Demand in Output Markets

ANNA'S DEMAND
• A demand schedule
SCHEDULE FOR is a table showing
TELEPHONE CALLS how much of a given
QUANTITY product a household
PRICE DEMANDED
(PER (CALLS PER would be willing to
CALL) MONTH) buy at different prices.
$ 0 30
0.50 25
3.50 7 • Demand curves are
7.00 3
10.00 1
usually derived from
15.00 0 demand schedules.

© 2002 Prentice Hall Business Publishing Principles of Economics, 6/e Karl Case, Ray Fair
 The Demand Curve

ANNA'S DEMAND
SCHEDULE FOR
• The demand curve is
TELEPHONE CALLS a graph illustrating
PRICE
QUANTITY
DEMANDED
how much of a given
(PER
CALL)
(CALLS PER
MONTH)
product a household
$ 0
0.50
30
25
would be willing to
3.50 7 buy at different prices.
7.00 3
10.00 1
15.00 0

© 2002 Prentice Hall Business Publishing Principles of Economics, 6/e Karl Case, Ray Fair
 The Law of Demand

• The law of demand

states that there is a
negative, or inverse,
relationship between
price and the quantity
of a good demanded
and its price.
• This means that
demand curves slope
downward.

© 2002 Prentice Hall Business Publishing Principles of Economics, 6/e Karl Case, Ray Fair
 Income and Wealth

• Income is the sum of all households

wages, salaries, profits, interest
payments, rents, and other forms of
earnings in a given period of time. It is
a flow measure.

• Wealth, or net worth, is the total value

of what a household owns minus what
it owes. It is a stock measure.

© 2002 Prentice Hall Business Publishing Principles of Economics, 6/e Karl Case, Ray Fair
 Related Goods and Services

• Normal Goods are goods for which

demand goes up when income is
higher and for which demand goes
down when income is lower.
• Inferior Goods are goods for which
demand falls when income rises.

© 2002 Prentice Hall Business Publishing Principles of Economics, 6/e Karl Case, Ray Fair
 Related Goods and Services

• Substitutes are goods that can serve as

replacements for one another; when the
price of one increases, demand for the
other goes up. Perfect substitutes are
identical products.

• Complements are goods that “go

together”; a decrease in the price of one
results in an increase in demand for the
other, and vice versa.

© 2002 Prentice Hall Business Publishing Principles of Economics, 6/e Karl Case, Ray Fair
 Shift of Demand Versus Movement Along a
Demand Curve

• A change in demand is
not the same as a change
in quantity demanded.
• In this example, a higher
price causes lower
quantity demanded.
• Changes in determinants
of demand, other than
price, cause a change in
demand, or a shift of the
entire demand curve, from
DA to DB.
© 2002 Prentice Hall Business Publishing Principles of Economics, 6/e Karl Case, Ray Fair
 A Change in Demand Versus a Change in
Quantity Demanded

• When demand shifts to

the right, demand
increases. This causes
quantity demanded to be
greater than it was prior to
the shift, for each and
every price level.

© 2002 Prentice Hall Business Publishing Principles of Economics, 6/e Karl Case, Ray Fair
 A Change in Demand Versus a Change in
Quantity Demanded

To summarize:
Change in price of a good or service
leads to

Change in quantity demanded

(Movement along the curve).

Change in income, preferences, or

prices of other goods or services
leads to

Change in demand
(Shift of curve).
© 2002 Prentice Hall Business Publishing Principles of Economics, 6/e Karl Case, Ray Fair
 The Impact of a Change in Income

• Higher income • Higher income

decreases the demand increases the demand
for an inferior good for a normal good

© 2002 Prentice Hall Business Publishing Principles of Economics, 6/e Karl Case, Ray Fair
 The Impact of a Change in the Price
of Related Goods
• Demand for complement good
(ketchup) shifts left

• Demand for substitute good (chicken)

shifts right

• Price of hamburger rises

• Quantity of hamburger
demanded falls
© 2002 Prentice Hall Business Publishing Principles of Economics, 6/e Karl Case, Ray Fair
 From Household to Market Demand

• Demand for a good or service can be

defined for an individual household, or
for a group of households that make up a
market.

• Market demand is the sum of all the

quantities of a good or service demanded
per period by all the households buying in
the market for that good or service.

