In todays lesson we will consider: The basic supply concept The basic demand concept Equilibrium market prices

How the above affects business organisations

Copyright 2004 South-Western

2
SUPPLY AND DEMAND I: HOW MARKETS WORK

The Market Forces of Supply and Demand

Copyright 2004 South-Western

 Supply and demand are the two words that economists use most often. Supply and demand are the forces that make market economies work. Modern economics is about supply, demand, and market equilibrium.

Copyright 2004 South-Western

MARKETS AND COMPETITION

A market is a group of buyers and sellers of a particular good or service.

The terms supply and demand refer to the behaviour of people . . . as they interact with one another in markets.

Copyright 2004 South-Western

MARKETS AND COMPETITION

Buyers determine demand.

Sellers determine supply

Copyright 2004 South-Western

Competitive Markets
A competitive market is a market in which there are many buyers and sellers so that each has little impact on the market price. For the purpose of these exercises, it will be assumed there is perfect competition.

Copyright 2004 South-Western

Competition: Perfect and Otherwise

Perfect Competition
Products are the same Numerous buyers and sellers so that each has no influence over price

Monopoly
One seller, and seller controls price

Copyright 2004 South-Western

DEMAND
Quantity demanded is the amount of a good that buyers are willing and able to purchase. Law of Demand
The law of demand states that, other things equal, the quantity demanded of a good falls when the price of the good rises.

Copyright 2004 South-Western

The Demand Curve: The Relationship between Price and Quantity Demanded
Demand Schedule
The demand schedule is a table that shows the relationship between the price of the good and the quantity demanded.

Copyright 2004 South-Western

Catherines Demand Schedule

Copyright 2004 South-Western

The Demand Curve: The Relationship between Price and Quantity Demanded
Demand Curve
The demand curve is a graph of the relationship between the price of a good and the quantity demanded. EXERCISE using Catherines demand schedule, put draw a demand curve for Catherines ice cream. Does it follow the law of demand?

Copyright 2004 South-Western

Figure 1 Catherines Demand Schedule and Demand Curve

Price of Ice-Cream Cone $3.00 2.50 1. A decrease in price ...

2.00
1.50 1.00 0.50 0 1 2 3 4 5 6 7 8 9 10 11 12 Quantity of Ice-Cream Cones 2. ... increases quantity of cones demanded.
Copyright 2004 South-Western

Market Demand versus Individual Demand

Market demand refers to the sum of all individual demands for a particular good or service. Graphically, individual demand curves are summed horizontally to obtain the market demand curve.

Copyright 2004 South-Western

Movement in the Demand Curve

Change in Quantity Demanded

Movement along the demand curve. Caused by a change in the price of the product.

Copyright 2004 South-Western

Changes in Quantity Demanded

Price of IceCream Cones

$2.00

A tax that raises the price of ice-cream cones results in a movement along the demand curve.
A

1.00

D
0

Quantity of Ice-Cream Cones

Copyright 2004 South-Western

Shifts in the Demand Curve due to factors other than Price

The demand curve for ice cream shows how much ice cream people buy at any given price. However, there are many other factors beyond price that influence customers buying decisions. Consumer income Prices of related goods (eg frozen yoghurt) Tastes (changing due to health reasons) Expectations (about the future may affect Your demand today eg if your income is going To increase next month, you may be willing to buy more Number of buyers (if buyers increase, demand curve would shift to the right.
Copyright 2004 South-Western

Shifts in the Demand Curve

Change in Demand
A shift in the demand curve, either to the left or right. Caused by any change that alters the quantity demanded other than price changes.

Copyright 2004 South-Western

Figure 3 Shifts in the Demand Curve

Price of Ice-Cream Cone Increase in demand

Decrease in demand
Demand curve, D2 Demand curve, D1 Demand curve, D3 0 Quantity of Ice-Cream Cones
Copyright2003 Southwestern/Thomson Learning

Table 1 Variables That Influence Buyers

Copyright2004 South-Western

SUPPLY
Quantity supplied is the amount of a good that sellers are willing and able to sell. Law of Supply
The law of supply states that, other things equal, the quantity supplied of a good rises when the price of the good rises. (When the price of ice cream is high, selling ice cream is profitable, so the quantity supplied is large). When the price of ice cream falls, the quantity supplied falls as well.
Copyright 2004 South-Western

The Supply Curve: The Relationship between Price and Quantity Supplied
Supply Schedule
The supply schedule is a table that shows the relationship between the price of the good and the quantity supplied.

Copyright 2004 South-Western

Bens Supply Schedule

Copyright 2004 South-Western

The Supply Curve: The Relationship between Price and Quantity Supplied Supply Curve
The supply curve is the graph of the relationship between the price of a good and the quantity supplied. EXERCISE Draw a supply curve for Ben who supplies ice cream (on the same graph as Catherines demand curve) Does the law of supply apply?

Copyright 2004 South-Western

Figure 5 Bens Supply Schedule and Supply Curve

Price of Ice-Cream Cone $3.00

1. An increase in price ...

2.50 2.00 1.50 1.00

0.50

1 2

9 10 11 12 Quantity of Ice-Cream Cones

Copyright2003 Southwestern/Thomson Learning

2. ... increases quantity of cones supplied.

