Introduction to Macroeconomics Chapter 3. Microeconomic Laws of Demand and Supply

Chapter 3. Laws of Demand & Supply 1. Markets and the Role of Prices 2. Microeconomic Demand and Supply Demand Supply 3. Demand - Supply Equilibrium Equilibrium Disequilibrium 4. Shifts in Demand and Supply Curves 5. Case Studies Introduction to Macroeconomics

1. Markets and the Role of Prices Competitive Free Market - many suppliers and many consumers (competitive) engaged in trade without government interference (free). Prices - provide a means of communication between suppliers and consumers regarding scarcity and wants. Introduction to Macroeconomics

2. Micro Demand and Supply Law of Demand Demand curve Ceteris paribus assumption Supply Law of Supply Supply curve Introduction to Macroeconomics

2. Micro Demand and Supply Law of Demand As the price of a product declines relative to the price of all other goods, the quantity demanded will increase, ceteris paribus. The demand curve, a graphic representation of the Law of Demand, slopes downward to the right Introduction to Macroeconomics

2. Micro Demand and Supply Demand Curve As price declines the quantity demanded increases Demand Introduction to Macroeconomics

2. Micro Demand and Supply Demand Curve Ceteris Paribus Assumption All other non-price factors that can affect demand are unchanged: Prices of all other goods Income Tastes Introduction to Macroeconomics

2. Micro Demand and Supply Law of Supply As the price of a product declines relative to the price of all other goods, the quantity supplied will decline, ceteris paribus. The supply curve, a graphic representation of the Law of Supply, slopes upward to the right Introduction to Macroeconomics

2. Micro Demand and Supply Supply Curve As price increases the quantity supplied increases Supply Introduction to Macroeconomics

2. Micro Demand and Supply Supply Curve Ceteris Paribus Assumption All other non-price factors that can affect supply are unchanged: Prices of all inputs labor, raw materials, cost of capital Prices of all other goods Technology Environment (e.g., weather) Introduction to Macroeconomics

3. Demand - Supply Equilibrium Disequilibrium Price floor Price ceiling Introduction to Macroeconomics

3. Demand - Supply Equilibrium Equilibrium Price at which quantity supplied equals the quantity demanded Supply Equilibrium Demand Introduction to Macroeconomics

3. Demand - Supply Equilibrium Disequilibrium Price above the equilibrium level quantity demanded < quantity supplied surplus (inventory build) price floor: price prevented from dropping to equilibrium level Price below the equilibrium level quantity demanded > quantity supplied shortage (inventory declines) price ceiling: price prevented from rising to equilibrium level Introduction to Macroeconomics

3. Demand - Supply Equilibrium Price Floor Examples of price floors: - agricultural subsidies - minimum wage Quantity Demanded < Quantity Supplied = Surplus Introduction to Macroeconomics

3. Demand - Supply Equilibrium Price Ceiling Examples of price ceilings: - Rent controls - in a 1979 survey of economists, 98% agreed that a ceiling on rent reduces the quantity and quality of housing available. - California electricity prices - Black market Quantity Supplied < Quantity Demanded = Shortage Introduction to Macroeconomics

4. Shifts in Demand and Supply Curves Demand Curve Demand vs quantity demanded Demand curve shifters Supply Curve Supply vs quantity supplied Supply curve shifters Change in equilibrium Introduction to Macroeconomics

4. Shifts in Demand and Supply Curves Demand vs Quantity Demanded “Quantity Demanded” refers to a point on the demand curve. A “Change in Quantity Demanded” refers to a movement along a stable demand curve “Demand” refers to the entire curve. A “Change in Demand” refers to a shift in the demand curve. Change in “quantity demanded” results from a change in price arising from either 1. A shift in the supply curve 2. The imposition of a price ceiling or price floor Introduction to Macroeconomics

4. Shifts in Demand and Supply Curves Change in Quantity Demanded A change in price results in a movement along a demand curve As price declines the quantity demanded increases Demand Introduction to Macroeconomics

4. Shifts in Demand and Supply Curves Change in Demand A change in anything except price that affects the quantity demanded results in a shift of the demand curvve Increase in Demand: Demand Curve Shifts Right For a given price there is an increase in demand Introduction to Macroeconomics

4. Shifts in Demand and Supply Curves Demand Curve Shifters A change in any variable listed under the Ceteris Paribus assumptions Introduction to Macroeconomics

Demand curve will shift with change in income 4. Shifts in Demand and Supply Curves Income: Normal and Inferior Goods Demand curve will shift with change in income Normal Good - as income increases, demand for the good also increases (demand curve shifts right) Inferior Good - as income increases, demand for the good decreases (demand curve shifts left) Introduction to Macroeconomics

4. Shifts in Demand and Supply Curves Price of Related Goods Demand curve will shift with change in price of related goods Complements in Demand - demand decreases as price of complement increases big cars and gasoline Substitutes in Demand- demand increases as price of substitute increases butter and margerine Introduction to Macroeconomics

4. Shifts in Demand and Supply Curves Supply vs Quantity Supplied “Quantity Supplied” refers to a point on the supply curve. A “Change in Quantity Supplied” refers to a movement along a stable supply curve. “Supply” refers to the entire curve. A “Change in Supply” refers to a shift in the supply curve. Introduction to Macroeconomics

4. Shifts in Demand and Supply Curves Change in Quantity Supplied A change in price results in a movement along a supply curve As price declines the quantity supplied decreases Supply Introduction to Macroeconomics

4. Shifts in Demand and Supply Curves Change in Supply A change in anything except price that affects the quantity supplied results in a shift of the supply curvve Increase in Supply: Supply Curve Shifts Right For a given price there is an increase in supply Introduction to Macroeconomics

4. Shifts in Demand and Supply Curves Supply Curve Shifters A change in any variable listed under the Ceteris Paribus assumptions Introduction to Macroeconomics

4. Shifts in Demand and Supply Curves Complements and Substitutes in Supply Supply curve will shift with change in price of related goods in the production process Complements in Supply - supply increases as price of the complement increases beef and leather Substitutes in Supply - supply decreases as price of the substitute increases wheat and rye Introduction to Macroeconomics

4. Shifts in Demand and Supply Curves Supply Curve Shift and Equilibrium Shifts Right Demand Decrease in Price Increase in Quantity Refer to lecture notes for table outlining effects of combinations of demand curve shifts and supply curve shifts on equilibrium price and quantity. In there is an increase in both supply and demand, what happens to equilibrium price and quantity? Quantity definitely increases. The change in price is ambiguous - it depends on whether the increase in demand was greater or less than the increase in supply. Introduction to Macroeconomics

Recessions and microeconomic markets Rent control Import quotas 5. Case Studies Recessions and microeconomic markets Rent control Import quotas Introduction to Macroeconomics