Session 2 PPT Demand-And-Supply
Session 2 PPT Demand-And-Supply
Session 2 PPT Demand-And-Supply
• Example: The theory of supply and demand can help you make a
prediction about the effect of unusually cold weather on the price and
the quantity traded of home heating oil in New York
SUPPLY AND DEMAND 2
We need a theory of prices and quantities
• The theory of demand and supply is a simple example of an
economic theory
• It can be used to make predictions about
– the price and
– the quantity traded of some commodity
• Example: When I refer to the “market for coffee”, I simply mean the
buyers and sellers of coffee and the rules they obey when they trade
• Can you guess the circumstances in which the price of a commodity will
be low?
DEMAND
2.50
1. A decrease
2.00
in price ...
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.
SUPPLY AND DEMAND 13
Copyright © 2004 South-Western
Market Demand is the Sum of Individual Demands
3.00 0 2
SUPPLY AND DEMAND Quantity Demanded 19
Shifts in the Market Demand Curve
• … are caused by changes in:
– Consumer income
– Prices of related goods
– Tastes
– Expectations, say, about future prices and prospects
– Number of buyers
Increase
in demand
Decrease
in demand
Demand
curve, D 2
Demand
curve, D 1
Demand curve, D 3
0 Quantity of
SUPPLY AND DEMAND Ice-Cream Cones 21
Shifts in the Demand Curve
• Consumer Income
– As income increases the demand for a normal good will increase
– As income increases the demand for an inferior good will decrease
• Example:
• Restaurant food is a normal good
• Demand shifts right when incomes rise
• Fast food is an inferior good Price
• Demand shifts left when incomes rise
Quantity Demanded
SUPPLY AND DEMAND 22
Shifts in the Demand Curve
• Prices of Related Goods
– When a fall in the price of one good reduces the demand for another good,
the two goods are called substitutes
– When a fall in the price of one good increases the demand for another good,
the two goods are called complements
• Example:
• Pepsi and Coke are substitutes Price
• Pepsi’s demand shifts left when Coke’s price falls
• Cars and gasoline are complements
• The demand for cars shifts right when the price of gas falls
Quantity Demanded
SUPPLY AND DEMAND 23
How can we describe the behavior of sellers?
SUPPLY
0 1 2 3 4 5 6 7 8 9 10 11 12
Quantity of Ice-Cream Cones
26
Market supply and individual supplies
27
Market supply and individual supplies
Ben’s Jerry’s Market
supply + supply = supply
Price of Price of Price of
Ice Ice Ice
Cream Cream Cream
Cones SBen Cones Cones
$3.00 $3.00 $3.00 SMarket
SJerry
2.50 2.50 2.50
0 1 2 3 4 5 6 7 8 9 10 11 12 0 1 2 3 4 5 6 7 0 2 4 6 8 10 12 14 16 18
Quantity of Ice-Cream Cones Quantity of Quantity of Ice-Cream Cones
Ice-Cream Cones
28
Law of Supply
• The law of supply states that, the quantity supplied of a good
rises when the price of the good rises, and vice versa, as long
as all other factors that affect suppliers’ decisions are
unchanged
Increase
in supply
0 Quantity of
SUPPLY AND DEMAND Ice-Cream Cones 32
Shifts in the Supply Curve…
• … are caused by changes in
– Input prices
– Technology
– Number of sellers (short run)
• The market supply will shift right if
– Raw materials or labor becomes cheaper
– The technology becomes more efficient
– Number of sellers increases
EQUILIBRIUM
2.50 Equilibrium
price Equilibrium
2.00
1.50
1.00
Equilibrium Demand
0.50 quantity
0 1 2 3 4 5 6 7 8 9 10 11 12
Quantity of Ice-Cream Cones
38
Equilibrium
• Can we justify the assumption of equilibrium?
39
When Markets are Not in Equilibrium
2.00
Demand
0 4 7 10 Quantity of
Quantity Quantity Ice-Cream
demanded supplied Cones
SUPPLY AND DEMAND 40
Justifying Equilibrium
• Surplus
– When the price exceeds equilibrium price, the
quantity supplied exceeds the quantity
demanded
• This is called excess supply or a surplus
• Suppliers will be forced to cut their prices, thereby
moving closer to equilibrium
$2.00
1.50
Shortage
Demand
0 4 7 10 Quantity of
Quantity Quantity Ice-Cream
supplied demanded Cones
SUPPLY AND DEMAND 42
When Markets are Not in Equilibrium
• Shortage
– When the price is less than the equilibrium price,
the quantity demanded exceeds the quantity
supplied
• This is called excess demand or a shortage
• Suppliers will raise the price, because too many
buyers are chasing too few goods, thereby moving
closer to equilibrium
Labor
Labor surplus Supply
(unemployment)
Too-high
wage
Labor
demand
0 Quantity Quantity Quantity of
demanded supplied Labor
SUPPLY AND DEMAND 46
Are we there yet?? Is the theory of supply and demand of any use?
MAKING PREDICTIONS
0 7 10 Quantity of
3. . . . and a higher Ice-Cream Cones
quantity sold. SUPPLY AND DEMAND 49
How a Decrease in Supply Affects the Equilibrium
Price of
Ice-Cream 1. An increase in the
Cone price of sugar reduces
the supply of ice cream. . .
S2
S1
0 4 7 Quantity of
3. . . . and a lower Ice-Cream Cones
quantity
SUPPLY AND DEMANDsold. 50
A Shift in Both Supply and Demand
Event Effect on Price Effect on Quantity
Demand increases Up Up
Supply decreases Up Down
Both Up Ambiguous