Perfectly Competitive Market Chapter 4: The Market Forces of Supply and Demand

Characteristics A perfectly competitive market has the following characteristics: There are many buyers and sellers in the market The goods offered by the various sellers are largely the same. Firms can freely enter or exit the market.

Outcomes As a result of its characteristics, the perfectly competitive market has the following outcomes: No single buyer or seller in the market has a impact on the market price. Each buyer and seller takes the market price as given.

Price Takers A competitive market has many buyers and sellers trading identical products so that each buyer and seller is a price taker. Buyers and sellers must accept the price determined by the market (must take the price given) Most markets fall between perfect competition and monopoly Not all goods are sold in a perfectly competitive market: A market with only one seller is a monopoly A market with only a few sellers is an oligopoly

Demand The relationship between price and quantity demanded: Quantity demanded is the exact amount of a good that buyers are willing and able to purchase at a certain price point. Law of Demand: the claim that, other things being equal, the quantity demanded of a good falls when the price of a good rises

Movement on the Demand Curve The only thing that will cause a movement along the demand curve is A CHANGE IN PRICE This is referred to a change in quantity demanded (movement along the curve) – which is different than a change in demand (total shift in curve)!

Demand v. Quantity Demanded BASIS FOR COMPARISON DEMAND QUANTITY DEMANDED Meaning Demand is defined as the willingness of buyer and his affordability to pay the price for the economic good or service. Quantity Demanded represents exact quantity (how much) of a good or service is demanded by consumers at a particular price. What is it? It lists out quantities that would be purchased at various prices. It is the actual amount of goods desired at a certain price. Change Increase or decrease in demand Expansion or contraction in demand. Reasons Factors other than price Price Measurement of change Shift in demand curve Movement along demand curve Consequences of change in actual price No change in demand. Change in quantity demanded

Price is drawn on the vertical axis, quantity demanded on the horizontal. Demand Curve Demand curve: a graph of the relationship between the price of a good and quantity demanded Demand schedule: a table that shows the relationship between the price of a good and quantity demanded

Shift in Demand Because the market demand curve holds other things constant, it isn’t necessarily stable over time. If any of these factors change, the demand curve will shift: Income Prices of Related Goods Consumer tastes Expectations (future income, future prices) Number of Buyers

Income The relationship between income and quantity demanded depends on the type of good Normal Good An increase in income leads to an increase in demand Inferior Good An increase in income leads to a decrease in demand Giffen Good Defies the law of demand - an increase in price leads to an increase in demand (type of inferior good)

Substitution and Income Effect When the price of a good decreases, it has two effects. 1. the consumer would now purchase more of the good whose price has fallen (the substitution effect) 2. the consumer now has increased real income and increased purchasing power because they are paying less for the good (income effect)

Price of Related Goods Substitutes: two goods for which an increase in the price of one good leads to an increase in the other Complements: two goods for which an increase in the price of one goods leads to a decrease in the demand for the other Examples (not “perfect substitutes” or “perfect complements”!) Substitutes: Coke/Pepsi, tea/coffee, bike/bus Complements: car/gas, printer/ink, peanut butter/jelly