# Unit 2Chapter 3 Notes - Lake Central High School by yantingting

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```									      Unit 2

Chapters 3, 18, and 19
3
Demand, Supply,
and Market
Equilibrium
Chapter Objectives
• Demand Defined and What Affects It
• Supply Defined and What Affects It
• How Supply & Demand Together
Determine Market Equilibrium
• How Changes in Supply and Demand
Affect Equilibrium Prices and
Quantities
• Government-Set Prices and their
Implications for Surpluses &
Shortages
Demand
• Demand Defined
3.1

• Demand Schedule
• Law of Demand
3.2
–Diminishing Marginal Utility
–Income Effect
–Substitution Effect
3.3

• Demand Curve                   3.4

• Market Demand
4.1: What is demand?
• Demand – the desire to have a good or service
and the ability to pay for it.
• The 2 factors of desire and ability are both
necessary

• Ex. I have the desire to go on a European
vacation, but I can not afford it. Therefore, I
do not possess demand for it.
Demand Defined
• Expressed on 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
• Show quantities of a product that will be
purchased at various psb prices, other things
equal
Demand Schedule
• Table showing how much of a product an
individual is willing & able to buy @ each price
in the market.

• Market demand schedule – table showing
how much all consumers are willing to buy @
each price

• See p.45 Figure 3.1
Law of Demand
• Inverse relationship between price and quantity
demanded
• States that when price increases, quantity
demanded decreases

• When P. dec., QD. inc.

• Ppl buy less at higher prices, more at lower prices
Explanations of the Law of Demand
• Why the inverse relationship b/w P and QD?

• 1. Common sense—think about it!
• 2. Diminishing marginal utility – marginal
benefit from using each additional unit of a
product during a given period will decline.
• Ex. You get more satisfaction from the first
glass of lemonade than the second, third,
fourth…and are therefore not willing to pay as
Explanations of the Law of Demand
• 3. Income and substitution effects
• income effect – change in the amount that
of their income changes, although income
itself doesn’t change.

• Ex. You go to the store to buy ground beef, it is
on sale, you feel wealthier and buy more.
Explanations of the Law of Demand
• 2. substitution effect – change in the amount
that people will buy b.c they substitute goods

• Ex. You go to the store to buy ground beef but
you see ground turkey is on sale for ½ the
Demand Curve
• Graph showing how much of a product an
individual will buy @ each price
• Graphic representation of demand schedule and
law of demand
• Slopes downward from left to right
• Market demand curve – graph showing data from
market demand schedule
• Price on Y-axis, Quantity on X-axis

• See p.45 Figure 3.1
Individual Demand
P
6

Individual
5
Demand
P   Qd
Price (per bushel)
4
\$5   10
3
4   20

3   35                          2

2   55                          1
D
1   80
0                                                Q
10   20   30   40   50   60   70   80
Quantity Demanded (bushels per week)
Change in Quantity Demanded
• -change in the amt. of a product consumers
will buy b/c of a change in price

• Shown by a movement along the demand
curve
Individual Demand
Determinants of Demand
• Tastes
• Income
– Normal Goods
– Inferior Goods
• Price of Related Goods
– Substitute Good
– Complementary Good
– Unrelated Goods
• Consumer Expectations
Change in Demand
• Something prompts consumers to buy
different amounts @ every price

• Represented by shifts of the demand curve
• Inc. in demand – curve shifts right
• Dec. in demand – curve shifts left

• Influenced by 6 factors
Factor 1: Income
• If consumer income inc., demand inc.
• If income dec., demand dec.

Ex. a factory closes, ppl lose jobs, income falls
and demand dec.
• 2 types of goods:

• Normal goods – goods for which demand inc.
as income inc.
• Ex. most goods such as TVs, steaks, IPODS,
etc…

• Inferior goods - goods for which demand dec.
as income inc.
• Ex. Generics, Ramen noodles, etc…
Factor 2: Market Size
• # of consumers, population changes, seasonal
tourist trends

• If market size inc., demand inc.
Factor 3: Consumer tastes
celebrity endorsements

• If consumer tastes inc., demand inc.
Factor 4: Consumer Expectations
• Refers to expectations of future prices

• If consumers expect a future price inc., current
demand inc.
Factor 5: Substitute Goods
• g/s that can be used in place of each other

• Ex. Coke and Pepsi, wireless phones and

• If demand for substitute inc., demand for
original item dec.
Factor 6: Complements
• Goods used together so a rise in the demand
for one inc. as the demand for another inc.

