Please listen to the audio as you work through the slides
Make sure you know, understand, and use the
terminology.
Learn to speak the language of Economics.
Individual Markets: Demand and Supply
Examining the interaction
between buyers and sellers
Learning Objectives
Students should be able to thoroughly and completely explain:
1. The law of demand - including the detailed aspects.
2. The law of supply – including the detailed aspects.
3. The market clearing equilibrium.
4. Price floors and price ceilings.
Market
• An institution or mechanism that
brings together buyers (demanders)
and sellers (suppliers) of particular
goods, services, or resources.
Markets
• Focus on markets consisting of large numbers of
independently acting buyers and sellers of
standardized products. (The purely competitive
market)
• Examples of different markets
• Highly competitive
• But beware: Markets do not respect the sustainable
yield thresholds of natural systems!
Demand
Definition:
A schedule or curve that shows the various amounts
of a product that consumers are willing and able to
purchase at each of a series of possible prices
during a specified period of time.
Law of Demand
Inverse relationship between price and quantity
demanded.
All else equal, as price falls, the quantity
demanded rises, and as price rises the
quantity demanded falls.
What factors support this inverse relationship
between price and quantity demanded?
The 3 Factors
Factors supporting the inverse relationship
between price and quantity demanded
1. Diminishing Marginal Utility
2. Income Effect
3. Substitution Effect
Factors supporting the inverse relationship
between price and quantity demanded
•
Diminishing Marginal Utility
1. Consumption of successive units of
a product yield less and less
marginal utility.
2. People will buy more only if the
price is reduced.
Factors supporting the inverse relationship
between price and quantity demanded
• Diminishing Marginal Utility
•
Income Effect –
1. a change in the quantity demanded that
results from
2. the change in real income caused by
3. a change in the products price.
Factors supporting the inverse relationship between
price and quantity demanded
• Diminishing Marginal Utility
• Income Effect
• Substitution Effect – at a lower price,
buyers have the incentive to substitute what
is less expensive for similar products that
are relatively more expensive.
• Price of substitute (chicken) goes down,
what happens to the demand for the other
product (steak)?
Factors supporting the inverse relationship
between price and quantity demanded
• Diminishing Marginal Utility
• Income Effect
• Substitution Effect
These 3 factors support the law of
demand
Converting Individual Demand to Market Demand
Add the quantities demanded by all individual
consumers at each of the various possible
prices, to convert from individual demand to
market demand.
Graphing Demand
Price of Corn
P
CORN
P
$5
4
3
2
1
QD
10
20
35
55
80
$5
Plot the Points
4
3
2
1
o
10 20 30 40 50 60 70 80
Quantity of Corn
Q
Graphing Demand
Price of Corn
P
CORN
P
$5
4
3
2
1
QD
10
20
35
55
80
$5
Plot the Points
4
3
2
1
o
10 20 30 40 5055 60 70 80
Quantity of Corn
Q
Graphing Demand
Price of Corn
P
CORN
P
$5
4
3
2
1
QD
10
20
35
55
80
$5
Plot the Points
4
3
2
1
o
10 20 30 40 50 60 70 80
35
Quantity of Corn
Q
Graphing Demand
Price of Corn
P
CORN
P
$5
4
3
2
1
QD
10
20
35
55
80
$5
Plot the Points
4
3
2
1
o
10 20 30 40 50 60 70 80
Quantity of Corn
Q
Graphing Demand
Price of Corn
P
CORN
P
$5
4
3
2
1
QD
10
20
35
55
80
$5
Plot the Points
4
3
2
1
o
10 20 30 40 50 60 70 80
Quantity of Corn
Q
Graphing Demand
Price of Corn
P
CORN
P
$5
4
3
2
1
QD
10
20
35
55
80
$5
Connect the Points
4
3
2
1
o
D
10 20 30 40 50 60 70 80
Quantity of Corn
Q
Graphing Demand
Price of Corn
P
CORN
P
$5
4
3
2
1
QD
10
20
35
55
80
$5
4
3
2
What if
Demand
Increases?
