1. Chapter 6 – Price
Cutler – Economics

2. BELLRINGER
What would happen if the government decided gas prices should be lowered by $2.50 per gallon?

3. Section 1 – Combining Supply and Demand
Balancing the Market
Defining Equilibrium
Graphing Equilibrium
Disequilibrium
Excess Demand
Excess Supply
Government Intervention
Price Ceilings
The Cost of Price Ceilings
Ending Rent Control
Price Floors
Minimum Wage
Price Supports in Agriculture

4. Balancing the Market Market System
Consumers can buy productions they want
Sellers make enough profit to stay in business
Sellers respond to changing needs of consumers
Turning competing interests into a positive outcome for both sides

5. Balancing the Market Buyers and sellers come together in the market
Combining Supply and Demand
Review Demand Schedule
Price of goods compared to how much is produced
Review Supply Schedule
Price of goods compared to how much is consumed

6. Demand and Supply Schedule
Combined Supply and Demand Schedule
Price of a slice of pizza
Quantity demanded
Quantity supplied
Result
$ .50
300
100
$1.00
250
150
$1.50
200
200
$2.00
150
250
$2.50
100
300
$3.00 50
350

7. Defining Equilibrium
Equilibrium: The point at which quantity demanded and quantity supplied are equal
Balance between price and quantity
Market is then stable
The amount produced will equal the amount consumed

8. Price of a slice of pizza Combined Supply and Demand Schedule
Graphing Equilibrium
Price per slice
Equilibrium Point
Finding Equilibrium
Price of a slice of pizza
Quantity demanded
Quantity supplied
Result
Combined Supply and Demand Schedule
$ .50
300
100
$3.50
$3.00
$2.50
$2.00
$1.50
$1.00
$.50
Slices of pizza per day 50
150
200
250
350
Supply
Demand
$2.00
$2.50
$3.00
150
100 50
250
300
350
Surplus from excess supply
$1.00
250
150
Shortage from excess demand
$1.50
200
Equilibrium
Equilibrium Price a
Equilibrium Quantity

9. Disequilibrium
Disequilibrium: a point when quantity supplied does not equal quantity demanded
Creates excess demand or excess supply

10. Excess Demand Price $0.50 $1.00 $1.50 $2.00 $2.50 $3.00 50 100 150 200
250
300
350
Slices of Pizza

11. Excess Demand At $1.00 per slice Creates a Shortage QD = 250 Slices
QS = 150 Slices
Creates a Shortage

12. Excess Supply Price $0.50 $1.00 $1.50 $2.00 $2.50 $3.00 50 100 150 200
250
300
350
Slices of Pizza

13. Excess Supply At $2.50 per slice Creates a Surplus QD = 100 Slices
QS = 300 Slices
Creates a Surplus

14. Combined Supply and Demand Schedule Price of a slice of pizza
Analyze the Data
Combined Supply and Demand Schedule
Price of a slice of pizza
Quantity demanded
Quantity supplied
Result
$ .50
300
100
Shortage Occurs because QD > QS
$1.00
250
150
$1.50
200
200
Equilibrium QD = QS
$2.00
150
250
Surplus Occurs because QD < QS
$2.50
100
300
$3.00 50
350

15. BELLRINGER
Can you think of any products you buy that have recently changed in price?

16. Government Intervention
Markets tend to reach equilibrium
Price Ceiling: a maximum price that can be legally charged for a good or service
Price Floor: a minimum price for a good or service

17. Price Ceilings Rent Control
Housing is essential but wages might not keep up with the supply and demand of houses
Reduces the quantity and quality of housing

18. Cost of Price Ceilings
When price cannot rise to equilibrium, market determines who receives good or service
By setting price below equilibrium, profits are reduced
Cost cutting occurs
Poor quality homes/apartments

19. Ending Rent Control Landlords gain an incentive to maintain buildings
What affect does it have on the number of apartments?
Rent Graph

20. Price Floors
Minimum price set by the government to be paid for a good or service
Minimum Wage
Base level pay for work

21. Price Floors
Minimum wage above equilibrium rate decreases employment

22. Price Floor
Price
$4.50
$5.15 2 4 6
Labor

23. Price Supports in Agriculture
Price floors are used for many farm products
Government would buy excess crops when price fell below floor

24. Section 2 – Changes in Market Equilibrium
Changes in Price
Understanding a Shift in Supply
Finding a New Equilibrium
Changing Equilibrium
A Fall in Supply
Shifts in Demand
Problem of Excess Demand
Return to Equilibrium
A Fall in Demand

25. Changes in Price Excess supply will cause firms to cut prices
Falling prices cause QD to rise
QS will fall until they meet again
These are changes ALONG the supply or demand curve… not shifts

26. Changes in Price What shifts the supply curve?
Technology Change
New taxes/Subsidies by GOVT
Input costs change
Because they want to be at equilibrium, curve shifts will create a new equilibrium price and quantity

27. Understanding a Shift in Supply
Falling prices affect on supply
CD players were expensive initially
Now less than $100 and compete with MP3 or digital music
Fall in production costs shifts supply curve to the right

28. Shifts in Supply Graph A: A Change in Supply $800 $600 $400 $200 Price
Price
Output (in millions)
Graph A: A Change in Supply 1 2 3 4 5
Original supply
Demand a
New supply b c

29. Shift in Supply As we saw…
The shift in the supply curve created a surplus.
The price level didn’t change so now suppliers are offering more but demand hasn’t caught up!

