Understanding Economics

3rd edition by Mark Lovewell, Khoa Nguyen and Brennan Thompson

Chapter 2 Demand and Supply

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Learning Objectives


In this chapter, you will:

1.

2.

3.

consider the nature of demand, changes in quantity demanded, changes in demand, and the factors that affect demand examine the nature of supply, changes in quantity supplied, changes in supply, and the factors that affect supply see how markets reach equilibrium the point at which demand and supply meet

Copyright 2005 by McGraw-Hill Ryerson Limited. All rights reserved.

Outline of Topics
  

T1 The Role of Demand T2 The Role of Supply T3 How Competitive Markets Operate

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T1 The Role of Demand

o

What Is Demand? Demand is a relationship between a products price and quantity demanded. Quantity demanded: the amount of a product consumers are willing to purchase at each price
Demand is shown using a schedule or curve. (See figure 2.1 on page 29) Demand curve: a graph that expresses possible combinations of prices and quantities demanded of a product

The law of demand states that price and quantity demanded are inversely related. Market demand : the sum of all consumers quantities demanded for a product at each price in a market. (See Figure 2.2 on page 31)
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The Demand Curve

Figure 2.1, page 29
Your Demand Curve for Strawberries Your Demand Schedule for Strawberries
Price ($ per kg) $2.50 2.00 1.50 Price ($ per kg) Quantity Demanded (kg per month) 7 9 11 Point on graph a b c
0 1 3 5 7 9 11 13 2.50 2.00 1.50 a b c

D
1.00 0.50

Quantity Demanded (kg per month)

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Deriving Market Demand

Figure 2.2, page 31
Your Demand Curve for Strawberries
Price ($ per kg) 2.50 2.00 1.50 1.00 0.50 0 1 2 3 7 4 5 6 Quantity Demanded (kg per month) D0

Friends Demand Curve for Strawberries

Price ($ per kg) 2.50 2.00 1.50 1.00 0.50 0 1 2 3 4 5 6 7 Quantity Demanded (kg per month) D1

Price ($ per kg) $2.50 2.00 1.50

You (D0)

Friend (D1) (kg per month)

Market (Dm)

Price ($ per kg)

Individual and Market Demand Schedules for Strawberries

Market Demand Curve for Strawberries

2.50 2.00 1.50 1.00 0.50 0 1 2 3 4 5 6 7 Dm

1 2 3

2 3 4

3 5 7

Quantity Demanded (kg per month)

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Changes in Demand (a)



Changes in demand:  are shown by shifts in the demand curve  are caused by changes in demand determinants  Demand determinants: factors that can cause an increase or a decrease in a products demand  The five main demand determinants (Would be discussed later)  Number of buyers in a market  Their average Income  Prices of Other Products  Consumer Preferences  Consumer Expectations about future prices and incomes.
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Changes in Demand (b)

Figure 2.3, page 32
Market Demand Curve for Strawberries Market Demand Schedule for Strawberries
Price ($ per kg) Price ($ per kg) $2.50 2.00 1.50 Quantity Demanded (millions of kg) (D2) (D0) (D1) 5 7 9 7 9 11 9 11 13
2.50 2.00 1.50

D2
1.00 0.50

D0

D1

11

13

Quantity Demanded (millions of kg per year)

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Demand Determinants (a)



Demand determinants include the following factors:



The number of buyers (an increase causes a rightward demand shift)  Increase in Demand: an increase in the quantity demanded of a product at all prices  Decrease in Demand: a decrease in the quantity demanded of a product at all prices Income  For normal products, an increase causes a rightward demand shift.  Normal products: products whose demand changes directly with income  For inferior products, an increase causes a leftward demand shift.
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Demand Determinants (b)

Inferior products: products whose demand changes inversely with income For substitute products, a rise in the other products price causes a rightward demand shift.



Substitute Products: products that can be consumed in place of one another

For complementary products, a rise in the other products price causes a leftward demand shift.


Complementary products: products that are consumed together

 

Consumer preferences Consumer expectations

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Changes in Quantity Demanded (a)



Changes in quantity demanded:



are shown by movements along demand curve are caused by price changes See Figure 2.4, page 33

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Changes in Quantity Demanded (b)

Figure 2.4, page 33

Change in Quantity Demanded

Change in Demand

Price ($ per pair of skis)

2.00 1.50 1.00 0.50

a b

Price ($ per pair of skis)

2.00 1.50 1.00 0.50 D0 D1

D0

5000 6000 Quantity Demanded (pairs of skis)

5000 Quantity Demanded (pairs of skis)

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T2, The role of Supply



What Is Supply? Supply:  is a relationship between a products price and quantity supplied  is shown using a schedule or curve Quantity supplied:the amount of a product businesses are willing to supply at each price  Supply curve: a graph that expresses possible combinations of prices an quantities supplied of a product ( see Figure 2.5, page 35) The law of supply states there is a direct relationship between price and quantity supplied.
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The Supply Curve