Market Supply versus Individual Supply

Market supply refers to the sum of all individual supplies for all sellers of a particular good or service. Graphically, individual supply curves are summed horizontally to obtain the market supply curve.

Copyright 2004 South-Western

Shifts in the Supply Curve (caused by factors other than Price) What influences producers decisions about how much to sell? Input prices (raw ingredient prices) Technology (mechanisation) Expectations (for the future)? Number of sellers

Copyright 2004 South-Western

Shifts in the Supply Curve

Change in Quantity Supplied
Movement along the supply curve. Caused by a change in anything that alters the quantity supplied.

Copyright 2004 South-Western

Change in Quantity Supplied

Price of IceCream Cone

S
C A rise in the price of ice cream cones results in a movement along the supply curve.

$3.00

1.00

Quantity of Ice-Cream Cones

Copyright 2004 South-Western

Shifts in the Supply Curve

Change in Supply
A shift in the supply curve, either to the left or right. Caused by a change in a determinant other than price.

Copyright 2004 South-Western

Figure 7 Shifts in the Supply Curve

Price of Ice-Cream Cone

Supply curve, S3

Supply curve, S1

Decrease in supply

Supply curve, S2

Increase in supply

Quantity of Ice-Cream Cones

Copyright2003 Southwestern/Thomson Learning

Table 2 Variables That Influence Sellers

Copyright2004 South-Western

SUPPLY AND DEMAND TOGETHER

Equilibrium refers to a situation in which the price has reached the level where quantity supplied equals quantity demanded.

Copyright 2004 South-Western

SUPPLY AND DEMAND TOGETHER

Equilibrium Price
The price that balances quantity supplied and quantity demanded. On a graph, it is the price at which the supply and demand curves meet.

Equilibrium Quantity
The quantity supplied and the quantity demanded at the equilibrium price. On a graph it is the quantity at which the supply and demand curves meet.
Copyright 2004 South-Western

SUPPLY AND DEMAND TOGETHER

Demand Schedule Supply Schedule

At $2.00, the quantity demanded is equal to the quantity supplied!

Copyright 2004 South-Western

Figure 8 The Equilibrium of Supply and Demand

Price of Ice-Cream Cone

Supply

Equilibrium price $2.00

Equilibrium

Equilibrium quantity 0 1 2 3 4 5 6 7 8

Demand

9 10 11 12 13 Quantity of Ice-Cream Cones

Copyright2003 Southwestern/Thomson Learning

Equilibrium
Law of supply and demand
The claim that the price of any good adjusts to bring the quantity supplied and the quantity demanded for that good into balance.

Copyright 2004 South-Western

Figure 10 How an Increase in Demand Affects the Equilibrium

Price of Ice-Cream Cone 1. Hot weather increases the demand for ice cream . . .

Supply $2.50 New equilibrium

2.00
2. . . . resulting in a higher price . . . Initial equilibrium D D 0 3. . . . and a higher quantity sold. 7 10 Quantity of Ice-Cream Cones
Copyright2003 Southwestern/Thomson Learning

Three Steps to Analyzing Changes in Equilibrium Shifts in Curves versus Movements along Curves
A shift in the supply curve is called a change in supply. A movement along a fixed supply curve is called a change in quantity supplied. A shift in the demand curve is called a change in demand. A movement along a fixed demand curve is called a change in quantity demanded.
Copyright 2004 South-Western

Figure 11 How a Decrease in Supply Affects the Equilibrium

Price of Ice-Cream Cone S2 1. An increase in the price of sugar reduces the supply of ice cream. . .

S1

$2.50

New equilibrium Initial equilibrium

2.00
2. . . . resulting in a higher price of ice cream . . .

Demand

7 3. . . . and a lower quantity sold.

Quantity of Ice-Cream Cones

Copyright2003 Southwestern/Thomson Learning

Table 4 What Happens to Price and Quantity When Supply or Demand Shifts?

Copyright2004 South-Western

Summary
Economists use the model of supply and demand to analyze competitive markets. In a competitive market, there are many buyers and sellers, each of whom has little or no influence on the market price.

Copyright 2004 South-Western

Summary
The demand curve shows how the quantity of a good depends upon the price.
According to the law of demand, as the price of a good falls, the quantity demanded rises. Therefore, the demand curve slopes downward. In addition to price, other determinants of how much consumers want to buy include income, the prices of complements and substitutes, tastes, expectations, and the number of buyers. If one of these factors changes, the demand curve shifts.
Copyright 2004 South-Western

Summary
The supply curve shows how the quantity of a good supplied depends upon the price.
According to the law of supply, as the price of a good rises, the quantity supplied rises. Therefore, the supply curve slopes upward. In addition to price, other determinants of how much producers want to sell include input prices, technology, expectations, and the number of sellers. If one of these factors changes, the supply curve shifts.
Copyright 2004 South-Western

Summary
Market equilibrium is determined by the intersection of the supply and demand curves. At the equilibrium price, the quantity demanded equals the quantity supplied. The behavior of buyers and sellers naturally drives markets toward their equilibrium.

Copyright 2004 South-Western

Summary
To analyze how any event influences a market, we use the supply-and-demand diagram to examine how the even affects the equilibrium price and quantity. In market economies, prices are the signals that guide economic decisions and thereby allocate resources.

Copyright 2004 South-Western