MICROECONOMIC THEORY

INDIVIDUAL MARKETS
Demand & Supply

D
q

In this chapter you will learn

What markets are
What demand is and what factors
affect it
What supply is and what factors
affect it
How demand and supply together
determine market equilibrium

CHAPTER 3 TOPICS

MARKETS
DEMAND
SUPPLY
SUPPLY & DEMAND:
EQUILIBRIUM

MARKET

MARKETS
HOW ARE PRICES DETERMINED IN A
MARKET SYSTEM?
...BY INTERACTION BETWEEN
BUYERS SELLERS IN MARKETS
BY MARKETS WE MEAN

INSTITUTIONS THAT
BRING TOGETHER
BUYERS AND SELLERS

MARKETS
for example:
corner gas station
farmers market
Philippine Stock Exchange
etc.

ASSUMPTIONS
Competitive markets:
many independent buyers & sellers
standardized products

CHAPTER 2 TOPICS
MARKETS
DEMAND
SUPPLY
SUPPLY & DEMAND:
EQUILIBRIUM

MARKET

DEMAND
a schedule or a curve that shows the
various amounts consumers are
willing and able to purchase at each
of a series of possible prices, during
some specified period of time

DEMAND
The information
can be
presented in a
demand
schedule
DEMAND

Qd

$1

80

$2

55

$3

35

$4

20

$5

10

DEMAND
The information
can be
presented in a
demand
schedule

quantity
demanded

Qd

$1

80

$2

55

$3

35

$4

20

$5

10

or graphed
P

Qd

$1

80

$2

55

$3

35

$4

20

$5

10
12

or graphed
P

Qd

$1

80

$2

55

$3

35

$4

20

$5

10
13

or graphed
P

Qd

$1

80

$2

55

$3

35

$4

20

$5

10
14

or graphed
P

Qd

$1

80

$2

55

$3

35

$4

20

$5

10

2002 McGraw-Hill Ryerson Ltd.

Chapter 3

15

or graphed
P

Qd

$1

80

$2

55

$3

35

$4

20

$5

10
16

or graphed
P

Qd

$1

80

$2

55

$3

35

$4

20

$5

10
17

LAW OF DEMAND
ceteris paribus (all else equal), as
price falls, the quantity demanded
rises (& vice versa)
supported by:
concept of diminishing marginal utility
income effect
substitution effect

INDIVIDUAL VS. MARKET DEMAND

price

QD1st QD2nd
QD
buyer
market
buyer

+ 12 = 22

$5

10

$4

20

23

43

$3

35

39

74

$2

55

60

115

$1

80

87

167

Individual Demand 2
$5

$4

$4

$3

$3

price

$5

$2

$2

$1

$1

$0

$0

20

3540

60

80

quantity

20

40
39

60

80

quantity

Market Demand
$5
$4
price

price

Individual Demand 1

$3
$2
$1
$0
0

50

74

100

150

quantity

20

DETERMINANTS OF
DEMAND
PRICE is the most important
influence on the amount of any
product purchased
a change in price yields a movement
along the demand curve & a change
in quantity demanded

PA
P1
P2

Q1 Q2

movement along the

curve

QA

change in price
change in quantity
demanded

CHANGE IN DEMAND
PA

QA

when any OTHER

determinant changes
shift in the demand curve

CHANGE IN DEMAND
Demand Shifters are changes in:
tastes (preferences)
number of buyers
income
prices of related goods
expectations
lets examine these more closely

CHANGE IN DEMAND
Changes in tastes (preferences)
positive change shifts D curve right
more will be demanded at each price
PA

not up
or down

QA

CHANGE IN DEMAND
Changes in number of buyers:
increase will shift curve right
PA

QA

CHANGE IN DEMAND
Changes in money incomes:
when income increases
demand for NORMAL goods
increases
demand for INFERIOR goods
decreases

CHANGE IN DEMAND
Changes in prices of related goods:
when two products are
SUBSTITUTES,
SUBSTITUTES price of one &
demand for the other are positively
related

CHANGE IN DEMAND
Changes in prices of related goods:
when two products are
COMPLEMENTS,
COMPLEMENTS price of one &
demand for the other are negatively
related

CHANGE IN DEMAND
Changes in prices of related goods:
when products are unrelatedno
effect

CHANGE IN DEMAND
Changes in expectations:
about future prices or incomes

price

NOT
demand!

Decrease in QD

Increase in QD

D
quantity

If the price of a good changes, but all other

influences on buyers plans are held constant,
there is a change in quantity demanded, but
no change in demand.

Figure 3-3
price

Increase in D

Decrease in D
D
quantity

If any other determinant of demand changes

(tastes, no. of buyers, income, etc.) there is a
change in demand, and a shift in the demand
curve.

CHAPTER 2 TOPICS
MARKETS
DEMAND
SUPPLY
SUPPLY & DEMAND:
EQUILIBRIUM

MARKET

SUPPLY
a schedule or a curve showing the
amounts that producers are willing
and able to make available for sale at
each of a series of possible prices,
during some specified period of time

SUPPLY
P
The information
could be captured in
a supply schedule...

