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Supply and Demand:An Introduction
Supply and Demand:An Introduction
Principles of Macroeconomics
Dr. Gabriel X. Martinez
Ave Maria University
Chapter 3 - Supply and Demand: Chapter 3 - Supply and Demand: An IntroductionAn Introduction
22Copyright c 2004 by The McGraw-HillCompanies, Inc. All rights reserved.
Supply and Demand: Supply and Demand: An IntroductionAn Introduction
How do consumers get the goods and How do consumers get the goods and services they want in the right quantities and services they want in the right quantities and qualities?qualities?– Some goods and services are allocated by the Some goods and services are allocated by the
market forces of supply and demand.market forces of supply and demand.
Economic forces are necessary reactions to Economic forces are necessary reactions to scarcity and opportunity costs.scarcity and opportunity costs.Market forces are economic forces acting Market forces are economic forces acting through the market.through the market.
Chapter 3 - Supply and Demand: Chapter 3 - Supply and Demand: An IntroductionAn Introduction
88Copyright c 2004 by The McGraw-HillCompanies, Inc. All rights reserved.
Buyers and Sellers in Buyers and Sellers in MarketsMarkets
A MarketA Market– Consists of all buyers and sellers of a good or Consists of all buyers and sellers of a good or
serviceservice
What do you think?What do you think?– What determines the price of pizza, gasoline, a What determines the price of pizza, gasoline, a
car wash, or other goods and services?car wash, or other goods and services?
Chapter 3 - Supply and Demand: Chapter 3 - Supply and Demand: An IntroductionAn Introduction
99Copyright c 2004 by The McGraw-HillCompanies, Inc. All rights reserved.
Buyers and Sellers in the Buyers and Sellers in the MarketMarket
The Price of a good is determined byThe Price of a good is determined by– the the interactioninteraction between between– the the valuevalue that consumers give to the good that consumers give to the good– and the and the costcost of producing it. of producing it.
– ValueValue is studied with the demand curve. is studied with the demand curve.– CostCost is studied with the supply curve is studied with the supply curve– Market EquilibriumMarket Equilibrium happens when value equals happens when value equals
cost.cost.
Chapter 3 - Supply and Demand: Chapter 3 - Supply and Demand: An IntroductionAn Introduction
1010Copyright c 2004 by The McGraw-HillCompanies, Inc. All rights reserved.
Buyers and Sellers in Buyers and Sellers in MarketsMarkets
The Demand CurveThe Demand Curve– A schedule or graph that tells us the A schedule or graph that tells us the quantityquantity of of
a good that buyers wish to buy at each a good that buyers wish to buy at each priceprice..
Demand reflects people’sDemand reflects people’swillingness to paywillingness to pay
a given pricea given pricefor a given quantityfor a given quantity
of a good or service.of a good or service.
Chapter 3 - Supply and Demand: Chapter 3 - Supply and Demand: An IntroductionAn Introduction
1111Copyright c 2004 by The McGraw-HillCompanies, Inc. All rights reserved.
Buyers and Sellers in Buyers and Sellers in MarketsMarkets
A Property of DemandA Property of Demand– As price of a good or service goes downAs price of a good or service goes down
the quantity consumers wish to buy will the quantity consumers wish to buy will increase.increase.
P P ↓↓ Q QDD ↑↑
– Therefore, the demand curve is downward-Therefore, the demand curve is downward-sloping.sloping.
Chapter 3 - Supply and Demand: Chapter 3 - Supply and Demand: An IntroductionAn Introduction
1212Copyright c 2004 by The McGraw-HillCompanies, Inc. All rights reserved.
The Yearly DemandThe Yearly DemandCurve for Cell phones Curve for Cell phones
Price($ per phone)
Quantity(million of phones per year)
4
2
3
8 12 16
Demand
Chapter 3 - Supply and Demand: Chapter 3 - Supply and Demand: An IntroductionAn Introduction
1313Copyright c 2004 by The McGraw-HillCompanies, Inc. All rights reserved.