© 2002 Prentice Hall Business Publishing Principles of Economics, 6/e Karl Case, Ray Fair
 From Household Demand to Market
Demand

• Assuming there are only two households in the

market, market demand is derived as follows:

© 2002 Prentice Hall Business Publishing Principles of Economics, 6/e Karl Case, Ray Fair
 Supply in Output Markets

CLARENCE BROWN'S • A supply schedule is a table

SUPPLY SCHEDULE showing how much of a product
FOR SOYBEANS
firms will supply at different
QUANTITY
SUPPLIED prices.
PRICE (THOUSANDS
(PER OF BUSHELS • Quantity supplied represents the
BUSHEL) PER YEAR)
$ 2 0 number of units of a product that
1.75
2.25
10
20
a firm would be willing and able to
3.00 30 offer for sale at a particular price
4.00
5.00
45
45
during a given time period.

© 2002 Prentice Hall Business Publishing Principles of Economics, 6/e Karl Case, Ray Fair
 The Supply Curve and
the Supply Schedule

• A supply curve is a graph illustrating how much

of a product a firm will supply at different prices.
CLARENCE BROWN'S 6

Price of soybeans per bushel ($)

SUPPLY SCHEDULE
FOR SOYBEANS 5
QUANTITY
SUPPLIED
4
PRICE (THOUSANDS
(PER OF BUSHELS
3
BUSHEL) PER YEAR) 2
$ 2 0
1.75 10 1
2.25 20
3.00 30 0
4.00 45
5.00 45 0 10 20 30 40 50
Thousands of bushels of soybeans
produced per year

© 2002 Prentice Hall Business Publishing Principles of Economics, 6/e Karl Case, Ray Fair
 The Law of Supply

6 • The law of supply

Price of soybeans per bushel ($)

5 states that there is a

4 positive relationship
3
between price and
2
1
quantity of a good
0
supplied.
0 10 20 30 40 50
Thousands of bushels of soybeans • This means that
produced per year
supply curves
typically have a
positive slope.
© 2002 Prentice Hall Business Publishing Principles of Economics, 6/e Karl Case, Ray Fair
 Determinants of Supply

• The price of the good or service.

• The cost of producing the good, which in
turn depends on:
• The price of required inputs (labor,
capital, and land),
• The technologies that can be used to
produce the product,
• The prices of related products.

© 2002 Prentice Hall Business Publishing Principles of Economics, 6/e Karl Case, Ray Fair
 A Change in Supply Versus
a Change in Quantity Supplied

• A change in supply is
not the same as a
change in quantity
supplied.
• In this example, a higher
price causes higher
quantity supplied, and
a move along the
demand curve.
• In this example, changes in determinants of supply, other
than price, cause an increase in supply, or a shift of the
entire supply curve, from SA to SB.
© 2002 Prentice Hall Business Publishing Principles of Economics, 6/e Karl Case, Ray Fair
 A Change in Supply Versus
a Change in Quantity Supplied

• When supply shifts

to the right, supply
increases. This
causes quantity
supplied to be
greater than it was
prior to the shift, for
each and every price
level.

© 2002 Prentice Hall Business Publishing Principles of Economics, 6/e Karl Case, Ray Fair
 A Change in Supply Versus
a Change in Quantity Supplied

To summarize:
Change in price of a good or service
leads to

Change in quantity supplied

(Movement along the curve).

Change in costs, input prices, technology, or prices of

related goods and services
leads to

Change in supply
(Shift of curve).
© 2002 Prentice Hall Business Publishing Principles of Economics, 6/e Karl Case, Ray Fair
 From Individual Supply
to Market Supply

• The supply of a good or service can be defined

for an individual firm, or for a group of firms that
make up a market or an industry.

• Market supply is the sum of all the quantities of

a good or service supplied per period by all the
firms selling in the market for that good or
service.

© 2002 Prentice Hall Business Publishing Principles of Economics, 6/e Karl Case, Ray Fair
 Market Supply

• As with market demand, market supply is the

horizontal summation of individual firms’ supply
curves.

© 2002 Prentice Hall Business Publishing Principles of Economics, 6/e Karl Case, Ray Fair
 Market Equilibrium

• The operation of the market

depends on the interaction
between buyers and sellers.

• An equilibrium is the condition

that exists when quantity supplied
and quantity demanded are equal.

• At equilibrium, there is no tendency

for the market price to change.

© 2002 Prentice Hall Business Publishing Principles of Economics, 6/e Karl Case, Ray Fair
 Demand & Supply Schedule

Price (P) Quantity Quantity Market

demanded supplied Situation
(Qd) (Qs)
5.00 10 2
10.00 8 4
15.00 6 6
20.00 4 8
25.00 2 10

© 2002 Prentice Hall Business Publishing Principles of Economics, 6/e Karl Case, Ray Fair
 Market Equilibrium

• Only in equilibrium is
quantity supplied
equal to quantity
demanded.
• At any price level
other than P0, the
wishes of buyers
and sellers do not
coincide.

