How are Market Outcomes (price and quantity) Determined? The components of the supply and demand model: 1.Supply (description of seller behavior) 2.Demand (description of buyer behavior) 3.Resolution Rule (how are seller and buyer plans resolved) The Supply and Demand Model

Demand Demand refers to the relationship between the amount of the commodity the buyer would like to purchase (the quantity demanded) and the price of the commodity. The quantity demanded is measured in terms of units of the commodity per unit of time (e.g., 3 units per week) and price is measured in terms of units of money per unit of commodity (e.g., $2/unit).

The Law of Demand All else equal, the quantity demanded varies inversely with the price. Why? Substitution and income effects Exceptions? (Giffen goods, “status symbols”)

The Demand Curve The demand curve is the graphical representation of demand. According to the law of demand, the demand curve is downward sloping.

Change in Quantity Demanded vs. Change in Demand When the price of the commodity changes, all else equal, buyers want to change the amount of the commodity they want to purchase: The quantity demanded changes; there is a movement along the demand curve. (Demand has not changed.) When the amount that buyers want to buy at a given price changes, then the demand curve changes (shifts) and there is a change in demand.

Sources of Changes in Demand (for household goods and services) Changes in income (normal vs. inferior goods) Changes in prices of other goods (substitutes vs. complements) Changes in tastes and preferences Changes in expected future price Changes in population

Supply Supply refers to the relationship between the amount of the commodity the seller would like to sell (the quantity supplied) and the price of the commodity. The quantity supplied is measured in terms of units of the commodity per unit of time (e.g., 3 units per week) and price is measured in terms of units of money per unit of commodity (e.g., $2/unit).

The Law of Supply All else equal, the quantity supplied varies directly with the price.

The Supply Curve The supply curve is the graphical representation of supply. According to the law of supply, the supply curve is upward sloping.

Change in Quantity Supplied vs. Change in Suppy When the price of the commodity changes, all else equal, sellers want to change the amount of the commodity they want to sell: The quantity supplied changes; there is a movement along the supply curve. (Supply has not changed.) When the amount that sellers want to sell at a given price changes, then the supply curve changes (shifts) and there is a change in supply.

Sources of Changes in Supply (for goods and services) changes in input prices changes in technology changes in number of sellers

Closing the Model: Equilibrium The law of supply and demand – In the absence of external barriers on price movements, price will fall in response to “excess supply” and rise in response to “excess demand”, settling at the equilibrium price where quantity demanded equal quantity supplied