Demand, Supply and Market Equilibrium. Lecture 4 Shahid Iqbal

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1 Demand, Supply and Market Equilibrium Lecture 4 Shahid Iqbal

2 Markets & Economics 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.

3 Buyers determine demand. Sellers determine supply.

4 Market Type: A Competitive Market A competitive market is a market...with many buyers and sellers.. that is not controlled by any one person. in which a narrow range of prices are established that buyers and sellers act upon.

5 Monopolistic Competition Many sellers Slightly differentiated products Each seller may set price for its own product

6 Markets and Competition Other market Structures

7 Monopoly One seller, and seller controls price

8 Oligopoly Few sellers Not always aggressive competition

9 Monopolistic Competition Differentiated products, brand preference, but entry is NOT barred

10 Competition: Perfect and Otherwise Perfect Competition Products are the same Numerous buyers and sellers so that each has no influence over price. Buyers and Sellers are price takers

11 Demand Quantity demanded is the amount of a good that buyers are willing and able to purchase.

12 Determinants of demand Following are the Factors determine the demand for a good:

13 Price of the good

14 Tastes

15 Information

16 Prices of related goods

17 Income

18 Government rules and regulations

19 The Basic Economic Decision-Making Units A firm is an organization that transforms resources (inputs) into products (outputs). Firms are the primary producing units in a market economy.

20 An entrepreneur is a person who organizes, manages, and assumes the risks of a firm, taking a new idea or a new product and turning it into a successful business.

21 Households are the consuming units in an economy.

22 Input Markets and Output Markets Output, or product, markets are the markets in which goods and services are exchanged. Input markets are the markets in which resources labor, capital, and land used to produce products, are exchanged.

23 Input Markets Input markets include: The labor market, in which households supply work for wages to firms that demand labor. The capital market, in which households supply their savings, for interest or for claims to future profits, to firms that demand funds to buy capital goods. The land market, in which households supply land or other real property in exchange for rent.

24 The Circular Flow of Economic Activity The circular flow of economic activity shows the connections between firms and households in input and output markets.

25 Quantity Demanded The amount (number of units) of a product that a household would buy in a given time period if it could buy all it wanted at the current market price.

26 Demand in Output Markets ANNA'S DEMAND SCHEDULE FOR TELEPHONE CALLS PRICE (PER CALL) QUANTITY DEMANDED (CALLS PER MONTH) $ A demand schedule is a table showing how much of a given product a household would be willing to buy at different prices. Demand curves are usually derived from demand schedules.

27 The Demand Curve ANNA'S DEMAND SCHEDULE FOR TELEPHONE CALLS PRICE (PER CALL) QUANTITY DEMANDED (CALLS PER MONTH) $ The demand curve is a graph illustrating how much of a given product a household would be willing to buy at different prices.

28 The Law of Demand The law of demand states that there is a negative, or inverse, relationship between price and the quantity of a good demanded and its price. This means that demand curves slope downward.

29 Income and Wealth in Economics' term Income is the sum of all households wages, salaries, profits, interest payments, rents, and other forms of earnings in a given period of time. It is a flow measure. Wealth, or net worth, is the total value of what a household owns minus what it owes. It is a stock measure.

30 Related Goods and Services in Economics Normal Goods are goods for which demand goes up when income is higher and for which demand goes down when income is lower. Inferior Goods are goods for which demand falls when income rises.

31 Related Goods and Services Substitutes are goods that can serve as replacements for one another; when the price of one increases, demand for the other goes up. Perfect substitutes are identical products.

32 Important 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.

33 Supply Supply refers to the various quantities of a good or service that producers are willing to sell at all possible market prices. Supply can refer to the output of one producer or to the total output of all producers in the market (market supply).

34 Supply Businesses provide goods and services hoping to make a profit. Profit is the money a business has left over after it covers its costs. Businesses try to sell at prices high enough to cover their costs with some profit left over. The higher the price for a good, the more profit a business will make after paying the cost for resources.

35 Supply and Demand A competitive market: Many buyers and sellers Same good or service The supply and demand model is a model of how a competitive market works. Five key elements: Demand curve Supply curve Demand and supply curve shifts Market equilibrium Changes in the market equilibrium

36 Demand Schedule A demand schedule shows how much of a good or service consumers will want to buy at different prices. Demand Schedule for Coffee Beans Price of coffee beans (per pound) $ Quantity of coffee beans demanded (billions of pounds)

37 Demand Curve Price of coffee bean (per gallon) $ A demand curve is the graphical representation of the demand schedule; it shows how much of a good or service consumers want to buy at any given price As price rises, the quantity demanded falls Demand curve, D Quantity of coffee beans (billions of pounds)

38 An Increase in Demand An increase in the population and other factors generate an increase in demand a rise in the quantity demanded at any given price. This is represented by the two demand schedules - one showing demand in 2002, before the rise in population, the other showing demand in 2006, after the rise in population. Demand Schedules for Coffee Beans Price of coffee beans (per pound) $ Quantity of coffee beans demanded (billions of pounds) in 2002 in

39 An Increase in Demand Increase in population more coffee drinkers Price of coffee beans (per gallon) $ Demand curve in Demand curve in 2002 D 1 D Quantity of coffee beans (billions of pounds) A shift of the demand curve is a change in the quantity demanded at any given price, represented by the change of the original demand curve to a new position, denoted by a new demand curve.

