using supply and demand 5 it is by invisible hands that we are bent and tortured worst. —...
TRANSCRIPT
Using Supply and Demand
5
Using Supply and Demand
It is by invisible hands that we are bent and tortured worst.
— Nietzsche
CHAPTER
5
Copyright © 2010 by the McGraw-Hill Companies, Inc. All rights reserved.McGraw-Hill/Irwin
Using Supply and Demand
5
Chapter Goals
• Explain real-world events using supply and demand
• Explain the effects of excise taxes and tariffs
• Discuss how exchange rates are determined
• Explain the effect of a third-party-payer system
• Demonstrate the effect of a price ceiling and price floor
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Using Supply and Demand
5
Application: Bananas in Australia
D0
Q
The cyclone damage caused the supply curve to shift left
Cyclone Larry destroyed 80% of the banana crop
S1
Price rose from $1 to $2 where quantity demanded =
quantity supplied
Q1
$2
S0
P
$1
Q0
Bananas
Excess demand
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Using Supply and Demand
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Application: Sales of SUVs in the U.S.
P0
Q1
P1
Increasing gas costs causes the demand curve
to shift left
Gasoline in the U.S. is increasingly expensive
Price for SUVs fell
from P0 to P1 where
Q demanded = Q supplied
S0
D0
P
QQ0
SUVs
Excess supply
D1
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Using Supply and Demand
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Application: Edible Oils in the World
S0
D0
P
Q
Growing middle class in Asia has increased demand for oilsS1
At the same time, U.S. farmers are growing more
corn and less soy (less soy oil)
Edible Oils
P0
P1
D1The result is increased prices
for edible oils
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Using Supply and Demand
5
The Price of a Foreign Currency
• The market for foreign currencies is called the foreign exchange (forex) market
• Exchange rates are determined by supply and demand
• The exchange rate is the price of one currency in terms of another one
• People demand foreign currencies to buy those countries’ goods and assets
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Using Supply and Demand
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Examples of U.S. dollar foreign-exchange rates
Country currency In US$ Per US$US$ vs. YTD change (%)
Mexico peso 0.0738 13.5520 - 1.3
China yuan 0.1463 6.8348 0.2
United Kingdom pound 1.4828 0.6744 - 1.6
Poland zloty 0.3032 3.2982 11.1
Israel shekel 0.2400 4.1667 10.3
Kuwait dinar 3.4376 0.2909 5.3
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Application: The Market for Euros
• The 16 members of the European Union use a common currency, the euro
1. U.S. interest rates decreased and Europeans bought fewer U.S. financial assets, so the supply of euros decreased
• The value of a euro was $0.85 in 2001
• By the early 2000s the euro had risen to $1.50 because:
2. Americans increased their demand for euros in order to buy European financial assets
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Using Supply and Demand
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Application: The Market for Euros
S0
D0
P
Q
Euros
The quantity of euros is on the horizontal axis
The price is in terms of dollars,
how many dollars it takes to buy or
sell one euro
The supply of euros represents people who want to sell euros and
buy dollars
The demand for euros represents people who want to buy euros and
sell dollars
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Using Supply and Demand
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S0
D1
P
Q
$0.85
Euros
Application: The Market for Euros
Europeans buy fewer U.S. financial assets
and supply decreases
Americans buy more European financial assets
and demand increases
$1.30
S1
D0
The price of euros increases to $1.30
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Using Supply and Demand
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A Review of Changes in Supply and Demand
No change in Supply
Supply shifts out Supply shifts in
No change in Demand No Change
Price falls,Quantity rises
Price rises, Quantity falls
Demand shifts out
Price rises,Quantity rises
Quantity rises, Price could rise
or fall
Price rises, Quantity could
rise or fall
Demand shifts in
Price falls,Quantity falls
Price falls, Quantity could
rise or fall
Quantity falls, Price could rise
or fall
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Using Supply and Demand
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Government Intervention in the Market
• Price ceilings and price floors
• Third-party-payer markets
• Excise taxes
• Quantity restrictions
• The invisible hand is not the only factor in determining prices, social and political forces also determine price
• Other factors include:
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Using Supply and Demand
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Price Ceiling
• When a government wants to hold prices down to favor buyers, it imposes a price ceiling
• A price ceiling is a government-imposed limit on how high a price can be charged
• With price ceilings, existing goods are no longer rationed entirely by price so other methods of rationing arise
• Price ceilings create shortages
• Price ceilings below equilibrium price will have an effect on the market
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Using Supply and Demand
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S0
D0
P(rent)
Q(housing)
$17
$2.50
QDQS
Shortage
Housing
The rent controls caused a housing shortage
After WWII, rent controls (a form of price ceiling)
