand curve shifts to the right (left).

What causes a demand curve to shift? Changes in the Prices of Related Goods Substitutes – a fall in the price of one good leads to a fall in demand for the other good (music concert & hockey games) Complements – a fall in the price of one good leads to an increase in demand for the other good (parking & sports tickets) Changes in Income Normal Goods – demand for a good increases when consumer income rises Inferior Goods – demand for a good decreases when income rises Changes in Tastes When tastes change in favor of (against a) good, more (fewer) people want to buy it at any given price, the demand curve shifts to the right (left). Changes in Expectations – expectations of a future rise (decline) in price leads to an increase (decrease) in demand today

The Supply Curve Supply schedule – shows how much of a good or service would be supplied at different prices Supply curve – a graphical representation of the supply schedule. The higher the price being offered, the more hockey tickets people will be willing to part with – the more of any good they will be willing to sell .

Shifts of the supply curve: a decrease in supply Announcement of Gretzky’s retirement generates a decrease in supply – a decrease in the quantity supplied at any given price. The supply curve shifts to the left. Why? Because ticket holders expect the price of tickets to increase and as a result they would rather wait to sell their tickets to scalpers.

Movement Along the Supply Curve vs. Shift of the Supply Curve A movement along the supply curve is the change in the quantity supplied of a good as a result of a change in that good’s price.

Shifts of the Supply Curve

What causes a supply curve to shift? Changes in Input Prices Changes in Technology Changes in Expectations

What causes a supply curve to shift? Changes in Input Prices An input is a good that is used to produce another good. A fall in input prices leads to a shift to the right of the supply curve.

What causes a supply curve to shift? Changes in Input Prices An input is a good that is used to produce another good. A fall in input prices leads to a shift to the right of the supply curve. Changes in Technology – better technology leads to a shift to the right of the supply curve.

What causes a supply curve to shift? Changes in Input Prices An input is a good that is used to produce another good. A fall in input prices leads to a shift to the right of the supply curve. Changes in Technology – better technology leads to a shift to the right of the supply curve. Changes in Expectations – an expectation that the price of a good will increase in the future causes supply to decrease (shift to the left) today. An expectation that the price of a good will decrease in the future causes supply to increase (shift to the right) today.

Market Equilibrium A competitive market is in equilibrium when the price has moved to a level at which the quantity demanded equals the quantity supplied for a particular good.

Price Above Its Equilibrium Level Creates a Surplus A price above its equilibrium creates a surplus. A Surplus will lead to a fall in the market price towards the equilibrium market price. Why? Because producers will have an incentive to lower prices to be able to sell their supply, and buyers will offer lower prices for the products.

Price Below Its Equilibrium Level Creates a Shortage A price below its equilibrium creates a shortage. A Shortage will lead to a rise in the market price towards the equilibrium market price. Because producers will have an incentive to increase prices due to the large demand for their goods, and buyers will higher prices for the products they want to consume.

Equilibrium and Shifts of the Demand Curve An increase in the price of tea leads to an increase in the demand for coffee (substitute goods). A new equilibrium level of price and quantity is reached. When demand for a good increases, the equilibrium price and the equilibrium quantity of the good both rise.

Equilibrium and Shifts of the Supply Curve After a technological change increases the supply of silicon chips, the supply curve shifts to the right. A new equilibrium level of price and quantity is reached. When supply of good falls, the equilibrium price increases and the equilibrium quantity of the good fall.

Simultaneous Shifts of the Demand and Supply Curves When demand and supply change in the same direction (for example both increase), there is a predictable change in quantity (quantity increases) but the change in price is ambiguous and depends on how much each curve shifts relative to the other one. When demand and supply change in the opposite direction (for example supply increases and demand falls), there is a predictable change in price (in this case price falls) and the change in quantity is ambiguous and depends on how much each curve shifts relative to the other one.

Simultaneous Shifts of the Demand and Supply Curves When demand increases and supply decreases, the price rises but the change in the quantity is ambiguous. (not shown) When demand decreases and supply increases, the price falls but the change in quantity is ambiguous.

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