Buyers and Sellers in Buyers and Sellers in MarketsMarkets
The Supply CurveThe Supply Curve– A curve or schedule showing the quantity of a A curve or schedule showing the quantity of a
good that sellers wish to sell at each price.good that sellers wish to sell at each price.
QuestionQuestion–Will the opportunity cost of producing Will the opportunity cost of producing additional cell phones increase or decrease additional cell phones increase or decrease as you produce more cell phones?as you produce more cell phones?
Chapter 3 - Supply and Demand: Chapter 3 - Supply and Demand: An IntroductionAn Introduction
1414Copyright c 2004 by The McGraw-HillCompanies, Inc. All rights reserved.
Buyers and Sellers in Buyers and Sellers in MarketsMarkets
The Supply CurveThe Supply Curve– Sellers must receive a higher price to produce Sellers must receive a higher price to produce
additional units of a product to cover the higher additional units of a product to cover the higher opportunity costs of each additional unit.opportunity costs of each additional unit.
P P ↓↓ Q QSS ↓↓
Chapter 3 - Supply and Demand: Chapter 3 - Supply and Demand: An IntroductionAn Introduction
1515Copyright c 2004 by The McGraw-HillCompanies, Inc. All rights reserved.
Buyers and Sellers in Buyers and Sellers in MarketsMarkets
Supply reflectsSupply reflectsthe the cost of producingcost of producing
a given quantitya given quantityof a good or service.of a good or service.
Price must be equal to (or higher than)Price must be equal to (or higher than)costcost
for the seller to supply the good or service.for the seller to supply the good or service.
Chapter 3 - Supply and Demand: Chapter 3 - Supply and Demand: An IntroductionAn Introduction
1616Copyright c 2004 by The McGraw-HillCompanies, Inc. All rights reserved.
The Yearly SupplyThe Yearly SupplyCurve of Cell phones Curve of Cell phones
Price($ per phone)
Quantity(million of phones per year)
4
2
3
8 12 16
Supply
Chapter 3 - Supply and Demand: Chapter 3 - Supply and Demand: An IntroductionAn Introduction
1717Copyright c 2004 by The McGraw-HillCompanies, Inc. All rights reserved.
Market EquilibriumMarket Equilibrium
EquilibriumEquilibrium– A system is in equilibrium when there is no A system is in equilibrium when there is no
tendency for it to change.tendency for it to change. The forces in the system are balanced.The forces in the system are balanced.
Market EquilibriumMarket Equilibrium– Occurs in a market when all buyers and sellers Occurs in a market when all buyers and sellers
are satisfied with their respective quantities at are satisfied with their respective quantities at the market price.the market price. The economic forces are balanced.The economic forces are balanced.
Chapter 3 - Supply and Demand: Chapter 3 - Supply and Demand: An IntroductionAn Introduction
1818Copyright c 2004 by The McGraw-HillCompanies, Inc. All rights reserved.
The Equilibrium Price and The Equilibrium Price and Quantity of Cell phones Quantity of Cell phones
Price($ per phone)
Quantity(millions of phones per year)
4
2
3
8 12 16
Supply
Demand
Equilibrium at $3
Quantity Demanded =
Quantity Supplied
Chapter 3 - Supply and Demand: Chapter 3 - Supply and Demand: An IntroductionAn Introduction
1919Copyright c 2004 by The McGraw-HillCompanies, Inc. All rights reserved.
Market EquilibriumMarket Equilibrium
Equilibrium Price and Equilibrium QuantityEquilibrium Price and Equilibrium Quantity– The values of price and quantity for whichThe values of price and quantity for which
quantity supplied quantity supplied and and
quantity demanded quantity demanded
are equalare equal
Chapter 3 - Supply and Demand: Chapter 3 - Supply and Demand: An IntroductionAn Introduction
2020Copyright c 2004 by The McGraw-HillCompanies, Inc. All rights reserved.
What Do You Think?What Do You Think?– Would buyers prefer a lower price than the Would buyers prefer a lower price than the
equilibrium price?equilibrium price?