© 2002 Prentice Hall Business Publishing Principles of Economics, 6/e Karl Case, Ray Fair
 Market Disequilibria

• Excess demand, or
shortage, is the condition
that exists when quantity
demanded exceeds
quantity supplied at the
current price.
• When quantity demanded
exceeds quantity
supplied, price tends to
rise until equilibrium is
restored.

© 2002 Prentice Hall Business Publishing Principles of Economics, 6/e Karl Case, Ray Fair
 Market Disequilibria

• Excess supply, or
surplus, is the condition
that exists when quantity
supplied exceeds quantity
demanded at the current
price.
• When quantity supplied
exceeds quantity
demanded, price tends to
fall until equilibrium is
restored.

© 2002 Prentice Hall Business Publishing Principles of Economics, 6/e Karl Case, Ray Fair
 Demand Function

Qd = a - bP

Where:

Qd = Quantity Demanded

a = intercept

b = slope

Qd = 20 - 2P

© 2002 Prentice Hall Business Publishing Principles of Economics, 6/e Karl Case, Ray Fair
 Supply Function

Qs = c + dP

Where:

Qs = Quantity Supplied

c = Intercept

d = Slope

P = Price

Qs = 10 + 3P
© 2002 Prentice Hall Business Publishing Principles of Economics, 6/e Karl Case, Ray Fair
 Numerical Problems (Theory of
Demand and Supply)
1) Given the following market demand function for the commodity “A”
QA = f ( PA, PB, PC, I, T, Ad )

Where, PA = Price of commodity A

PB = Price of a substitute commodity B

PC = Price of commodity C which is complement of A

I = Level of income of consumers

T = Tastes and Preferences of consumers

Ad = Advertisement expenditure by a firm producing A

© 2002 Prentice Hall Business Publishing Principles of Economics, 6/e Karl Case, Ray Fair
 • How will the consumer demand for commodity A
change?

1) If the price of the commodity A rises

2) If the price of the substitute good B rises

3) If the price of the commodity C rises

4) Level of income of the consumer rises

5) The firm producing A increases its

advertisement expenditure

© 2002 Prentice Hall Business Publishing Principles of Economics, 6/e Karl Case, Ray Fair
 • 2.The generalized demand function for good A is

• Qd = 600 – 4PA - 0.03M – 12PB + 15T + 6Pe +

1.5N

• Where Qd = quantity demanded of Good A each

month, PA = price of Good A, M = average
household income, Pe = price of related Good B,
T = a consumer Taste index, Pe = Price
consumers Expect to pay next month for Good
A, and N= number of buyers in the market for
Good A.
© 2002 Prentice Hall Business Publishing Principles of Economics, 6/e Karl Case, Ray Fair
 • a.Interpret the intercept parameter in the generalized demand
function.

• b.What is the value of the slope parameter for the price of Good A?
Does it have the correct algebraic sign? Why?

• c.Interpret the slope parameter for income. Is Good A, normal or

inferior? Explain?

• d.Are goods A and B substitute or complements? Explain. Interpret

the slope parameter for the price of Good B.

• e.Are the algebraic signs on the slope parameters for T and N

correct? Explain.

• f.Calculate the quantity of good A when PA = $5, M = $25,000, PB

= $40, T = 6.5, Pe = $5.25 and N = 2000.

© 2002 Prentice Hall Business Publishing Principles of Economics, 6/e Karl Case, Ray Fair
 Increases in Demand and Supply

• Higher demand leads to • Higher supply leads to

higher equilibrium price and lower equilibrium price and
higher equilibrium quantity. higher equilibrium quantity.
© 2002 Prentice Hall Business Publishing Principles of Economics, 6/e Karl Case, Ray Fair
 Decreases in Demand and Supply

• Lower demand leads to • Lower supply leads to

lower price and lower higher price and lower
quantity exchanged. quantity exchanged.
© 2002 Prentice Hall Business Publishing Principles of Economics, 6/e Karl Case, Ray Fair
 Relative Magnitudes of Change

• The relative magnitudes of change in supply and

demand determine the outcome of market equilibrium.
© 2002 Prentice Hall Business Publishing Principles of Economics, 6/e Karl Case, Ray Fair
 Relative Magnitudes of Change

• When supply and demand both increase, quantity

will increase, but price may go up or down.
© 2002 Prentice Hall Business Publishing Principles of Economics, 6/e Karl Case, Ray Fair
© 2002 Prentice Hall Business Publishing Principles of Economics, 6/e Karl Case, Ray Fair