30. Finding a New Equilibrium
Excess supply or a surplus will cause producers to lower prices to eliminate the surplus
Did the price drop change the demand curve?

31. New Equilibrium Graph A: A Change in Supply $800 $600 $400 $200 Price
Price
Output (in millions)
Graph A: A Change in Supply 1 2 3 4 5
Original supply
Demand a
New supply b c

32. Change in Equilibrium
Curve will keep shifting while new technology is introduced to lower production costs
Equilibrium changes constantly
Changes in the market
Consumer wants and needs
Production costs

33. Fall in Supply
Supply curve can shift to the left with a drop in supply
A strike that results in higher wages
A tax by the government

34. Shifts in Demand New fads for Christmas New version of a product
iPhone 5

35. Shifts in Demand
Graph B: A Change in Demand
Output (in thousands)
$60
$50
$40
$30
$20
$10
900
800
700
600
500
400
300
200
100
Price
New demand c b
Supply
Original demand a
Graph B shows how the market finds a new equilibrium when there is an increase in demand.

36. Problem of Excess Demand
Shifting the demand curve to the right creates shortages

37. Shifts in Demand Graph B: A Change in Demand New demand c b Supply
Original demand a
$60
$50
$40
$30
$20
$10
Price
100
200
300
400
500
600
700
800
900
Output (in thousands)

38. Return to Equilibrium
Prices will rise by produces as a result of this change in demand
Fall in demand has the opposite effect

39. BELLRINGER
What is the “Black Market?”

40. Section 3 – The Role of Prices
Prices in the Free Market
The Advantages of Prices
Price as an Incentive
Price as Signals
Flexibility
Price System is “Free”
A Wide Choices of Goods
Rationing Shortages
The Black Market
Efficient Resource Allocation
Prices and the Profit Incentive
The Wealth of Nations
Market Problems

41. Prices in Free Market
Prices serve a major role in the free market economy
Helps move the FOP

42. Advantages of Price Very Universal Price acts as an incentive
Act as a standard measure of value
Barter system as alternative
Price acts as an incentive
Think of the Law of Demand and Law of Supply

43. Advantages of Prices Prices as Signals – Producers
Higher prices signal to producers to make more
Also signals new suppliers to enter market
Lower prices signal too much is produced
Signals suppliers to leave the market

44. Advantages of Prices Prices as Signals – Consumers
Low prices signal to buy more
Low prices = low opportunity cost
High price to stop and think about a purchase

45. Advantages of Prices Flexibility
Prices can easily be increased to solve shortages (excess demand)
Prices can easily be decreased to solve surpluses (excess supply)

46. Advantages of Prices Supply Shock: a sudden shortage of a good
Creates excess demand
Gasoline for example
Rationing
Allocating scare goods and services using criteria other than price
How easy is it to increase supply?

47. Supply Shock and Rationing
Price
$2.50
$5.15 2 4 6
Gallons

48. Price Shock and Rationing
Raising prices quickest way to solve shortage
People with higher demand will still consume
Creating new equilibrium

49. Advantages of Price Price System is “Free”
No cost to administer price
Unlike central planning
Soviet Union employed thousands of people to organize the economy
A farmer can decide what to plan based on what he thinks will be most profitable
Prices help goods flow through the economy

50. Wide Choice of Goods
Market Based Economy offers diverse goods and services
Prices allow a “target” consumer base
Bentley
Fewer choices in Centrally Planned
Reduce costs to meet quotas

51. Rationing and Shortages
Despite being inexpensive, products were often hard to purchase in Soviet Union
Rationing creates shortages

52. Rationing in the US During WWII Rationing existed
GOVT Intent was to ensure everyone had a level standard of living during wartime
You needed ration points and money to purchase products
Guns or Butter
Resources were allocated to guns
Leaving few for butter

53. The Black Market
Black Market: A market in which goods are sold illegally
Allows consumers to buy rationed products buy paying more money

54. Efficient Resource Allocation
Free market ensures resources are allocated efficiently
FOP used for most valuable purpose
Resources adjust to change in demands of consumers
Resources go to the consumer who values a good or service the most

55. Price and Profit Incentive
What happens with a hot summer and the demand for air conditioners and fans?
How would producers respond to this demand?

56. Price and Profit Incentive
$100.00
$250.00
500
1000
1500
Air Conditioners

57. Wealth of Nations Adam Smith – 1776
Not because of charity that a baker or butcher provide people food
A profit is made by providing food
Business prospers by finding out what people want
Other systems haven’t worked…

58. Market Problems Imperfect Competition Spillover Costs (externalities)
Not enough suppliers reduces competition
Why lower price to have MR = MC
Spillover Costs (externalities)
Costs of production that affect people who have no control over how much of a good is produced
Pollution
Imperfect Information
Consumers who lack knowledge of alternatives