03

Demand, Supply, and Market Equilibrium

McGraw-Hill/Irwin

Copyright 2012 by The McGraw-Hill Companies, Inc. All rights reserved.

Markets

Interaction between buyers and

sellers
Markets may be

Local
National
International

Price is discovered in the interactions

of buyers and sellers
LO1

3-2

Demand

Schedule or curve
Amount consumers are willing and

LO1

able to purchase at a given price

Other things equal
Individual demand
Market demand

3-3

Law of Demand
Other things equal, as price falls the
quantity demanded rises, and as
price rises the quantity demanded
falls
Reasons
Common sense
Law of diminishing marginal utility
Income effect and substitution effects
LO1

3-4

The Demand Curve

P
6

P Qd
$5 10
4 20
3 35
2 55

Price (per bushel)

1 80
0

10

20

30

40

50

60

70

80

Quantity Demanded (bushels per week)

LO1

3-5

Changes in Demand
P

Change in Demand

Price (per bushel)

Change in Quantity
Demanded

D2

D1

D3
0

10

12

14

16

18 Q

Quantity Demanded (bushels per week)

LO1

3-6

Determinants of Demand
Determinants of Demand: Factors That Shift the Demand Curve
Determinant

Examples

Change in buyers tastes

Physical fitness rises in popularity, increasing the

demand for jogging shoes and bicycles; cell phone
popularity rises, reducing the demand for land-line
phones.

Change in the number of buyers

A decline in the birthrate reduces the demand for

childrens toys.

Change in income

A rise in incomes increases the demand for normal

goods such as restaurant meals, sports tickets, and
necklaces while reducing the demand for inferior
goods such as cabbage, turnips, and inexpensive
wine.

Change in the prices of related

goods

A reduction in airfares reduces the demand for bus

transportation (substitute goods); a decline in the price
of DVD players increases the demand for DVD movies
(complementary goods).

Change in consumer expectations

Inclement weather in South America creates an

expectation of higher future coffee bean prices,
thereby increasing todays demand for coffee beans.

LO1

3-7

Supply

Schedule or curve
Amount producers are willing and

LO2

able to sell at a given price

Individual supply
Market supply

3-8

Law of Supply

Other things equal, as the price rises

LO2

the quantity supplied rises, and as the

price falls the quantity supplied falls
Reasons
Price acts as an incentive to
producers
At some point, costs will rise

3-9

The Supply Curve

P

Qs
per
Week

$5

60

50

35

20

Price (per bushel)

Supply of Corn

Price
per
Bushel

10

20

30

40

50

60

70

Quantity supplied (bushels per week)

LO2

3-10

Changes in Supply
P
$6

Change in Quantity
S3
Supplied

S1

Price (per bushel)

S2
4

Change in Supply

10

12

14

16 Q

Quantity supplied (thousands of bushels per week)

LO2

3-11

Determinants of Supply
Determinants of Supply: Factors That Shift the Supply Curve
Determinant

Examples

Change in resource prices

A decrease in the price of microchips increases the

supply of computers; an increase in the price of crude
oil reduces the supply of gasoline.

Change in technology

The development of more effective wireless

technology increases the supply of cell phones.

Change in taxes and subsidies

An increase in the excise tax on cigarettes reduces the

supply of cigarettes; a decline in subsidies to state
universities reduces the supply of higher education.

Change in prices of other goods

An increase in the price of cucumbers decreases the

supply of watermelons.

Change in producer expectations

An expectation of a substantial rise in future log prices

decreases the supply of logs today.

Change in the number of suppliers

An increase in the number of tattoo parlors increases

the supply of tattoos; the formation of womens
professional basketball leagues increases the supply
of womens professional basketball games.

LO2

3-12

Market Equilibrium

Equilibrium occurs where the demand

curve and supply curve intersect

Surplus and shortage
Rationing functions of prices

The ability of the competitive forces of

demand and supply to establish a price
at which selling and buying decisions
are consistent

LO3

3-13

Market Equilibrium
6

6,000 Bushel
Surplus

Qd

$5

2,000

4,000

7,000

11,000

16,000

Price (per bushel)

4
3
2

7,000 Bushel
Shortage

1
0

67

10

Qs

$5

12,000

10,000

7,000

4,000

1,000

D
12

14

16

18

Bushels of Corn (thousands per week)

LO3

3-14

`
Changes in Demand
and Equilibrium

D increase:
P, Q

D decrease:
P, Q

P
S

D2

D3

D1
0

Increase in demand

LO4

D4

Decrease in demand

3-15

` and
Changes
Changesin
inDemand
Supply
andEquilibrium
Equilibrium

S increase:
P, Q

S decrease:
P, Q

P
S1

S4

S2

Increase in supply

LO4

S3

Decrease in supply

3-16

Government-Set Prices

Price Ceilings
Set below equilibrium price
Rationing problem
Black markets
Example: Rent control

LO5

3-17

Government-Set Prices
P

$3.50 P0

Ceiling

3.00 PC
D

Shortage

Qs

LO5

Q0

Qd

3-18

Government-Set Prices

Price Floors
Prices are set above the market

LO5

price
Chronic surpluses
Example: Minimum wage laws

3-19

Government-Set Prices
P
S

Surplus

Floor
$3.00 Pf

2.00 P0

Q
Qd

LO5

Q0

Qs

3-20