chapter 4 the market forces of supply and demand

1

Chapter 4Chapter 4The Market Forces ofThe Market Forces ofSupply and DemandSupply and Demand

2ObjectivesObjectives

1. Understand the concept of a 1. Understand the concept of a competitivecompetitivemarketmarket..

2. Learn the factors that determine market 2. Learn the factors that determine market demanddemand..

3. Learn the factors that determine market 3. Learn the factors that determine market supplysupply..

4. Understand how and why demand and supply 4. Understand how and why demand and supply forces establish forces establish market prices market prices and and quantitiesquantities..

5. Learn how prices and markets 5. Learn how prices and markets allocateallocate society’s society’s scarce resources.scarce resources.

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Understanding Individual Markets:Understanding Individual Markets:DEMAND AND SUPPLYDEMAND AND SUPPLY

WHY DON'T WE ALL DRIVE WHY DON'T WE ALL DRIVE FERRARIS?FERRARIS?

4 MARKETS DEFINED

5Markets Markets

A A marketmarket is a group of buyers and is a group of buyers and sellers of a particular good or service. sellers of a particular good or service.

The terms supply and demand refer to The terms supply and demand refer to the behavior of people . . . as they the behavior of people . . . as they interact with one another in interact with one another in marketsmarkets. .

6Markets Markets

BuyersBuyers determinedetermine demanddemand..

Sellers determine supply.

7 MARKETS DEFINED

.... FOR PRODUCTS & RESOURCES

COMPETITIONCOMPETITION

8 MARKETS DEFINED

.... FOR PRODUCTS & RESOURCES

PRICESPRICES

COMPETITIONCOMPETITION

9 MARKETS DEFINED

.... FOR PRODUCTS & RESOURCES

.... THE RATIONING FUNCTION

PRICESPRICES

COMPETITIONCOMPETITION

10Competition: Competition:

Perfect and OtherwisePerfect and Otherwise

Is a market structure characterized byIs a market structure characterized by Many buyers and sellers Many buyers and sellers Homogenius productHomogenius product No control over priceNo control over price Very easy enterance and exit from marketVery easy enterance and exit from market

Perfect Competition

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The Quantity demanded is the amount of a good or service that buyers are willing and able to purchase.

Quantity DemandedQuantity Demanded

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The claim that, other things being equal, the quantity demanded of a good or service falls when the price of the good rises.

Law of DemandLaw of Demand

-Ceteris Paribus

13DEMAND & SUPPLYDEMAND & SUPPLY

LAW OF DEMAND

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LAW OF DEMAND

FOR HIGHER PRICES

DEMAND & SUPPLYDEMAND & SUPPLY

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LAW OF DEMAND

FOR HIGHER PRICESLESS QUANTITY IS DEMANDED

DEMAND & SUPPLYDEMAND & SUPPLY

16 DEMAND...

INVERSE PRICE ANDQUANTITY RELATIONSHIP

ILLUSTRATED....

DEMAND...P Qd

$ 1$ 2$ 3$ 4

$ 5 10

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PLOTTHE POINTS

DEMAND...

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25 Movement Along Versus a Movement Along Versus a Shift of the Demand CurveShift of the Demand Curve

If the price of a good changes but If the price of a good changes but everything else remains the same,everything else remains the same,there is a there is a movement alongmovement along the thedemand curve.demand curve.

If the price of a good remains constantIf the price of a good remains constantbut some other influence on buyers’ plans but some other influence on buyers’ plans changes, there is a changes, there is a shiftshift of the demand of the demand curve.curve.

26A Change in Quantity Demanded A Change in Quantity Demanded

Versus a Change in DemandVersus a Change in Demand

A movement along the demand curve A movement along the demand curve shows a shows a change in the quantity demandedchange in the quantity demanded..

27A Change in Quantity Demanded A Change in Quantity Demanded

Versus a Change in DemandVersus a Change in Demand

A movement along the demand curve A movement along the demand curve shows a shows a change in the quantity demandedchange in the quantity demanded..

A shift of the demand curve shows aA shift of the demand curve shows a change in demandchange in demand..

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29Market DemandMarket Demand

Market demandMarket demand refers to the sum of all refers to the sum of all individual demands for a particular individual demands for a particular good or service.good or service.

Graphically, individual demand curves Graphically, individual demand curves are summed are summed horizontallyhorizontally to obtain the to obtain the market demand curve.market demand curve.

30DETERMINANTS OF DEMAND

NON - PRICE

31

TASTES

DETERMINANTS OF DEMAND NON - PRICE

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TASTESNUMBER OF BUYERS

DETERMINANTS OF DEMAND NON - PRICE

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TASTESNUMBER OF BUYERSINCOME

Normal or Inferior Goods

DETERMINANTS OF DEMAND NON - PRICE

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TASTESNUMBER OF BUYERSINCOME

PRICE OF RELATED GOODS

Substitutes or Complements

DETERMINANTS OF DEMAND NON - PRICE

Normal or Inferior Goods

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TASTESNUMBER OF BUYERSINCOME

PRICE OF RELATED GOODS

EXPECTATIONS

DETERMINANTS OF DEMAND NON - PRICE

Substitutes or Complements

Normal or Inferior Goods

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The Quantity supplied is the amount of a good or service that sellers are willing and able to sell.

