Copyright © 2004 South-Western
Mods Mods 5-6-75-6-7The Market Forces of
Supply and Demand
Copyright © 2004 South-Western
Teach a parrot to say “supply and demand” and you have an economist!
• Supply and demand are the two words that economists use most often.
• Supply and demand are the forces that make market economies work.
• Modern microeconomics is about supply, demand, and market equilibrium.
Copyright © 2004 South-Western
• A market is a group of buyers and sellers of a particular good or service.
• The terms supply and demand refer to the behavior of people . . . as they interact with one another in markets.
MARKETS AND COMPETITION
Copyright © 2004 South-Western
MARKETS AND COMPETITION
• Buyers—Consumers—Households—determine demand
• Sellers—Producers—Suppliers—determine supply
Copyright © 2004 South-Western
Competitive Markets
• A competitive market is a market in which there are many buyers and sellers so that each has a negligible impact on the market price.
Copyright © 2004 South-Western
The Law of Clowns
Copyright © 2004 South-Western
DEMAND
• Law of Demand• The law of demand states that, other things equal,
the quantity demanded of a good falls when the price of the good rises.
• Quantity demanded is the amount of a good that buyers are willing and able to purchase.
Copyright © 2004 South-Western
The Demand Schedule
• Demand Schedule • The demand schedule is a table that shows the
relationship between the price of the good and the quantity demanded.
Copyright © 2004 South-Western
Catherine’s Demand Schedule
Copyright © 2004 South-Western
The Demand Curve
• Demand Curve • The demand curve is a graph of the relationship
between the price of a good and the quantity demanded.
Catherine’s Demand Schedule and Demand Curve
Copyright © 2004 South-Western
Price ofIce-Cream Cone
0
2.50
2.00
1.50
1.00
0.50
1 2 3 4 5 6 7 8 9 10 11 Quantity ofIce-Cream Cones
$3.00
12
1. A decrease in price ...
2. ... increases quantity of cones demanded.
Copyright © 2004 South-Western
Individual Demand Market Demand
• Graphically, individual demand curves are summed horizontally to obtain the market demand curve.
• Market demand refers to the sum of all individual demands for a particular good or service.
Copyright © 2004 South-Western
Changes to the Demand Curve
• Change in Quantity Demanded• Movement along the demand curve.• Caused by a change in the price of the product.
Copyright © 2004 South-Western
0
D
Price of Ice-Cream Cones
Quantity of Ice-Cream Cones
A tax that raises the price of ice-cream cones results in a
movement along the demand curve.
A
B
8
1.00
$2.00
4
Changes in Quantity Demanded
Copyright © 2004 South-Western
Changes to the Demand Curve
• Change in Demand• A shift in the demand curve, either to the left or
right.• Caused by any change that alters the quantity
demanded at every price.
Figure 3 Shifts in the Demand Curve
Copyright©2003 Southwestern/Thomson Learning
Price ofIce-Cream
Cone
Quantity ofIce-Cream Cones
Increasein demand
Decreasein demand
Demand curve, D3
Demandcurve, D1
Demandcurve, D2
0
Copyright © 2004 South-Western
Shifts in the Demand Curve—Determinants of Demand
•Tastes
•Related substitutes & Complements
•Income of Buyers
•Buyer #’s
•Expectations
Copyright © 2004 South-Western
Shifts in the Demand Curve—Determinants of Demand
T—Changes in Tastes or Preferences• New information• New fad or trend
•Can shift demand to increase or decrease
Copyright © 2004 South-Western
Shifts in the Demand Curve—Determinants of Demand
R—Prices of Related Goods• When an increase in the price of one good leads to
an increase in the demand for another, the two goods are called substitutes.
• When an increase in the price of one good leads to a decrease in the demand for the other, the two goods are called complements.
Copyright © 2004 South-Western
Shifts in the Demand Curve—Determinants of Demand
I—Changes in Consumer Income• As income increases, the demand for a normal good
will increase.• As income increases, the demand for an inferior
good will decrease.
Copyright © 2004 South-Western
$3.002.50
2.001.501.00
0.50
21 3 4 5 6 7 8 9 10 1211
Price of Ice-Cream Cone
Quantity of Ice-Cream Cones
0
Increasein demand
An increase in income...
D1
D2
Consumer IncomeNormal Good
Copyright © 2004 South-Western
$3.002.50
2.001.501.00
0.50
21 3 4 5 6 7 8 9 10 1211
Price of Hamburger
Quantity of Hamburger
0
Decreasein demand
An increase in income...