1
o
D
10 20 30 40 50 60 70 80
Quantity of Corn
Q
Graphing Demand
Price of Corn
P
CORN
P
$5
4
3
2
1
QD
10 30
20 40
35 60
55 80
80 +
Increase in Quantity
Demanded Caused by
a price change.
$5
4
3
2
1
o
Increase
in
Demand
10 20 30 40 50 60 70 80
Quantity of Corn
D’
D
Q
Graphing Demand
Price of Corn
P
CORN
P
$5
4
3
2
1
QD
10
20
35
55
80
$5
4
3
2
What if
Demand
Decreases?
1
o
D
10 20 30 40 50 60 70 80
Quantity of Corn
Q
Graphing Demand
Price of Corn
P
CORN
P
$5
4
3
2
1
QD
10 -20 10
35 20
55 40
80 60
$5
Decrease in Quantity
Demanded caused by
a price change
4
3
2
1
o
Decrease
in
Demand
10 20 30 40 50 60 70 80
Quantity of Corn
D
D’
Q
5 Determinants of Demand
Demand curve shifters
1.
Tastes – consumer tastes
– A favorable change in consumer tastes (preferences) for a
product means more of it will be demanded at each price.
– Demand increases
– Demand curve shifts to the right.
2.
Number of Buyers
– An increase in the number of buyers in a market increases
demand.
• Improved communications systems expand markets
• Reduction of tariffs by foreigners expand our markets
3.
Income:
– income up and demand up – normal (Superior) good
– Income up and demand down - Inferior Goods (Rahman
Noodles)
Determinants of Demand
4
Prices of Related Goods
What kind of relationships are we talking about?
– Substitutes (beef and chicken)
• When two products are substitutes, the price of one and the
demand for the other move in the same direction
– Compliments (flashlights and batteries)
• When two goods are compliments, the price of one good and
the demand for the other good move in opposite directions.
• Tuition and textbooks
– Unrelated Goods – price of one has no effect on demand
for the other.
Determinants of Demand
5 Expectations
– Changes in consumer expectations may shift demand.
– Expectation of higher future prices may cause
consumers to buy now to avoid expected higher prices.
– Expectations about future product availability may
affect current demand.
– Expectation of a future shortage of a product may
cause consumers to buy more right now.
Supply
the provision of goods and services
put on your business owner hat
Definition:
A schedule or curve showing the amounts
of a product that producers are willing and
able to make available for sale at each of a
series of possible prices during a specific
period of time.
Law of Supply
A direct relationship exists between
price and quantity supplied
• As Price Rises…
…Quantity Supplied Rises
• As Price Falls…
…Quantity Supplied Falls
Converting Individual Supply to Market Supply
• Horizontally adding the supply curves
of the individual producers results in
definition of market supply.
Graphing Supply
Price of Corn
P
Plot the Points
$5
CORN
P QS
4
$5
4
3
2
1
3
2
1
o 5 10
20 30 40 50 60 70 80
Quantity of Corn
Q
60
50
35
20
5
Graphing Supply
Price of Corn
P
Plot the Points
$5
CORN
P QS
4
$5
4
3
2
1
3
2
1
o
10 20 30 40 50 60 70 80
Quantity of Corn
Q
60
50
35
20
5
Graphing Supply
Price of Corn
P
Plot the Points
$5
CORN
P QS
4
$5
4
3
2
1
3
2
1
o
10 20 3035 40 50 60 70 80
Quantity of Corn
Q
60
50
35
20
5
Graphing Supply
Price of Corn
P
Plot the Points
$5
CORN
P QS
4
$5
4
3
2
1
3
2
1
o
10 20 30 40 50 60 70 80
Quantity of Corn
Q
60
50
35
20
5
Graphing Supply
Price of Corn
P
Plot the Points
$5
CORN
P QS
4
$5
4
3
2
1
3
2
1
o
10 20 30 40 50 60 70 80
Quantity of Corn
Q
60
50
35
20
5
Graphing Supply
Price of Corn
P
$5
S
CORN
P QS
4
$5
4
3
2
1
3
2
1
o
Connect the Points
10 20 30 40 50 60 70 80
Quantity of Corn
Q
60
50
35
20
5
Graphing Supply
Price of Corn
P
$5
4
3
2
S
What if
Supply
Increases?
