how market works (d & s)

8/9/2019 How Market Works (D & S)

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Chapter 4Chapter 4Chapter 4Chapter 4Supply and

Demand I:How Markets

Work

Supply and

Demand I:How Markets

Work

2002 by Nelson, a division of Thomson Canada Limited 2002 by Nelson, a division of Thomson Canada Limited 2002 by Nelson, a division of Thomson Canada Limited 2002 by Nelson, a division of Thomson Canada Limited


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Mankiw et al.: Principles of Microeconomics, 2nd Canadian edition. Chapter 4: Page 2

In this chapter you willIn this chapter you will

Learn the nature of a competitive market.

Examine what determines the demand fora good in a competitive market.

Examine what determines the supply of agood in a competitive market.

See how supply and demand together setthe price of a good and the quantity sold.

Consider the key role of prices inallocating scarce resources.

Learn the nature of a competitive market.

Examine what determines the demand fora good in a competitive market.

Examine what determines the supply of agood in a competitive market.

See how supply and demand together setthe price of a good and the quantity sold.

Consider the key role of prices inallocating scarce resources.


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THE MARKET FORCES OFTHE MARKET FORCES OFSUPPLY AND DEMANDSUPPLY AND DEMAND

SupplySupplyand Demandare the twowords that economists use mostoften.

Supplyand Demandare the forcesthat make market economies work!

Modern microeconomics is about

supply, demand, and marketequilibrium.

SupplySupplyand Demandare the twowords that economists use mostoften.

Supplyand Demandare the forcesthat make market economies work!

Modern microeconomics is about

supply, demand, and marketequilibrium.


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MARKETS AND COMPETITIONMARKETS AND COMPETITION

The terms supplyand demandreferto the behaviour of people. . .

. . .as they interactwith one anotherin markets.

A marketis a group of buyers and sellersof a particular good or service.

Buyers determine demand...

Sellers determine supply

The terms supplyand demandreferto the behaviour of people. . .

. . .as they interactwith one anotherin markets.

A marketis a group of buyers and sellersof a particular good or service.

Buyers determine demand...

Sellers determine supply


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Competitive MarketsCompetitive Markets

A Competitive Marketis a marketwith manybuyers and sellers so thateach has a negligible impact on the

market price.

A Competitive Marketis a marketwith manybuyers and sellers so thateach has a negligible impact on the

market price.


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Competition: Perfect or OtherwiseCompetition: Perfect or Otherwise

Perfectly Competitive:

Homogeneous Products

Buyers and Sellers are Price Takers

Monopoly: One Seller, controls price

Oligopoly:

FewSellers, not aggressive competition

Monopolistic Competition: ManySellers, differentiated products

Perfectly Competitive:

Homogeneous Products

Buyers and Sellers are Price Takers

Monopoly: One Seller, controls price

Oligopoly:

FewSellers, not aggressive competition

Monopolistic Competition: ManySellers, differentiated products


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DEMANDDEMAND

QuantityDemandedrefers to theamount(quantity) of a good thatbuyers are willingto purchase at

alternative prices for a given period.

QuantityDemandedrefers to theamount(quantity) of a good thatbuyers are willingto purchase at

alternative prices for a given period.


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Determinants of DemandDeterminants of Demand

What factors determine how much icecream you will buy?

What factors determine how much you

will really purchase?1) Products Own Price

2) Consumer Income

3) Prices of Related Goods

4) Tastes5) Expectations

6) Number of Consumers

What factors determine how much icecream you will buy?

What factors determine how much you

will really purchase?1) Products Own Price

2) Consumer Income

3) Prices of Related Goods

4) Tastes5) Expectations

6) Number of Consumers


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1) Price1) Price

Law ofDemand

The law of demandstates that,other things equal, the quantitydemanded of a good falls whenthe price of the good rises.

Law ofDemand

The law of demandstates that,other things equal, the quantitydemanded of a good falls whenthe price of the good rises.


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2) Income2) Income

As income increases thedemand for a normal goodwillincrease.

As income increases thedemand for an inferior goodwilldecrease.

As income increases thedemand for a normal goodwillincrease.

As income increases thedemand for an inferior goodwilldecrease.