40 Price Shifts of the Demand Curve Increase in demand An decrease increase in demand, means a rightward leftward shift of of the demand curve: at any given price, consumers demand a larger smaller quantity than before. (D1 D2) (D1 D3) Decrease in demand D 3 D 1 D 2 Quantity

41 Individual Demand Curve and the Market Demand The Curve market demand curve is the horizontal sum of the individual demand curves of all consumers in that market. (a) Darla s Individual Demand Curve (b) Dino s Individual Demand Curve (c) Market Demand Curve Price of coffee beans (per pound) Price of coffee beans (per pound) Price of coffee beans (per pound) $2 $2 $ D Market D Darla D Dino Quantity of coffee Quantity of coffee beans (pounds) beans (pounds) Quantity of coffee beans (pounds)

42 Supply Schedule A supply schedule shows how much of a good or service would be supplied at different prices. Supply Schedule for Coffee Beans Price of coffee beans (per pound) Quantity of coffee beans supplied (billions of pounds) $

43 Supply Curve Price of coffee beans (per pound) $2.00 Supply curve, S A supply curve shows graphically how much of a good or service people are willing to sell at any given price As price rises, the quantity supplied rises Quantity of coffee beans (billions of pounds)

44 An Increase in Supply The entry of Vietnam into the coffee bean business generated an increase in supply a rise in the quantity supplied at any given price. This event is represented by the two supply schedules one showing supply before Vietnam s entry, the other showing supply after Vietnam came in. Supply Schedule for Coffee Beans Price of coffee beans Quantity of beans supplied (billions of pounds) (per pound) Before entry After entry $

45 An Increase in Supply Price of coffee beans (per pound) $ A movement along the supply curve S 1 S is not the same thing as a shift of the supply curve Quantity of coffee beans (billions of pounds) A shift of the supply curve is a change in the quantity supplied of a good at any given price.

46 Shifts of the Supply Curve Price Decrease in supply S 3 S 1 S 2 Increase in supply Any increase decrease in supply means a rightward leftward shift of of the the supply curve: at any given price, there is an increase decrease in in the quantity supplied. (S1 S2) S3) Quantity

47 What Causes a Supply Curve to Shift? Changes in input prices An input is a good that is used to produce another good. Changes in the prices of related goods and services Changes in technology Changes in expectations Changes in the number of producers

48 Individual Supply Curve and the Market Supply Curve The market supply curve is the horizontal sum of the individual supply curves of all firms in that market. Price of coffee beans (per pound) $2 (a) Mr. Figueroa s Individual Supply Curve S Figueroa Price of coffee beans (per pound) $2 (b) Mr. Bien Pho s Individual Supply Curve S Bien Pho Price of coffee beans (per pound) $2 (c) Market Supply Curve S Market Quantity of coffee beans (pounds) Quantity of coffee beans (pounds) Quantity of coffee beans (pounds)

49 Supply, Demand and Equilibrium Equilibrium in a competitive market: when the quantity demanded of a good equals the quantity supplied of that good. The price at which this takes place is the equilibrium price. Every buyer finds a seller and vice versa. The quantity of the good bought and sold at that price is the equilibrium quantity.

50 Market Equilibrium Price of coffee beans (per pound) $ Supply Market equilibrium occurs at point E, where the supply curve and the demand curve intersect. Equilibrium price 1.00 E Equilibrium Demand Equilibrium quantity Quantity of coffee beans (billions of pounds)

51 Surplus Price of coffee beans (per pound) $ Surplus E Supply There is a surplus of a good when the quantity supplied exceeds the quantity demanded. Surpluses occur when the price is above its equilibrium level Demand Quantity demanded Quantity supplied Quantity of coffee beans (billions of pounds)

52 Shortage Price of coffee beans (per pound) $ E Supply There is a shortage of a good when the quantity demanded exceeds the quantity supplied. Shortages occur when the price is below its equilibrium level Shortage Demand Quantity supplied Quantity demanded Quantity of coffee beans (billions of pounds)

53 Equilibrium and Shifts of the Demand Curve Price of coffee beans An increase in demand Supply Price rises P 2 P 1 E 1 E 2 leads to a movement along the supply curve due to a higher equilibrium price and higher equilibrium quantity D 2 D 1 Q 1 Q 2 Quantity rises Quantity of coffee beans

54 Technology Shifts of the Supply Curve Price An increase in supply S 1 S 2 leads to a movement along the demand curve to a lower equilibrium price and higher equilibrium quantity. Price falls P 1 P 2 E 1 E 2 Technological innovation: In the early 1970s, engineers learned how to put microscopic electronic components onto a silicon chip; progress in the technique has allowed ever more components to be put on each chip. Demand Q 1 Q 2 Quantity increases Quantity

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