were put in place
There would not be a shortage if rents had been allowed to increase to the equilibrium price of $17
Application: Rent Controls in Paris
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Using Supply and Demand
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Price Floor
• When a government wants to prevent a price from falling below a certain level to favor suppliers, it imposes a price floor
• A price floor is a government-imposed limit on how low a price can be charged
• Price floors above equilibrium price will have an effect on the market
• Price floors create excess supply
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Using Supply and Demand
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S0
D0
P(wage)
Q(of workers)
W0
Wmin
QD QS
Excess supply = unemployment
Labor
Minimum wages cause unemployment
A minimum wage is a type of price floor, it is the lowest wage a firm can legally pay an employee
Application: A Minimum Wage
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Excise Taxes
• An excise tax is a tax that is levied on a specific good
• A tariff is an excise tax on an imported good
• The result of taxes and tariffs is an increase in equilibrium prices and reduce equilibrium quantities
• Government impacts markets through taxation
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Application: The Effect of an Excise Tax
S0
D0
P
Q
$65,000
510420
The supply curve shifts up by the amount of the tax
Government imposes a $10,000 luxury tax on the suppliers of boats
S1
The price of boats rises by less than the tax to $70,000
Tax = $10,000
Luxury Boats
$60,000
$70,000
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Using Supply and Demand
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Quantity Restrictions
• Government regulates markets with licenses, which limit entry into a market
• Many professions require licenses, such as doctors, financial planners, cosmetologists, electricians, or taxi cab drivers
• The results of limited number of licenses in a market are increases in wages and an increases in the price of obtaining the license
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Using Supply and Demand
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Application: The Effect of a Quantity Restriction
QR
D0
12,000
When the demand for taxi services increased, because
the number of taxi licenses was limited, wages increased
Successful lobbying by taxi cab drivers in NYC resulted in
quantity restrictions (medallions)
NYC Taxi Drivers
$15
P(wage)
Q(of drivers)
D1
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Using Supply and Demand
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Application: The Effect of a Quantity Restriction
QR
D0
12,000
The demand for taxi medallions also increased
because wages were increasing. But because the number of taxi licenses was
limited, the price of a medallion also increased
NYC Taxis Medallions
$400,000
P
Q(of medallions)
D1Initial Fee
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Using Supply and Demand
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Third-Party-Payer Markets
• In third-party-payer markets, the person who receives the good differs from the person paying for the good
• Equilibrium quantity and total spending can be much higher in third-party-payer markets
• Under a third-party-payer system, the person who chooses how much to purchase doesn’t pay the entire cost
• Goods from a third-party-payer system will be rationed through social and political means
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Using Supply and Demand
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Application: Third-Party-Payer Markets
D0
10
Health Care
$25
P
Q
$45
$5
S0
18
The consumer pays the entire cost
Total expenditures for 18 units of health care
With a copayment of $5, consumers demand 18 units
Sellers require $45 per unit for that quantity
…are greater than when…
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Using Supply and Demand
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Chapter Summary
• You can describe almost all events in terms of supply and demand
• Price floors, government-imposed limits on how low a price can be charged, create surpluses
• The determination of foreign exchange rates can be analyzed with the supply and demand model
• Price ceilings, government imposed limits on how high a price can be charged, create shortages
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Using Supply and Demand
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Chapter Summary
• Taxes and tariffs paid by suppliers shift the supply curve up by the amount of the tax or tariff and increase equilibrium price and decrease quantity
• Price floors, government-imposed limits on how low a price can be charged, create surpluses
• Price ceilings, government-imposed limits on how high a price can be charged, create shortages
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Using Supply and Demand
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• Differentiate traditional economic building blocks from behavioral economic building blocks
• Distinguish an empirical model from a formal model and explain the advantages of each
• Explain what heuristic models are and how traditional and behavioral heuristic economic models differ
• List three types of formal models used by modern economists
• Discuss how modern economics and traditional economics differ in their policy prescriptions
Preview of Chapter 6: Thinking Like a Modern Economist
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