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3) Prices of Related Goods3) Prices of Related Goods

Prices of Related Goods

When a fall in the price of onegood reduces the demand foranother good, the two goods arecalled substitutes.

When a fall in the price of one

good increases the demand foranother good, the two goods arecalled complements.

Prices of Related Goods

When a fall in the price of onegood reduces the demand foranother good, the two goods arecalled substitutes.

When a fall in the price of one

good increases the demand foranother good, the two goods arecalled complements.


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4) Others4) Others

Tastes

Expectations

Tastes

Expectations


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The Demand Schedule and theThe Demand Schedule and theDemand CurveDemand Curve

The demand schedule is a table thatshows the relationship between theprice of the good and the quantity

demanded. The demand curve is a graph of the

relationship between the price of a

good and the quantity demanded. Ceteris Paribus: Other thing being

equal

The demand schedule is a table thatshows the relationship between theprice of the good and the quantity

demanded. The demand curve is a graph of the


good and the quantity demanded. Ceteris Paribus: Other thing being

equal


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Table 4Table 4--1: Catherines Demand Schedule1: Catherines Demand Schedule

03.00

22.50

42.00

61.50

81.00100.50

120.00

Quantity of conesDemanded

Price of Ice-creamCone ($)


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Figure 4Figure 4--1: Catherines Demand Curve1: Catherines Demand Curve

Price of Ice-

CreamCone

Quantity ofIce-Cream

Cones

2 4 6 8 10 120

$3.00

2.50

2.00

1.50

1.00

0.50


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Market Demand ScheduleMarket Demand Schedule

Market demand is the sum of all individualdemands at each possible price.

Graphically, individual demand curves aresummed horizontally to obtain the marketdemand curve.

Assume the ice cream market has twobuyers as follows

Market demand is the sum of all individualdemands at each possible price.

Graphically, individual demand curves aresummed horizontally to obtain the marketdemand curve.

Assume the ice cream market has twobuyers as follows


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03.00

100.50

120.00

CatherinePrice of Ice-cream

Cone ($)

Table 4Table 4--2: Market demand as the Sum of2: Market demand as the Sum ofIndividual DemandsIndividual Demands

+

1

6

7

Nicholas

1

22.50

42.00

61.50

81.00

2

3

4

5

4

7

10

13

16

19

Market

=


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Price of Ice-CreamCone

Quantity ofIce-Cream

Cones

D3

D1

D2

Decreasein demand

Increasein demand

Figure 4Figure 4--3: Shifts in the Demand Curve3: Shifts in the Demand Curve


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Table 4Table 4--3: The Determinants of Quantity3: The Determinants of QuantityDemandedDemanded


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Shifts in the Demand CurveShifts in the Demand Curve versusversus

Movements Along the Demand CurveMovements Along the Demand Curve


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Price ofCigarettes,

per Pack.

Number of CigarettesSmoked per Day

D2

A policy to discouragesmoking shifts the demandcurve to the left.

0 20

$2.00

D1

A

10

B

Figure 4Figure 4--4 a): A Shifts in the Demand Curve4 a): A Shifts in the Demand Curve


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Price ofCigarettes,

per Pack.

Number of CigarettesSmoked per Day

0 20

$2.00

D1

A

A tax that raises the priceof cigarettes results in amovements along thedemand curve.

C

12

$4.00

Figure 4Figure 4--4 b): A Movement Along the4 b): A Movement Along theDemand CurveDemand Curve


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SUPPLYSUPPLY

QuantitySuppliedrefers to theamount(quantity) of a good thatsellers are willingto make available

for sale at alternative prices for agiven period.

QuantitySuppliedrefers to theamount(quantity) of a good thatsellers are willingto make available

for sale at alternative prices for agiven period.


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Determinants of SupplyDeterminants of Supply

What factors determine how muchice cream you are willing to offer orproduce?

1) Products Own Price

2) Input prices

3) Technology

4) Expectations5) Number of sellers

What factors determine how muchice cream you are willing to offer orproduce?

1) Products Own Price

2) Input prices

3) Technology

4) Expectations5) Number of sellers


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1) Price1) Price

Law ofSupply

The law of supplystates that,other things equal, the quantitysupplied of a good rises when theprice of the good rises.