D1D2
Consumer IncomeInferior Good
Copyright © 2004 South-Western
Shifts in the Demand Curve—Determinants of Demand
B—Change in number of Buyers• Increases or decreases in consumer population
•Can shift demand to increase or decrease
Copyright © 2004 South-Western
Shifts in the Demand Curve—Determinants of Demand
E—Change in Consumer Expectations• Information that allows consumers to predict price
increases or decreases in the future will change their demand today
•Can shift demand to increase or decrease
Demand Variables That Influence Buyers
Copyright©2004 South-Western
Variable A Change in This Variable…
Price changes Movement ALONG the demand curve
Tastes Shifts the demand curve
Related Goods Shifts the demand curve
Income Shifts the demand curve
Buyers—numbers changing Shifts the demand curve
Expectations Shifts the demand curve
Copyright © 2004 South-Western
SUPPLY
• Law of Supply• The law of supply states that, other things equal,
the quantity supplied of a good rises when the price of the good rises.
• Quantity supplied is the amount of a good that sellers are willing and able to sell.
Copyright © 2004 South-Western
The Supply Schedule
• Supply Schedule• The supply schedule is a table that shows the
relationship between the price of the good and the quantity supplied.
Copyright © 2004 South-Western
Ben’s Supply Schedule
Supplied
Copyright © 2004 South-Western
The Supply Curve
• Supply Curve• The supply curve is the graph of the relationship
between the price of a good and the quantity supplied.
Ben’s Supply Schedule and Supply Curve
Copyright©2003 Southwestern/Thomson Learning
Price ofIce-Cream
Cone
0
2.50
2.00
1.50
1.00
1 2 3 4 5 6 7 8 9 10 11 Quantity ofIce-Cream Cones
$3.00
12
0.50
1. Anincrease in price ...
2. ... increases quantity of cones supplied.
Supplied
Copyright © 2004 South-Western
Individual Supply Market Supply
• Graphically, individual supply curves are summed horizontally to obtain the market supply curve.
• Market supply refers to the sum of all individual supplies for all sellers of a particular good or service.
Copyright © 2004 South-Western
Changes in the Supply Curve
• Change in Quantity Supplied• Movement along the supply curve.• Caused by a change in the quantity supplied due to
price
Copyright © 2004 South-Western
1 5
Price of Ice-Cream Cone
Quantity of Ice-Cream Cones0
S
1.00A
C$3.00 A rise in the price
of ice cream cones results in a movement along the supply curve.
Change in Quantity Supplied
Copyright © 2004 South-Western
Changes in the Supply Curve
• Change in Supply• A shift in the supply curve, either to the left or
right. • Caused by a change in a determinant other than
price.
Shifts in the Supply Curve
Copyright©2003 Southwestern/Thomson Learning
Price ofIce-Cream
Cone
Quantity ofIce-Cream Cones
0
Increasein supply
Decreasein supply
Supply curve, S3
curve, Supply
S1Supply
curve, S2
Copyright © 2004 South-Western
Shifts in the Supply Curve—Determinants of Supply
•Technology
•Related prices of substitutes & complements in production
•Input Prices
•Competition
•Expectations
Copyright © 2004 South-Western
Shifts in the Supply Curve—Determinants of Supply
T—Changes in Technology• New technology applied to an industry• Will shift supply to increase
Copyright © 2004 South-Western
Shifts in the Supply Curve—Determinants of Supply
R—Prices of Related Goods or Services Produced
• When an increase in the price of one good leads to an increase in the supply of another, the two goods are called substitutes.
• When an increase in the price of one good leads to a decrease in the supply of another, the two goods are called complements.
Copyright © 2004 South-Western
Shifts in the Supply Curve—Determinants of Supply
I—Changes in Input Prices• When an increase in the price of inputs or factors of
production occur, a shift in supply will occur• If an input or resource increases in price, supply
will decrease• If an input or resource decreases in price, supply
will increase
Copyright © 2004 South-Western
Shifts in the Supply Curve—Determinants of Supply
C—Change in number of Competitors
•Increases or decreases in suppliers
•Can shift supply to increase or decrease
Copyright © 2004 South-Western
Shifts in the Supply Curve—Determinants of Supply
E—Change in Producer Expectations
•Information that allows suppliers to predict price increases or decreases in the future
•Can shift supply to increase or decrease
Supply Variables That Influence Producers
Copyright©2004 South-Western
Variable A Change in This Variable…
Price changes Movement ALONG the supply curve
Technology Shifts the supply curve
Related Goods Produced Shifts the supply curve
Input Prices Shifts the supply curve
Competitors—numbers changing
Shifts the supply curve
Expectations (of Suppliers) Shifts the supply curve
Copyright © 2004 South-Western
SUPPLY AND DEMAND TOGETHER
• Equilibrium refers to a situation in which the price has reached the level where quantity supplied equals quantity demanded.