• Ex. digital cameras and photo printers, cars
and gas
Individual Demand
Demand Can Increase or Decrease
P
6

Individual
5
Demand
P   Qd                                                Increase in Demand

Price (per bushel)
4
\$5   10
3
4   20

3   35                          2
D2

2   55                          1
D1
Decrease in Demand
D3
1   80
0                                                    Q
2   4    6   8   10 12   14 16 18
Quantity Demanded (bushels per week)
Individual Demand
Demand Can Increase or Decrease
An Increase in Demand
P                    Means a Movement
6

Individual                                     of the Line
Demand                           5                           A Movement Between
Any Two Points on a
P   Qd
Price (per bushel)
4                          Demand Curve is Called a
\$5   10                                                       Change in Quantity
3
Demanded
4   20

3   35                          2
D2

2   55                          1
D1
Decrease in Demand
D3
1   80
0                                                    Q
2   4    6   8   10 12   14 16 18
Quantity Demanded (bushels per week)
Supply
• Supply Defined
• Supply Schedule
• Law of Supply
–Revenue Implications
–Marginal Cost
• Supply Curve
• Market Supply
5.1: What is supply?
• Willingness and ability of producers to offer a g/s for sale
• Expressed as a schedule or curve showing the various
amounts of a product that producers are willing and able to
sell at each of a series of psb prices during a specified
period

• Producer = anyone who is willing to provide a g/s

• Ex. worker, company, farmers, etc…

• Profit motivates producers to inc. supply
Law of Supply
• Direct (positive) relationship between P and
QSS
• When P. inc., QS inc.

• When P. dec., QS dec.
Supply Schedule
• Table showing how much of a g/s an individual
producer is willing and able to sell @ each P.

• Market supply schedule – lists how much of a
g/s all producers will sell @ each P.

• See p.51 Figure 3.4
Supply Curve
• Supply schedule data in graphic form
• Shows law of supply in graph form
• Slopes upward from left to right

• Market supply curve – market supply schedule
in graph form

• See p.102 Figure 3.4
Individual Supply
P
6

Individual                                                              S1
5
Supply
P   Qs
Price (per bushel)
4
\$5   60
3
4   50

3   35                          2

2   20                          1

1    5
0
10   20    30   40    50    60   70     Q
Quantity Supplied (bushels per week)
5.3: What Factors Affect Supply?
• Changes in quantity supplied – inc. or dec. in
the amount of a g/s that producers are willing
to sell b/c of a change in P.
• -shown by movement to different points along
the S. curve
Changes in Supply
• Occur when a change in the marketplace
causes producers to sell different amounts @
every price.
• Inc. in S, curve shifts right
• Dec. in S, curve shifts left

• 6 Factors influence supply
Individual Supply
Determinants of Supply
• Resource Prices
• Technology
• Taxes and Subsidies
• Prices of Other Goods
• Producer Expectations
• Number of Sellers
Factor 1: Input Costs
• Price of resources used to make products
• Ex. Cost of nuts used to make candy bars

• Input costs inc., Supply dec.
Labor Productivity
• Amt of a g/s a person can produce in a given
time

• Ex. More skilled & educated workers, labor
strike

• Inc. productivity, Supply inc.
Factor 2: Government Action

• Excise tax – taxes production/sale of certain
goods
• Tax inc., Supply dec.

• Subsidy – gov. payment for part of production
cost
• Subsidy inc., supply inc.

• Regulation – rules/laws controlling business beh.
(Ex. Pollution, worker safety)
• New regulation, Supply dec.
Factor 3: Technology
• Applying science & innovation to production
• Ex. Robots on assembly line, computers, etc…

• Inc. in technology, Supply inc.
Factor 4: Prices of Other Goods
• Substitution in production that may occur
when higher prices of other goods a seller
produces entice the producer to switch
production to those other goods in order to
increase profits.

• See example on page 52.
Factor 5: Producer Expectations
• If producers expect a future P. inc, they will
withhold current supply.
Factor 6: # of Producers
• More producers of a product, Supply inc.

