Ch. 3: Demand and Supply Objectives  Determinants of demand and supply  Use demand and supply to understand how markets determine prices and quantities  Use demand and supply to make predictions about changes in prices and quantities

Markets and Prices Market –any arrangement that enables buyers and sellers to get information and do business with each other. Competitive market –a market that has many buyers and many sellers –no single buyer or seller can influence the price. Money price of a good –the amount of money needed to buy it. Relative price of a good –the ratio of its money price to the money price of the next best alternative good –the opportunity cost of the good expressed in units of the other good.

Demand Quantity demanded of a good or service –the amount that consumers plan to buy during a particular time period at a particular price. The Law of Demand –Other things remaining the same, the higher the price of a good, the smaller is the quantity demanded. –The law of demand results from a substitution effect an income effect

Demand –the entire relationship between the price of the good and quantity demanded of the good. Demand curve –shows the relationship between the QD of a good and its price, ceteris parabus

Demand This figure shows a demand curve for gasoline A rise in the price, ceteris paribus, brings a decrease in the QD and a movement along the demand curve. D Price # gallons per week

Demand A D-curve is also –Willingness-to-pay curve. –Willingness to pay measures marginal benefit. D Price # gallons per week

Demand A Change in Demand  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, QD increases at each and every price the demand curve shifts rightward.  When demand decreases, QD decreases at each and every price the demand curve shifts leftward.

Demand Change in Demand vs. Change in Quantity Demanded

Factors that change demand 1.Prices of related goods  substitute in consumption  complement in consumption 2.Income  Normal good  Inferior good  Luxury good 3.Expected future prices 4.Population 5.Taxes on buyers 6.Consumer preferences

If the price of Coca-Cola increases, the demand for Coca-cola would: 1.Shift right 2.Shift left 3.Not change

If the price of Pepsi increases, the demand curve for Coca-cola will 1.Shift right 2.Shift left 3.Not change

Which of the following would decrease the demand for bread? 1.Higher incomes if bread is an inferior good 2.The expectation that bread prices will fall next week 3.Higher prices for peanut butter. 4.All of the above.

If people receive new information leading them to believe that the price of gasoline will rise sharply next week, the demand for gasoline this week will: 1.Increase and shift right. 2.Decrease and shift left. 3.Not change.

Supply Quantity supplied (QS) of a good or service the amount that producers plan to sell during a given time period at a particular price. The Law of Supply Other things remaining the same, the higher the price of a good, the greater is the quantity supplied.  results from tendency for the marginal cost of producing a good or service to increase as the quantity produced increases (more later)  Producers are willing to supply only if they at least cover their marginal cost of production.

Supply –Supply the entire relationship between the quantity supplied and the price of a good. –Supply curve shows relationship between QS and price of a good, ceteris paribus.

Supply Curve A supply curve for gasoline. A rise in the price, ceteris paribus, brings an increase in QS and a movement along the supply curve. S $ per gallon Gallons per day

Supply –A supply curve is also a minimum- supply-price curve. –The greater the quantity produced, the higher is the price that producers must be offered to be willing to produce that quantity. S Gallons per day

Supply A Change in Supply  occurs when 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, QS increases at each and every price supply curve shifts rightward.  When supply decreases, QS decreases at each and every price supply curve shifts leftward.

Factors that change supply. 1.Prices of inputs 2.Prices of related goods produced  Substitutes in production  Complements in production 3.Expected future prices 4.Number of sellers 5.Taxes on Sellers 6.Technology

Supply Change in supply vs. change in quantity supplied

If off-shore drilling for oil is allowed in the U.S., the supply curve for oil will: 1.Increase and shift right 2.Decrease and shift left 3.Not change.

If oil producers believe that oil prices will rise sharply next, the supply of oil this week will: 1.Increase and shift right 2.Decrease and shift left 3.Not change.

If oil producers believe that oil prices will rise sharply next, the supply of oil this week will: 1.Increase and shift right 2.Decrease and shift left 3.Not change.

If the price of chicken wings increases, the supply of chicken legs will: 1.Increase and shift right 2.Decrease and shift left 3.Not change.

Market Equilibrium Equilibrium  situation in which opposing forces balance each other.  occurs when the price balances the plans of buyers and sellers. Equilibrium price  price at which the quantity demanded equals the quantity supplied. Equilibrium quantity  quantity bought and sold at the equilibrium price.

Market Equilibrium Price Adjustments If P>Pequil: –a surplus forces the price down. If P<Pequil: –a shortage forces the price up. At the equilibrium price, –QS=QD –and the price doesn’t change. S D

A shortage occurs whenever price is _____ the equilibrium price and a surplus occurs whenever price is _____ the equilibrium price. 1.Above; above. 2.Above; below. 3.Below; below. 4.Below; above.

If the price of gasoline is above the equilibrium price, we should find 1.Excess demand and a shortage 2.Excess supply and a shortage 3.Excess demand and a surplus 4.Excess supply and a surplus

Predicting Changes in Price and Quantity Illustrate Effect on Equilibrium Price and Quantity if: a.Demand increases b.Supply increases c.Demand and supply simultaneously increase. Practice with Supply/Demand to: a.Predict effect of “shock” to market. b.Understand the type of “shock” that might have caused an observed change in P & Q.

As the price of gasoline increases, we should expect the demand for hybrid (high gas mileage cars) to _____ and the supply of hybrids to _____. 1.Rise; rise. 2.Rise; not change. 3.Not change; rise. 4.Not change; fall

As the price of gasoline increases, we should expect the equilibrium price of hybrid cars to ____ and the equilibrium quantity of hybrid cars to _____ 1.Rise; rise. 2.Rise; not change. 3.Not change; rise. 4.Not change; fall

Which of the following could explain the simultaneous decrease in the price of i- phones and an increase in the number sold per month? 1.Lower costs of production for the i- phone. 2.Lower monthly service charges for the plan purchased with i- phones. 3.Both of the above.

Price controls 1.A price ceiling is a maximum allowable price. Results in a continuing shortage if ceiling is BELOW equilibrium price. 2.A price floor is a minimum allowable price.  Results in a continuing surplus if floor is ABOVE equilibrium price.

Suppose that the equilibrium price of gasoline is $3.50 per gallon. Which of the following would lead to a shortage of gasoline? 1.A price ceiling at $4 2.A price ceiling at $3 3.A price floor at $3 4.A price floor at $4

Suppose that there is a price floor of $3 per bushel for corn and the current equilibrium price is $3. If there is an increase in demand for corn resulting from increased ethanol production, this will lead to: 1.A shortage 2.A surplus 3.Neither a shortage or surplus, but higher corn prices.

Suppose that there is a price ceiling of $3 per bushel for corn and the current equilibrium price is $3. If there is an increase in fuel prices making it more costly to grow corn, this will lead to: 1.A shortage 2.A surplus 3.Neither a shortage or surplus, but higher corn prices.