Quantity SuppliedQuantity Supplied

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Law of supply is the claim that, other things being equal, the quantity supplied of a good or service rises when the price of the good or service rises.

Law of SupplyLaw of Supply

-Ceteris Paribus

38 DEMAND & SUPPLYDEMAND & SUPPLYLAW OF SUPPLY

39 DEMAND & SUPPLYDEMAND & SUPPLYLAW OF SUPPLY

FOR HIGHER PRICES

40 DEMAND & SUPPLYDEMAND & SUPPLYLAW OF SUPPLY

FOR HIGHER PRICES

GREATER QUANTITY IS SUPPLIED

41 DEMAND & SUPPLYDEMAND & SUPPLYLAW OF SUPPLY

FOR HIGHER PRICES

GREATER QUANTITY IS SUPPLIED

SUPPLY IS ALWAYS BASEDSUPPLY IS ALWAYS BASEDUPON A FIRM'S COSTSUPON A FIRM'S COSTS

42Market SupplyMarket Supply

Market supply refers to the sum of all individual supplies for all sellers of a particular good or service.

Graphically, individual supply curves are summed horizontally to obtain the market supply curve.

43 SUPPLY...

DIRECT PRICE ANDQUANTITY RELATIONSHIP

ILLUSTRATED....

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51 DETERMINANTS OF SUPPLYDETERMINANTS OF SUPPLYNON - PRICENON - PRICE

RESOURCE PRICES

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RESOURCE PRICES

TECHNOLOGY

DETERMINANTS OF SUPPLYDETERMINANTS OF SUPPLYNON - PRICENON - PRICE

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RESOURCE PRICES

TECHNOLOGY

TAXES & SUBSIDIES

DETERMINANTS OF SUPPLYDETERMINANTS OF SUPPLYNON - PRICENON - PRICE

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RESOURCE PRICES

TECHNOLOGY

TAXES & SUBSIDIES

PRICES OF RELATED GOODS

DETERMINANTS OF SUPPLYDETERMINANTS OF SUPPLYNON - PRICENON - PRICE

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RESOURCE PRICES

TECHNOLOGY

TAXES & SUBSIDIES

PRICES OF RELATED GOODS

EXPECTATIONS

DETERMINANTS OF SUPPLYDETERMINANTS OF SUPPLYNON - PRICENON - PRICE

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RESOURCE PRICES

TECHNOLOGY

TAXES & SUBSIDIES

PRICES OF RELATED GOODS

EXPECTATIONS

NUMBER OF SELLERS

DETERMINANTS OF SUPPLYDETERMINANTS OF SUPPLYNON - PRICENON - PRICE

SUPPLY...

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Changes in pricebring about a

change inquantityquantitysuppliedsupplied

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Equilibrium is a situation in which supply and demand have been broght into balance.

EquilibriumEquilibrium

Equilibrium PriceEquilibrium Quantity

MARKET CLEARINGMARKET CLEARINGEQUILIBRIUMEQUILIBRIUM

DEMAND & SUPPLYDEMAND & SUPPLYPUTTING THE TWO TOGETHER

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61 DEMAND & SUPPLYDEMAND & SUPPLYSHIFTS VS. MOVEMENTS

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63THE MARKET SYSTEM IS OUR RATIONING

DEVICE AND THE EQUILIBRIUM POINT IS OPTIMAL

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64THE MARKET SYSTEM IS OUR RATIONING

DEVICE AND THE EQUILIBRIUM POINT IS OPTIMAL

DEMAND & SUPPLYDEMAND & SUPPLY

Note:Note:Rationingfunctionof prices.

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65 Supply and Demand TogetherSupply and Demand Together

Equilibrium Price The price that balances supply and demand.

On a graph, it is the price at which the supply and demand curves intersect.

Equilibrium Quantity The quantity that balances supply and

demand. On a graph it is the quantity at which the supply and demand curves intersect.

INTERFERENCE WITH MARKET PRICE LEADS TO PROBLEMS

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67Three Steps To Analyzing Three Steps To Analyzing Changes in EquilibriumChanges in Equilibrium

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

Decide whether the curve(s) shift(s) to the left or to the right.

Examine how the shift affects equilibrium price and quantity.

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How aboutchanges in demand?

DEMAND & SUPPLYDEMAND & SUPPLYPUTTING THE TWO TOGETHER

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How about achange in supply?

DEMAND & SUPPLYDEMAND & SUPPLYPUTTING THE TWO TOGETHER

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How about a change in demand and

a change in supply?

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76 DemandNo Change

Increasein Demand

Decreasein Demand

NoChange

Increasein

Supply

Decreasein

Supply

Price

Quantity

Price

Quantity

Price

Quantity

Price

Quantity

Price

Quantity

Price

Quantity

Price

Quantity

Price

Quantity

?

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77 What are the factors which will What are the factors which will determine whether demand or determine whether demand or supply shift will be dominant?supply shift will be dominant?

Relative magnitude of shiftRelative magnitude of shift– Larger shift larger effectLarger shift larger effect

Shape of opposite curveShape of opposite curve– Relatively flat curveRelatively flat curve

» Large effect on Q - Small effect on PLarge effect on Q - Small effect on P– Relatively steep curveRelatively steep curve

» Large effect on P - Small effect on QLarge effect on P - Small effect on Q

78 ANY QUESTIONS?ANY QUESTIONS?