Law ofSupply

The law of supplystates that,other things equal, the quantitysupplied of a good rises when theprice of the good rises.


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The Supply Schedule and theThe Supply Schedule and theSupply CurveSupply Curve

The supply schedule is a table thatshows the relationship between theprice of the good and the quantity

supplied. The supply curve is a graph of the


good and the quantity supplied. Ceteris Paribus: Other thing being

equal

The supply schedule is a table thatshows the relationship between theprice of the good and the quantity

supplied. The supply curve is a graph of the


good and the quantity supplied. Ceteris Paribus: Other thing being

equal


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Table 4Table 4--4: Bens Supply Schedule4: Bens Supply Schedule

53.00

42.50

32.00

21.50

11.0000.50

00.00

Quantity of conesSupplied

Price of Ice-creamCone ($)


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Price of Ice-

CreamCone

Quantity ofIce-CreamCones

6 8 10 120 2

1.50

1.00

1

2.00

3 4

$3.00

2.50

5

0.50

Figure 4Figure 4--5: Bens Supply Curve5: Bens Supply Curve


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Market Supply ScheduleMarket Supply Schedule

Market supply is the sum of all individualsupplies at each possible price.

Graphically, individual supply curves aresummed horizontally to obtain the marketdemand curve.

Assume the ice cream market has twosuppliers as follows

Market supply is the sum of all individualsupplies at each possible price.

Graphically, individual supply curves aresummed horizontally to obtain the marketdemand curve.

Assume the ice cream market has twosuppliers as follows


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53.00

00.50

00.00

BenPrice of Ice-cream

Cone ($)

Table 4Table 4--5: Market supply as the Sum of5: Market supply as the Sum ofIndividual SuppliesIndividual Supplies

+

8

0

0

Nicholas

13

42.50

32.00

21.50

11.00

6

4

2

0

10

7

4

1

0

0

Market

=


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Price of Ice-CreamCone

Quantity ofIce-CreamCones

S3

S2S1

Decreasein supply

Increasein supply

Figure 4Figure 4--7: Shifts in the Supply Curve7: Shifts in the Supply Curve


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Table 4Table 4--6: The Determinants of Quantity6: The Determinants of QuantitySuppliedSupplied


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SUPPLY AND DEMANDSUPPLY AND DEMANDTOGETHERTOGETHER

Equilibrium refers to a situation in which

the price has reached the level wherequantity supplied equals quantitydemanded.

Equilibrium refers to a situation in which

the price has reached the level wherequantity supplied equals quantitydemanded.


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At $2.00, the quantity demandedis equal to the quantity supplied!

Demand Schedule Supply Schedule

EquilibriumEquilibrium


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Equilibrium price

Demand

Supply

$2.00

6 8 100

Equilibrium

Equilibrium quantity

Quantity of Ice-Cream Cones

Price ofIce-Cream

Cone

421 3 5 7 9 11

Figure 4Figure 4--8: The Equilibrium of Supply and8: The Equilibrium of Supply andDemandDemand


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EquilibriumEquilibrium

Surplus

When price > equilibrium price, then quantitysupplied > quantity demanded.

There is excess supply or a surplus.

Suppliers will lower the price to increase sales,thereby moving toward equilibrium.

Shortage

When price < equilibrium price, then quantity

demanded > the quantity supplied. There is excess demand or a shortage.

Suppliers will raise the price due to too many buyerschasing too few goods, thereby moving towardequilibrium.

Surplus

When price > equilibrium price, then quantitysupplied > quantity demanded.

There is excess supply or a surplus.

Suppliers will lower the price to increase sales,thereby moving toward equilibrium.

Shortage

When price < equilibrium price, then quantity

demanded > the quantity supplied. There is excess demand or a shortage.

Suppliers will raise the price due to too many buyerschasing too few goods, thereby moving towardequilibrium.