• Ex. Fast food restaurants, auto manufacturers
Individual Supply
Supply Can Increase or Decrease
P
6
S3
Individual                                                              S1
5
Supply                                                                     S2
P   Qs
Price (per bushel)
4
\$5   60
3
4   50

3   35                          2

2   20                          1

1    5
0
2    4    6     8    10   12     14         Q
Quantity Supplied (bushels per week)
Individual Supply
Supply Can Increase or Decrease
P            A Movement Between
6
Any Two Points on a            S3
Individual                            Supply Curve is Called a               S1
5     Change in Quantity
Supply                                                                          S2
Supplied
P   Qs
Price (per bushel)
4
\$5   60
3
4   50

3   35                          2

An Increase in Supply
2   20                          1
Means a Movement
1    5                                                of the Line
0
2    4    6     8      10   12    14         Q
Quantity Supplied (bushels per week)
Market Equilibrium
3.1

• Equilibrium Price
• Equilibrium Quantity
• Surplus
• Shortage
• Rationing Function of Prices
6.1: Seeking Equilibrium: Demand and
Supply
• Market equilibrium – situation in which the
quantity demanded for a service is equal to
the quantity supplied
• Two curves intersect at point of market
equilibrium.
• Equilibrium price(market-clearing price) –
price at which QS = QD; equilibrium quantity
can also be determined
Reaching the Equilibrium Price
• Trial and error may be necessary for the
market to arrive at equilibrium.

• Market may have a surplus: QS>QD
• Market may have a shortage: QD>QS
Surpluses and Shortages
• Surpluses happen when prices are too high
relative to demand (excess supply)
• With surplus, prices tend to fall; producers cut
back production

• Shortages happen when prices are too low
relative to demand (excess demand)
• With shortage, prices rise; producers increase
quantity supplied
Market Equilibrium
Market                                                                             Market
Demand                            6                                                 Supply
6,000 Bushel       S
P    Qd                            5                                                P    Qs
Surplus
\$5    2,000   Price (per bushel)                                \$4 Price Floor     \$5   12,000
4
4    4,000                                                                         4   10,000

3    7,000                        3
3                                                3    7,000

2   11,000                                                     \$2 Price Ceiling    2    4,000
2
1   16,000                                                                         1    1,000
7,000 Bushel
1
Shortage                   D

0
2   4    6    7 10 12 14 16 18
8
Bushels of Corn (thousands per week)
Rationing Function of Prices
• Ability of the forces of S and D to establish a P
at which selling and buying decisions are
consistent
• At equilibrium, there is no shortage and no
surplus
Efficient Allocation
• Competitive market also allocate societies’
• resources efficiently
• Results in productive efficiency – production of
any particular good in the least costly way
• Also results in allocative efficiency – the
particular mix of G&S most highly valued by
society, assuming minimum-cost production.
• Demand essentially reflects the MB of a good,
while supply reflects MC of producing a good. At
the intersection of the S and D curves, MB=MC,
resulting in allocative efficiency!
Market Equilibrium
• Changes in S and D affect
Equilibrium
• Changes in Equilibrium
• Efficient Allocation
–Productive Efficiency
–Allocative Efficiency
Market Equilibrium   Price Quantity
• Supply Increase;
Demand Decrease            ?
• Supply Decrease;
Demand Increase            ?
• Supply Increase;
Demand Increase     ?
• Supply Decrease;
Demand Decrease     ?
Government-Set Prices
• Price Ceilings on Gasoline
• Rationing Problem
• Black Markets
• Rent Controls
• Price Floors on Wheat
• Optimal Allocation of
Resources
3.2
6.3: Intervention in the Price System:
• At times the government or other entity will
interfere in the price system to keep prices from
going too high.
• Price Ceiling – legal max. price a seller may
charge for a product
• -set below equilibrium price, so a shortage results
• Ex. Rent control – legal price ceilings on rent,
• Ex. gasoline –See p.58
Rationing Resources and Products
• In periods of national emergency, the gov. may
distribute products or resources
• Rationing – way of allocating products using
factors other than price
• -occurred in U.S. during WWII

selling of products
Price Floors
• Gov. decides to intervene in the price system
in order to increase income to certain
producers
• Price Floor –legal minimum price buyers may
pay for a product
• Ex. Minimum wage or price floor on wheat –
See p.59
A Legal Market for Human Organs

•   Waiting List for Transplants
•   Demand for Organs
•   Vertical Supply of Organs
•   Incentive Role of Market and Up-Sloping
Supply
•   Increases Quantity
•   Decreases Price
•   Moral Objections
•   Increase the Cost of Health Care
•   Better to Legalize and Regulate?
A Legal Market for Human Organs
S1        Supply With Price Incentive
P                                       S2
Supply of Organs
Demand for Organs
Shortage at Zero Price
Q1 – Q3

P1

At Price P1 the
Shortage is Reduced
By Q1 – Q2

D1
P0
Q1        Q2               Q3          Q

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