Copyright © 2004 South-Western
SUPPLY AND DEMAND TOGETHER
• Equilibrium Price• The price that balances quantity supplied and
quantity demanded. • On a graph, it is the price at which the supply and
demand curves intersect.
• Equilibrium Quantity• The quantity supplied and the quantity demanded at
the equilibrium price. • On a graph it is the quantity at which the supply and
demand curves intersect.
Copyright © 2004 South-Western
At $2.00, the quantity demanded is equal to the quantity supplied!
SUPPLY AND DEMAND TOGETHER
Demand Schedule
Supply Schedule
The Equilibrium of Supply and Demand
Copyright©2003 Southwestern/Thomson Learning
Price ofIce-Cream
Cone
0 1 2 3 4 5 6 7 8 9 10 11 12Quantity of Ice-Cream Cones
13
Equilibriumquantity
Equilibrium price Equilibrium
Supply
Demand
$2.00
Markets Not in Equilibrium
Copyright©2003 Southwestern/Thomson Learning
Price ofIce-Cream
Cone
0
Supply
Demand
Excess Supply
Quantitydemanded
Quantitysupplied
Surplus
Quantity ofIce-Cream
Cones
4
$2.50
10
2.00
7
Copyright © 2004 South-Western
Equilibrium
• Surplus• When price > equilibrium price, then quantity
supplied > quantity demanded. • There is excess supply or a surplus.
• Suppliers will lower the price to increase sales, thereby moving toward equilibrium.
Markets Not in Equilibrium
Copyright©2003 Southwestern/Thomson Learning
Price ofIce-Cream
Cone
0 Quantity ofIce-Cream
Cones
Supply
Demand
Excess Demand
Quantitysupplied
Quantitydemanded
1.50
10
$2.00
74
Shortage
Copyright © 2004 South-Western
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 buyers chasing too few goods, thereby moving toward equilibrium.
Copyright © 2004 South-Western
Equilibrium
• Law of supply and demand• The claim that the price of any good adjusts to bring
the quantity supplied and the quantity demanded for that good into balance.
How an Increase in Demand Affects the Equilibrium
Copyright©2003 Southwestern/Thomson Learning
Price ofIce-Cream
Cone
0 Quantity of Ice-Cream Cones
Supply
Initialequilibrium
D
D
3. . . . and a higherquantity sold.
2. . . . resultingin a higherprice . . .
1. Hot weather increasesthe demand for ice cream . . .
2.00
7
New equilibrium$2.50
10
How a Decrease in Supply Affects the Equilibrium
Copyright©2003 Southwestern/Thomson Learning
Price ofIce-Cream
Cone
0 Quantity of Ice-Cream Cones
Demand
Newequilibrium
Initial equilibrium
S1
S2
2. . . . resultingin a higherprice of icecream . . .
1. An increase in theprice of sugar reducesthe supply of ice cream. . .
3. . . . and a lowerquantity sold.
2.00
7
$2.50
4
Copyright © 2004 South-Western
Three Steps to Analyzing Changes in Equilibrium
1. Ask yourself: Does this event shift the supply or demand curve—which Determinant (TRIBE or TRICE) is at play?
2. Ask yourself: Which direction would the curve shift—to the left or to the right?
3. Draw the supply and demand graphs to see how the shift affects equilibrium price and quantity.
Copyright © 2004 South-Western
Summary: Movements along Curves vs. Shifts in Curves
• A movement along a fixed demand curve is called a change in quantity demanded. That movement is
a response to price changes.• A shift in the demand curve is called a change in demand. That shift is a response to
Determinants (TRIBE).• A movement along a fixed supply curve is called a change in quantity supplied. That movement is a
response to price changes.• A shift in the supply curve is called a change in supply. That shift is a response to
Determinants (TRICE).
What Happens to Price and Quantity When Supply or Demand Shifts?
Copyright©2004 South-Western