Figure 2.5, page 35
Market Supply Curve for Strawberries Market Supply Schedule for Strawberries
Price Quantity Supplied Points ($ per kg) (millions of kg) on graph $1.50 2.00 2.50 5 9 13 d e f
f 2.50 2.00 1.50 1.00 0.50 d e

Price ($ per kg)

11

13

Quantity Supplied (millions of kg per year)

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14

Changes in Supply (a)



Changes in supply:
   

are shown by shifts in the supply curve are caused by changes in supply determinants Supply determinants: factors that can cause an increase or a decrease in a products supply The six main supply determinants (Would be discussed closely later)

The number of producers  Resource prices  The state of technology  Changes in nature  The price of related products  Producer expectation

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Changes in Supply (b)

Figure 2.6, page 36
Market Supply Curve for Strawberries Market Supply Schedule for Strawberries
Price ($ per kg) Price ($ per kg) $2.50 2.00 1.50 Quantity Supplied (millions of kg) (S2) 11 7 3 (S0) 13 9 5 (S1) 15 11 7
0 1 3 5 7 9 11 13 15

S2
2.50 2.00 1.50 1.00 0.50

S0 S1

Quantity Supplied (millions of kg per year)

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Supply Determinants (a)



Supply determinants include the following factors:



Number of producers (an increase causes a rightward supply shift)

Increase in supply: an increase in the quantity supplied of a product at all prices  Decrease in supply: a decrease in the quantity supplied of a product at all prices

  

Resource prices (an increase causes a leftward supply shift because of an increase of costs) State of technology (an improvement causes a rightward supply shift) Prices of related products (example: a declines in the price of tobacco, the supply for ginseng increases a rightward supply shift of ginseng)
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Supply Determinants (b)



Changes in nature (an improvement causes a rightward shift for some products) See other examples on page 37 Producer expectations (an expectation of lower prices in the future causes an immediate rightward supply shift)

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Changes in Quantity Supplied (a)



Changes in quantity supplied:



 

are shown by movements along the supply curve are caused by price changes See Figure 2.7, page 38

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Changes in Quantity Supplied (b)

Figure 2.7, page 38
Change in Quantity Supplied
120 100 a S0 b 120 100

Change in Supply
S0 S1

Price ($ per kg)

80 60 40 20 1 2

Price ($ per kg)

80 60 40 20 1 2

Quantity Supplied (millions of kg per year)

Quantity Supplied (millions of kg per year)

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T 3, How Competitive Markets Operate



Market Equilibrium: the stable point at which demand and supply curves intersect ( the quantity demanded = the quantity supplied) When a product is in surplus:  Surplus: an excess of quantity supplied over quantity demand  there is excess supply  price is pushed down When a product is in shortage:  Shortage: an excess of quantity demanded over quantity supplied  there is excess demand  price is pushed up
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Market Equilibrium
Figure 2.8, page 40
Market Demand and Supply Schedules for Strawberries
Surplus (+) or Shortage (-) (millions of kg)

Market Demand and Supply Curves for Strawberries

S 3.00 2.50 Price ($ per kg) 2.00 1.50 1.00 b
Shortage Surplus

Price ($ per kg)

Quantities
(millions of kg) D S

a e

$3.00 2.50 2.00 1.50 1.00

5 7 9 11 13

13 11 9 7 5

+8 +4 0 -4 -8

9 11 13 5 7 Quantity (millions of kg per year) 3

15

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22

Changes in Equilibrium


A rightward demand shift pushes up both equilibrium price and quantity. A leftward demand shift pushes down both equilibrium price and quantity. A rightward supply shift pushes equilibrium price down and equilibrium quantity up. A leftward supply shift pushes equilibrium price up and equilibrium quantity down.

Copyright 2005 by McGraw-Hill Ryerson Limited. All rights reserved.

23

Demand Changes and Equilibrium

Figure 2.9, page 41
Market Demand and Supply Curves for Strawberries Market Demand and Supply Schedules for Strawberries Price ($ per kg)
Price ($ per kg.) $3.00 2.50 2.00 1.50 1.00 Quantities (D0) (D1) (S) (millions of kg) 5 7 9 11 13 9 11 13 15 17 13 11 9 7 5 0 1 3 5 7 9 11 13 15 17 S 3.00 2.50 2.00 1.50 1.00 a b

shortage
D0 D1

Quantity (millions of kg per year)

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Supply Changes and Equilibrium

Figure 2.10, page 42
Market Demand and Supply Curves for Strawberries Market Demand and Supply Schedules for Strawberries Price ($ per kg)
Price ($ per kg) $3.00 2.50 2.00 1.50 1.00 Quantities (D0) (S0) (S1) (millions of kg) 5 7 9 11 13 13 11 9 7 5 17 15 13 11 9 0 1 3 5 7 9 11 13 15 17 S0 3.00 2.50 a 2.00 b 1.50 1.00 D0 Surplus S1

Quantity (millions of kg per year)

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