1
o
10 20 30 40 50 60 70 80
Quantity of Corn
CORN
P QS
$5
4
3
2
1
Q
60
50
35
20
5
Graphing Supply
Price of Corn
P
S
$5
4
3
2
1
o
Increase in
supply
S’
CORN
P QS
$5
4
Increase in
3
quantity
supplied,
2
caused by an
1
increase in
the price of
the product
10 20 30 40 50 60 70 80
Quantity of Corn
Q
60 80
50 70
35 60
20 45
5 30
Graphing Supply
Price of Corn
P
$5
4
3
2
S
What if
Supply
Decreases?
1
o
10 20 30 40 50 60 70 80
Quantity of Corn
CORN
P QS
$5
4
3
2
1
Q
60
50
35
20
5
Graphing Supply
Price of Corn Decrease
P
$5
4
3
2
1
o
in
Supply
S’
S
CORN
P QS
$5
4
3
Decrease in Quantity 2
Supplied, caused by
a fall In the price of 1
the product.
10 20 30 40 50 60 70 80
Quantity of Corn
Q
60 45
50 30
35 20
20 0
5 --
6 Determinants of Supply
Assume revenue is constant
1.
Resource Prices
– Higher resource prices, higher costs of production, lower
profits, less incentive to produce output at each product
price.
2.
Technology
– Improvements in technology (techniques of production)
enable firms to produce units of output with fewer
resources, lower production costs, higher output.
3.
Taxes & Subsidies (raise or lower producer’s cost of
production)
– Taxes are costs, higher production costs, lower output.
– Subsidies are “taxes in reverse”, (government gives money
to firm) lower production costs, higher output.
Determinants of Supply
4 Prices of Other Goods
• Substitution in production
– Assume your company produces Soccer balls and volleyballs
– Higher price for volleyballs, incentive to switch production from
soccer balls to volleyballs to increase profits.
5 Price Expectations (future product price)
– Farmers expecting higher wheat prices in the future may withhold some
of today’s wheat harvest from the market causing a decrease in current
supply.
– Manufacturers expecting higher prices in the future may be inclined to
add an extra shift or add plant capacity to increase supply so that they
can increase revenue.
6 Number of Sellers
– More sellers leads to larger supply
Market Equilibrium
Price of Corn
CORN
MARKET
P QD
$5 2,000
4 4,000
3 7,000
2 11,000
1 16,000
P
S
$5
CORN
MARKET
P Q
4
Market
S
$5 12,000
Clearing
Equilibrium 4 10,000
3
3 7,000
2 4,000
1 1,000
What does this mean?
2
1
o
D
2
4
6
78
10 12 14 16
Quantity of Corn
Q
Market Equilibrium
Price of Corn
CORN
MARKET
P QD
$5 2,000
4 4,000
3 7,000
2 11,000
1 16,000
P
$5
Surplus
CORN
MARKET
S
P Q
At a $4 price
4
$5
supplied than 4
demanded 3
2
1
more is being
3
2
1
o
D
2
4
6
78
10 12 14 16
Quantity of Corn
Q
S
12,000
10,000
7,000
4,000
1,000
Market Equilibrium
Price of Corn
CORN
MARKET
P QD
$5 2,000
4 4,000
3 7,000
2 11,000
1 16,000
P
S
$5
CORN
MARKET
P Q
At a $2 price
4
$5
demanded than 4
3
supplied
2
1
Shortage
more is being
3
2
1
o
D
2
4
6
78
101112 14 16
Quantity of Corn
Q
S
12,000
10,000
7,000
4,000
1,000
Market Equilibrium
Price of Corn
CORN
MARKET
P QD
$5 2,000
4 4,000
3 7,000
2 11,000
1 16,000
P
$5
Surplus
S
4
3
2
Shortage
1
o
CORN
MARKET
P Q
$5
4
3
2
1
D
2
4
6
78
101112 14 16
Quantity of Corn
Q
S
12,000
10,000
7,000
4,000
1,000
Market Equilibrium
• Equilibrium Price & Quantity
• Rationing Function of Prices – the competitive
forces of demand and supply
– What does this mean?