– Would sellers prefer a higher price than the Would sellers prefer a higher price than the equilibrium price?equilibrium price?
Market EquilibriumMarket Equilibrium
Chapter 3 - Supply and Demand: Chapter 3 - Supply and Demand: An IntroductionAn Introduction
2121Copyright c 2004 by The McGraw-HillCompanies, Inc. All rights reserved.
What Do You Think?What Do You Think?– If prices are lower than the equilibrium price, If prices are lower than the equilibrium price,
there will be excess demand.there will be excess demand.
– If prices are higher than the equilibrium price, If prices are higher than the equilibrium price, there will be excess supply.there will be excess supply.
Market EquilibriumMarket Equilibrium
Chapter 3 - Supply and Demand: Chapter 3 - Supply and Demand: An IntroductionAn Introduction
2222Copyright c 2004 by The McGraw-HillCompanies, Inc. All rights reserved.
Excess Supply Excess Supply
Price($ per phone)
Quantity(millions of phones per year)
4
2
3
8 12 16
Supply
Demand
Excess supply = 8 millionphones per year
Excess supply causes prices to fall
Chapter 3 - Supply and Demand: Chapter 3 - Supply and Demand: An IntroductionAn Introduction
2323Copyright c 2004 by The McGraw-HillCompanies, Inc. All rights reserved.
Excess Demand Excess Demand
Price($ per phone)
Quantity(million phones per year)
4
2
3
6 18
Excess demand = 12 million phones per year
Supply
Demand
Excess demand causes prices to rise
Chapter 3 - Supply and Demand: Chapter 3 - Supply and Demand: An IntroductionAn Introduction
2626Copyright c 2004 by The McGraw-HillCompanies, Inc. All rights reserved.
Market EquilibriumMarket Equilibrium
What Do You Think?What Do You Think?– Is the market equilibrium always an ideal Is the market equilibrium always an ideal
outcome for all market participants?outcome for all market participants?
Chapter 3 - Supply and Demand: Chapter 3 - Supply and Demand: An IntroductionAn Introduction
2727Copyright c 2004 by The McGraw-HillCompanies, Inc. All rights reserved.
Predicting and Explaining Predicting and Explaining Changes in Prices and Changes in Prices and
QuantitiesQuantities
Distinguishing BetweenDistinguishing Between– A A change in the quantity demandedchange in the quantity demanded……
A A movement alongmovement along the demand curve the demand curvethat occurs in response to a change in that occurs in response to a change in priceprice
We often see this when the supply curve shifts and the market We often see this when the supply curve shifts and the market equilibrium changes.equilibrium changes.
Chapter 3 - Supply and Demand: Chapter 3 - Supply and Demand: An IntroductionAn Introduction
2828Copyright c 2004 by The McGraw-HillCompanies, Inc. All rights reserved.
Predicting and Explaining Predicting and Explaining Changes in Prices and Changes in Prices and
QuantitiesQuantities
… … AndAnd
– A A change in demandchange in demand A A shiftshift of the entire demand curve of the entire demand curve
– Caused by anything besides price, for exampleCaused by anything besides price, for example Changes in people’s preferences,Changes in people’s preferences, Changes in incomes or population,Changes in incomes or population, Changes in prices of other goods.Changes in prices of other goods.
Chapter 3 - Supply and Demand: Chapter 3 - Supply and Demand: An IntroductionAn Introduction
2929Copyright c 2004 by The McGraw-HillCompanies, Inc. All rights reserved.
An Increase in Quantity An Increase in Quantity Demanded vs. an Increase in Demanded vs. an Increase in
DemandDemandPrice
($/can)
Quantity(1000s of cans/day)
5
2
3
4
1
4
122
6
0
D
D Increase in quantity
demanded
86
Chapter 3 - Supply and Demand: Chapter 3 - Supply and Demand: An IntroductionAn Introduction
3030Copyright c 2004 by The McGraw-HillCompanies, Inc. All rights reserved.
