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```									  Managerial Economics &
Chapter 2
Market Forces: Demand and Supply
Market Equilibrium

• Balancing supply and demand
S
 Qx = Qx
d

• Interaction of supply and
demand determines the
equilibrium price
If price is too low…
Price                           S

7
6

5

Shortage               D
12 - 6 = 6
6     8          12       Quantity
If price is too high…
Surplus
Price       14 - 6 = 8
S
9
8
7

D

6        8       14       Quantity
Price Restrictions
• Price Ceilings
   The maximum legal price that can be charged.
   Examples:
• Gasoline prices in the 1970s.
• Housing in New York City.
• Proposed restrictions on ATM fees.
Impact of a Price Ceiling
Price                       S

PF

P*

P Ceiling

Shortage         D

Qs              Qd   Quantity
Q*
Price Restrictions cont.
• Price Floors
   The minimum legal price that can be charged.
   Examples:
• Minimum wage.
– Current PA minimum wage \$6.25
» Increased from \$5.15 January 1, 2007
– Increase to \$7.15 by July, 1 2007
• Agricultural price supports.
Impact of a Price Floor
Price         Surplus        S
PF

P*

D

Qd       Q*    QS       Quantity
Do we understand? (number 6)
• Suppose demand and supply are given by Qd=50-P and
Qs=1/2P-10.
• What are the equilibrium quantity and price in this market?
• Determine the quantity demanded, the quantity supplied and
the magnitude of the surplus if a price floor of \$42 is
imposed in this market.
• Determine the quantity demanded, the quantity supplied and
the magnitude of the shortage if a price ceiling of \$30 is
imposed in this market.
• Determine the Full Economic Price paid by the consumers
Comparative Static Analysis
• How do the equilibrium price and quantity
change when a determinant of supply and/or
demand change?
Applications of Demand and
Supply Analysis
• Event: The WSJ reports that the prices of PC
components are expected to fall by 5-8 percent over
the next six months.
• Scenario 1: You manage a small firm that
manufactures PCs.
• Scenario 2: You manage a small software company.
Use Comparative Static
Analysis to see the Big Picture!
• Comparative static analysis shows how the
equilibrium price and quantity will change when a
determinant of supply or demand changes.
Scenario 1: Implications for a
Small PC Maker
• Computers are now going to be cheaper to produce
• What curve is impacted??
   supply
Big Picture: Impact of decline in
component prices on PC market
Price                 S
of
PCs                            S*

P0
P*

D

Quantity of PC’s
Q0   Q*
Scenario 2: Software Maker
• More people buying computers means
consumers will want more software
• Which curve is impacted??
Big Picture: Impact of lower PC
prices on the software market
Price              S
of Software

P1
P0

D*

D

Q0 Q1       Quantity of
Software
Is this really used?? (number 12)
• You are the manager of an organization in America that
distributes blood to hospitals in all 50 states and the District
of Columbia. A recent report indicates that nearly 50
Americans contract HIV each year through blood
transfusions. Although every pint of blood donated in the
US undergoes a battery of nine different tests, existing
screening methods can detect only the antibodies produced
by the body’s immune system, not foreign agents in the
blood. Since it takes weeks or even months for these
antibodies to build up in the blood, newly infected HIV
donors can pass along the virus through blood that has
passed existing screening tests. Happily researchers have
• Developed a series of new tests aimed at detecting
and removing infections from donated blood before
it is used in transfusions. The obvious benefit of
these tests is the reduced incidence of infections
through blood transfusions. The report indicates
that the current price of decontaminated blood is \$80
per pint. However, if the new screening methods are
adopted, the demand and supply for decontaminated
blood will change to Qd=175-P and Qs=2P-200.
   What price do you expect to prevail if the new screening methods
   How many units of blood will be used in the US?
   What is the level of Consumer Surplus and Producer Surplus?
Illustrate your findings in a graph
What if BOTH supply and
demand shift?
• Depends on the magnitudes and directions of the
shifts
• Examples….
Chapter 2 homework

Numbers 7, 10, and 13

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