•
•
•
•
Note: Make sure you know the difference between:
Changes in Demand
Changes in Quantity Demanded
Changes in Supply
Changes in Quantity Supplied
Government Set Prices
make sure you know what these things mean!
• Price Ceilings
– Government setting the maximum legal price a
seller can charge, below the equilibrium price
level.
Price ceiling on gas!
–Price ceilings create shortages
– Black Markets and Rent Controls
• Price Floors
– Government setting the minimum price that
can be charged, above the equilibrium price
level.
Farm products!
–Price floors create surpluses
Government set prices Graphics
Price of Corn
CORN
MARKET
P QD
$5 2,000
4 4,000
3 7,000
2 11,000
1 16,000
P
S
$5
CORN
MARKET
P Q
4
Price ceiling
at $2 price
more is being
demanded
than supplied
3
2
Shortage
1
o
$5
4
3
2
1
D
2
4
6
78
101112 14 16
Quantity of Corn
Q
S
12,000
10,000
7,000
4,000
1,000
Government set prices
graphics
Price of Corn
CORN
MARKET
P QD
$5 2,000
4 4,000
3 7,000
2 11,000
1 16,000
P
$5
Surplus
4
S
P Q
Price floor at a
$4 price, more is
being supplied
than demanded
3
2
1
o
CORN
MARKET
$5
4
3
2
1
D
2
4
6
78
10 12 14 16
Quantity of Corn
Q
S
12,000
10,000
7,000
4,000
1,000
Check your understanding of
demand and supply
1. Please thoroughly and completely explain the law demand
2. Please thoroughly and completely explain the law of supply
Demand and Supply issues – Food Security
Food Security - The ability of a country to adequately feed it’s people
without importing food.
• Demand side issues
– Population growth (79 million per year global growth)
More buyers (not evenly distributed)
– Increased consumption of grain-based animal
protein.
Changing tastes or preferences – (we eat more meat)
– Massive use of grain to fuel cars – (ethanol).
Prices of related goods (corn prices tied to oil prices)
Demand and Supply issues – Food Security
• Supply side issues
– Environmental trends:
•
•
•
•
Soil erosion, aquifer depletion,
Crop-shrinking heat waves,
Melting ice sheets and rising sea levels
Melting of mountain glaciers that feed rivers and irrigation
systems
Resource availability issues
– Resource trends:
• Loss of cropland to non-farm uses
• Diversion of irrigation water to cities
• The coming reduction in oil supplies
Use the following graphs to exercise
your understanding of
Demand and Supply
Lettuce Supply & Demand
Crop Freezing Damage…
Price (per pound)
P
S2
S1
P2
P1
D1
o
Q2
Q1
Quantity
Q
American Flags
Patriotism Surge…
P
Price (per flag)
S1
P2
P1
D2
D1
o
Q1
Q2
Quantity
Q
Pink Salmon
Increase in Supply & Decrease in Demand
P
Price (per fish)
S1
S2
P1
P2
D1
D2
o
Q1 Q2
Quantity
Q
Gasoline
Decrease in Supply & Increase in Demand
Price (per gallon)
P
S2 S1
P2
P1
D2
D1
o
Q1 Q2
Quantity
Q
Key Terms
market
demand
demand schedule
law of demand
diminishing marginal utility
income effect
substitution effect
demand curve
determinants of demand
normal goods
inferior goods
substitute good
complementary good
change in demand
change in quantity demanded
supply
supply schedule
law of supply
supply curve
determinants of supply
change in supply
change in quantity supplied
surplus
shortage
equilibrium price
equilibrium quantity
rationing function of prices
price ceiling and floor