An Increase in Quantity An Increase in Quantity Demanded vs. an Increase in Demanded vs. an Increase in
DemandDemandPrice
($/can)
Quantity(1000s of cans/day)
5
2
3
1
4
12
6
0
D
D
Increase in demand
D’
D’
14
Chapter 3 - Supply and Demand: Chapter 3 - Supply and Demand: An IntroductionAn Introduction
3131Copyright c 2004 by The McGraw-HillCompanies, Inc. All rights reserved.
Predicting and Explaining Predicting and Explaining Changes in Prices and Changes in Prices and
QuantitiesQuantities
Change in the quantity suppliedChange in the quantity supplied– A movement along the supply curve that occurs A movement along the supply curve that occurs
in response to a change in price.in response to a change in price.
Chapter 3 - Supply and Demand: Chapter 3 - Supply and Demand: An IntroductionAn Introduction
3232Copyright c 2004 by The McGraw-HillCompanies, Inc. All rights reserved.
Predicting and Explaining Predicting and Explaining Changes in Prices and Changes in Prices and
QuantitiesQuantities
Change in supplyChange in supply– A shift of the entire supply curve.A shift of the entire supply curve.
Caused by anything besides price, for exampleCaused by anything besides price, for example– Changes in the cost of labor (wages),Changes in the cost of labor (wages),– Changes in the cost of other factors of production,Changes in the cost of other factors of production,– Changes in the technology of production.Changes in the technology of production.
Chapter 3 - Supply and Demand: Chapter 3 - Supply and Demand: An IntroductionAn Introduction
3333Copyright c 2004 by The McGraw-HillCompanies, Inc. All rights reserved.
An Increase in Quantity An Increase in Quantity Supplied vs. an Increase in Supplied vs. an Increase in
SupplySupplyPrice
($/can)
Quantity(1000s of cans/day)
5
2
3
4
1
4
102
6
0 6 8
S
S
Increase in quantity supplied
Chapter 3 - Supply and Demand: Chapter 3 - Supply and Demand: An IntroductionAn Introduction
3434Copyright c 2004 by The McGraw-HillCompanies, Inc. All rights reserved.
An Increase in Quantity An Increase in Quantity Supplied vs. an Increase in Supplied vs. an Increase in
SupplySupplyPrice
($/can)
Quantity(1000s of cans/day)
5
2
3
4
1
4
102
6 S
0 6 8
S
S’
S’
Increase in supply
Chapter 3 - Supply and Demand: Chapter 3 - Supply and Demand: An IntroductionAn Introduction
3535Copyright c 2004 by The McGraw-HillCompanies, Inc. All rights reserved.
Demand, Supply, and Market Demand, Supply, and Market EquilibriumEquilibrium
Four Rules for Figuring out the Effects of Four Rules for Figuring out the Effects of Shifts of Demand and SupplyShifts of Demand and Supply– If Quantity Rises,If Quantity Rises,
And Prices Rise, Demand has increased.And Prices Rise, Demand has increased.– That is, demand has shifted out.That is, demand has shifted out.
And Prices Fall, Supply has increased.And Prices Fall, Supply has increased.
– If Quantity Falls,If Quantity Falls, And Prices Fall, Demand has shifted in.And Prices Fall, Demand has shifted in.
– That is, demand has decreased.That is, demand has decreased. And Prices Rise, Supply has shifted in.And Prices Rise, Supply has shifted in.
Chapter 3 - Supply and Demand: Chapter 3 - Supply and Demand: An IntroductionAn Introduction
3636Copyright c 2004 by The McGraw-HillCompanies, Inc. All rights reserved.
Price
Quantity
P
P’
Q Q’
S
D’D
An increase in demand will lead to an increase in both the equilibrium price and quantity
Four Rules Governing the Effects Four Rules Governing the Effects of Supply and Demand Shifts: Iof Supply and Demand Shifts: I
Increase in DemandIncrease in DemandD ↑ D ↑ P P ↑↑ Q QDD ↑↑
Movement along Movement along Supply curveSupply curve
P P ↑↑ Q QSS ↑↑
Chapter 3 - Supply and Demand: Chapter 3 - Supply and Demand: An IntroductionAn Introduction
3737Copyright c 2004 by The McGraw-HillCompanies, Inc. All rights reserved.