SUPPLY

Qs

$1

$2

20

$3

35

$4

50

$5

60

SUPPLY
P
The information
could be captured in
a supply schedule...

quantity
supplied

Qs

$1

$2

20

$3

35

$4

50

$5

60

or graphed
Qs

$1

$2

20

$3

35

$4

50

$5

60

Supply
6
5
4
price

3
2
1
0
0

10

20

30

40

50

60

quantity

38

LAW OF SUPPLY
all else being constant, as price rises,
the quantity supplied rises (& vice
versa)
why?
price is revenue to suppliers
higher price necessary to induce higher
supply, to cover higher costs of
production

INDIVIDUAL VS. MARKET SUPPLY

Price

Qs - One
Firm

200
QsFirms In Market
Market

$5

60

200

12,000

$4

50

200

10,000

$3

35

200

7,000

$2

20

200

4,000

$1

200

1,000

Individual Firm Supply

6
5

price

4
3
2
1
0
0

10

20

30
quantity

40

50

60

Market Supply
6
5
price

4
3
2
1
0
0

5000
quantity

10000

DETERMINANTS OF SUPPLY
PRICE is the most important
determinant of quantity supplied
a change in price yields a movement
along the supply curve & a change in
quantity supplied

PA
P2
P1

Q1 Q2

movement along the

curve
QA

change in price
change in quantity
supplied

CHANGE IN SUPPLY
PA

QA

when any OTHER

determinant changes
shift in the SUPPLY curve

DETERMINANTS OF SUPPLY
Supply Shifters are changes in:
resource prices
technology
taxes & subsidies
prices of other goods
price expectations
number of sellers
lets examine these more closely

DETERMINANTS OF SUPPLY
Changes in resource prices:
decrease will increase supply &
shift curve right
more will be supplied at each price
PA

S
not up
or down
QA

DETERMINANTS OF SUPPLY
Changes in technology:
new technology will decrease costs
& increase supply
PA

QA

DETERMINANTS OF SUPPLY
Changes in taxes & subsidies:
increases in taxes will reduce
supply
PA

QA

DETERMINANTS OF SUPPLY
Changes in prices of other goods:
higher prices of substitutes in
production will reduce supply
PA

QA

DETERMINANTS OF SUPPLY
Changes in price expectations:
of the future price of a product
difficult to generalize

DETERMINANTS OF SUPPLY
Changes in number of sellers:
as the number of sellers increases,
so does supply

price

Increase in QS

NOT supply!

Decrease in QS
quantity

If the price of a good changes, but all other

influences on producers plans are held constant,
there is a change in quantity supplied, but no
change in supply.

Figure 3-4
price

Decrease in S

Increase in S
quantity

If any other determinant of supply changes

(resource prices, technology, etc.) there is a
change in supply, and a shift in the supply
curve.

CHAPTER 2 TOPICS
MARKETS
DEMAND
SUPPLY
SUPPLY & DEMAND:
EQUILIBRIUM

MARKET

EQUILIBRIUM
equilibrium price will be established
where the supply decisions of
producers and the demand decisions
of buyers are mutually consistent
surpluses drive prices down
shortages drive prices up

EQUILIBRIUM
lets look at the process of
adjustment to equilibrium graphically

Equilibrium
6000-bushel
surplus

S
$4 is not the
equilibrium
price
D

Equilibrium
Figure 3-5

Price (per bushel)

5
4

$2 is not the
equilibrium
D
price

3
2
1
0
0

7000-bushel
4
6
8
10
shortage

12

14

Bushels of corn (thousands per week)

16

18

Equilibrium
Figure 3-5

$3 is the
equilibrium
price S

Price (per bushel)

6
5
4
3
2

QD=QS

0
0

10

12

14

Bushels of corn (thousands per week)

16

18

Changes in Supply, Demand &

Equilibrium
changes in demand or supply will
affect the equilibrium price and
quantity

INCREASE IN DEMAND
P D1

D2

p1
q1

q3

An increase in demand will cause:

a shortage at the original price p1

62

INCREASE IN DEMAND
P D1

D2

p2
p1
q1 q2 q3

price has increased

from p1 to p2,
quantity traded has
increased from q1
to q2
Q

Consumers will bid price upNOT

to p2an
increase in
QS will increase, QD will decrease
new equilibrium reached at p2supply
, q2
63

DECREASE IN DEMAND
D1

P D2

p1

q3

q1

An decrease in demand will cause:

a surplus at the original price p1

64

DECREASE IN DEMAND
P D2

D1

p1
p2
q3 q2 q1

price has
decreased from p1
to p2,
quantity traded
has decreased
from q1 to q2
Q

NOT
a
Producers will drop price to p
2
QS will decrease, QD will decrease
increase in
new equilibrium reached at p2supply
, q2
65

INCREASE IN SUPPLY
P

S1

S2

p1

q1

q3

An increase in supply will cause:

a surplus at the original price p1

66

INCREASE IN SUPPLY
P

S1

p1
p2

q1 q2 q3

S2

price has
decreased from p1
to p2,
quantity traded
has increased
from
Q q1 to q2

Producers will drop price to p2

QS will decrease, QD will increase
new equilibrium reached at p2, q2
67

DECREASE IN SUPPLY
P

S2

S1

p1
q3

q1

An decrease in supply will cause:

a shortage at the original price p1

68

DECREASE IN SUPPLY
P

S2

p2
p1
q3 q2 q1

S1

price has
increased from p1
to p2,
quantity traded
has decreased
from
Q q1 to q2

Consumers will bid price up to p2

QS will increase, QD will decrease
new equilibrium reached at p2, q2
69

Complex Cases
when both supply and demand
change, the effect is a combination
of the individual effects
if both demand and supply shift, one
of either price or quantity cannot be
predicted-the result is indeterminate

Complex Cases
Table 3-9
Change in Change in Effect on
supply
demand
equilibrium
price

Effect on
equilibrium
quantity

Increase

Decrease

Decrease

Indeterminate

Decrease

Increase

Increase

Indeterminate

Increase

Increase

Indeterminate Increase

Decrease

Decrease

Indeterminate Decrease

Complex Cases
A Reminder: Other Things Equal
Application: Pink Salmon

CHAPTER 3 TOPICS
MARKETS
DEMAND
SUPPLY
SUPPLY & DEMAND:
EQUILIBRIUM

MARKET

T
X
NE
APPLICATION AND
ELASTICITY