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Demand

Supply

$2.00

6 8 100 Quantity of Ice-Cream Cones

Price ofIce-Cream

Cone

421 3 5 7 9 11

$2.50

Surplus

QuantityDemanded

QuantitySupplied

Figure 4Figure 4--9 a): Excess Supply9 a): Excess Supply


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Demand

Supply

$2.00

6 8 100 Quantity of Ice-Cream Cone

Price ofIce-Cream

Cone

421 3 5 7 9 11

$1.50

S

hortage

QuantitySupplied

QuantityDemanded

Figure 4Figure 4--9 b): Excess Demand9 b): Excess Demand


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Three Steps To AnalyzingThree Steps To AnalyzingChanges in EquilibriumChanges in Equilibrium

Decide whether the event shifts thesupply or demand curve (or both).

Decide whether the curve(s) shift(s)

to the left or to the right.

Use the supply-and-demand diagramto see how the shift affects

equilibrium price and quantity. Example: A Heat Wave

Decide whether the event shifts thesupply or demand curve (or both).

Decide whether the curve(s) shift(s)

to the left or to the right.

Use the supply-and-demand diagramto see how the shift affects

equilibrium price and quantity. Example: A Heat Wave


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D1

Supply

$2.00

6 100 Quantity of Ice-Cream Cone

Price of

Ice-CreamCone

421 3 5 7 11

D2

$2.50

1. Hot weather increases thedemand for ice cream

2. resulting ina higherprice

3. and a higher quantitysold.

New equilibrium

Initialequilibrium

Figure 4Figure 4--10: How an Increase Demand10: How an Increase DemandAffects the EquilibriumAffects the Equilibrium


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Demand

S1

$2.00

100 Quantity of Ice-Cream Cones

Price of

Ice-CreamCone

421 3 7 11

S2

$2.50

1. An earthquake reduces thesupply of ice cream

2. resulting ina higherprice

3. and a lower quantitysold.

New equilibrium

Initial equilibrium

Figure 4Figure 4--11: How a Decrease Demand11: How a Decrease DemandAffects the EquilibriumAffects the Equilibrium


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D1

S1

0 Quantity of Ice-Cream Cone

Price ofIce-Cream

Cone

Q1

D2

Large increasein demand

P2

S2

Q2

Newequilibrium

Smalldecrease in

supply

Initial equilibriumP1

Figure 4Figure 4--12 a): A Shift in Both Supply and12 a): A Shift in Both Supply andDemandDemand


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Table 4Table 4--8: What Happens to Price and8: What Happens to Price andQuantity when Supply or Demand ShiftsQuantity when Supply or Demand Shifts


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Concluding RemarksConcluding Remarks

Market economies harness theforces of supply and demand. . .

Supply and Demand together

determine the prices of theeconomys different goods andservices. . .

Prices in turn are the signals thatguide the allocation of resources.

Market economies harness theforces of supply and demand. . .

Supply and Demand together

determine the prices of theeconomys different goods andservices. . .

Prices in turn are the signals thatguide the allocation of resources.


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SummarySummary

Economists use the model of supply anddemand to analyze competitive markets.

In a competitive market, there are many

buyers and sellers, each of whom has littleor no influence on the market price.

Economists use the model of supply anddemand to analyze competitive markets.

In a competitive market, there are many

buyers and sellers, each of whom has littleor no influence on the market price.


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SummarySummary

The supply curve shows how the quantity of agood supplied depends upon the price.

According to the law of supply, as the price ofa good rises, the quantity supplied rises.

Therefore, the supply curve slopes upward. In addition to price, other determinants of how

much producers want to sell include inputprices, technology, expectations, and thenumber of sellers.

If one of these factors changes, the supplycurve shifts.

The supply curve shows how the quantity of agood supplied depends upon the price.

According to the law of supply, as the price ofa good rises, the quantity supplied rises.

Therefore, the supply curve slopes upward. In addition to price, other determinants of how

much producers want to sell include inputprices, technology, expectations, and thenumber of sellers.

If one of these factors changes, the supplycurve shifts.


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SummarySummary

Market equilibrium is determined by theintersection of the supply and demandcurves.

At the equilibrium price, the quantity

demanded equals the quantity supplied. The behavior of buyers and sellers

naturally drives markets toward theirequilibrium.

Market equilibrium is determined by theintersection of the supply and demandcurves.

At the equilibrium price, the quantity

demanded equals the quantity supplied. The behavior of buyers and sellers

naturally drives markets toward theirequilibrium.


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Ch t 4 P 51

The EndThe End

how market works (d & s)

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