Price
Quantity
P’
P
Q’ Q
S
DD’
A decrease in demand will lead to a decrease in both the equilibrium price and quantity
Four Rules Governing the Effects Four Rules Governing the Effects of Supply and Demand Shifts: IIof Supply and Demand Shifts: II
Decrease in DemandDecrease in DemandD ↓ D ↓ P P ↓↓ Q QDD ↓↓
Movement along Movement along Supply curveSupply curve
P P ↓↓ Q QSS ↓↓
Chapter 3 - Supply and Demand: Chapter 3 - Supply and Demand: An IntroductionAn Introduction
3838Copyright c 2004 by The McGraw-HillCompanies, Inc. All rights reserved.
P’
P
Q Q’
S’
D
SPrice
Quantity
An increase in supply will lead to a decrease in the equilibrium price and an increase in the equilibrium quantity
Four Rules Governing the Effects Four Rules Governing the Effects of Supply and Demand Shifts: IIIof Supply and Demand Shifts: III
Increase in Increase in SupplySupply
S ↑ S ↑ P P ↓↓ Q QSS ↑↑
Movement Movement along Demand along Demand
curvecurveP P ↓↓ Q QDD ↑↑
Chapter 3 - Supply and Demand: Chapter 3 - Supply and Demand: An IntroductionAn Introduction
3939Copyright c 2004 by The McGraw-HillCompanies, Inc. All rights reserved.
P
P’
Q’ Q
S
D
S’Price
Quantity
An decrease in supply will lead toan increase in the equilibrium price and a decrease in the equilibrium quantity
Four Rules Governing the Effects Four Rules Governing the Effects of Supply and Demand Shifts: IVof Supply and Demand Shifts: IV
Decrease in Decrease in SupplySupply
S ↓ S ↓ P P ↑↑ Q QSS ↓↓
Movement Movement along Demand along Demand
curvecurveP P ↑↑ Q QD D ↓↓
Chapter 3 - Supply and Demand: Chapter 3 - Supply and Demand: An IntroductionAn Introduction
4040Copyright c 2004 by The McGraw-HillCompanies, Inc. All rights reserved.
Reasons for changes in QReasons for changes in Q
Price($/ticket)
1000s of tickets
S
DS
DW
QW QS
PW
PS
High Quantity due to High Demand
Chapter 3 - Supply and Demand: Chapter 3 - Supply and Demand: An IntroductionAn Introduction
4141Copyright c 2004 by The McGraw-HillCompanies, Inc. All rights reserved.
Reasons for changes in QReasons for changes in Q
Price($/bushel)
Millions of bushels
SW
D
QW QS
PW
PS
SS
High Quantity due to High Supply
Chapter 3 - Supply and Demand: Chapter 3 - Supply and Demand: An IntroductionAn Introduction
4242Copyright c 2004 by The McGraw-HillCompanies, Inc. All rights reserved.
The Effects of Simultaneous The Effects of Simultaneous Shifts in Supply and DemandShifts in Supply and Demand
Price($/bag)
Millions of bags per month
P
Q
S
D
P’
Q’
D’
S’S’ after reduction in cost of production
D’ after fall in willingness to buy
Q falls because D shifts more than S.
Chapter 3 - Supply and Demand: Chapter 3 - Supply and Demand: An IntroductionAn Introduction
4343Copyright c 2004 by The McGraw-HillCompanies, Inc. All rights reserved.
The Effects of Simultaneous The Effects of Simultaneous Shifts in Supply and DemandShifts in Supply and Demand
Price($/bag)
Millions of bags per month
P
Q
S
D
P’
Q’
D’
S’
D’ after fall in willingness to buy
S’ after reduction in cost of production
Q rises because D shifts less than S.
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