THE MARKET FORCES OF

SUPPLY AND DEMAND

1
In this chapter will answers
the following Questions:
 What factors affect buyers’ demand for goods?
 What factors affect sellers’ supply of goods?
 How do supply and demand determine the price
of a good and the quantity sold?
 How do changes in the factors that affect
demand or supply affect the market price and
quantity of a good?
 How do markets allocate resources?

2
 Markets and Competition
 A market is a group of buyers and sellers of a
particular product.
 A competitive market is one with many buyers and
sellers, each has a negligible effect on price.
 In a perfectly competitive market:
 All goods exactly the same
 A number of buyers & sellers so that no one can
affect market price – each is a “price taker”
 In this chapter, we assume markets are perfectly
competitive.
3
 Demand
 The quantity demanded of any good is the
amount of the good that buyers are willing and
able to purchase.
 Law of demand: the claim that the quantity
demanded of a good falls when the price of the
good rises, other things remaining the same

4
 The Demand Schedule
Quantity
 Demand schedule: Price
of cloth
of cloth
a table that shows the demanded
relationship between the price of $0.00 16
a good and the quantity 1.00 14
demanded
2.00 12
 Example: 3.00 10
Hina’s demand for cloth 4.00 8
. 5.00 6
 Notice that Hina’s 6.00 4
preferences obey the
Law of Demand.
5
 Hina’s Demand Schedule &
Curve
Price of Price Quantity
cloth of of cloth
$6.00 cloth demanded
$1.00 14
$5.00
2.00 12
$4.00 3.00 10
$3.00 4.00 8
$2.00 5.00 6
6.00 4
$1.00
$0.00
Quantity of
0 5 10 15 cloth
6
 Market Demand versus Individual
Demand
 The quantity demanded in the market is the sum of
the quantities demanded by all buyers at each price.
 Suppose Hina and Kainat are the only two buyers in
the cloth market. (Qd = quantity demanded)
Price Hina’s Qd Kinat’s Qd Market Qd
$
1.00 14 + 7 = 21
2.00 12 + 6 = 18
3.00 10 + 5 = 15
4.00 8 + 4 = 12
5.00 6 + 3 = 9
6.00 4 + 2 = 6 7
 The Market Demand Curve for
cloth
Qd
P P
(Market)
$6.00
$
$5.00 1.00 21
$4.00 2.00 18
$3.00 3.00 15
4.00 12
$2.00
5.00 9
$1.00 6.00 6
$0.00 Q
0 5 10 15 20 25

8
 Demand Curve Shifters
 The demand curve shows how price affects
quantity demanded, other things being equal.
 These “other things” are non-price determinants
of demand (i.e., things that determine buyers’
demand for a good, other than the good’s price).

 Changes in them shift the D curve.

9
Demand Curve Shifters: # of
Buyers
 Increase in # of buyers
increases quantity demanded at each price,
shifts D curve to the right.

10
 Demand Curve Shifters: # of
Buyers
P Suppose the number
$6.00 of buyers increases.
Then, at each P,
$5.00
Qd will increase
$4.00 (by 5 in this example).
$3.00

$2.00
$1.00

$0.00 Q
0 5 10 15 20 25 30
11
Demand Curve Shifters: Income
 Demand for a normal good is positively related
to income.
 Increase in income causes
increase in quantity demanded at each price,
shifts D curve to the right.

(Demand for an inferior good is negatively

12
Demand Curve Shifters: Prices
of Related
Goods
 Two goods are substitutes if
an increase in the price of one
causes an increase in demand for the other.
 Example: pizza and burgers.
An increase in the price of pizza
increases demand for burgers,
shifting burger demand curve to the right.
 Other examples: Coke and Pepsi,
laptops and desktop computers,

13
 Demand Curve Shifters: Prices
of Related

Goods
Two goods are complements if
an increase in the price of one
causes a fall in demand for the other.
 Example: computers and software.
If price of computers rises, people buy fewer
computers, and therefore less software.
Software demand curve shifts left.
 Other examples: college tuition and textbooks,
bagels and cream cheese, eggs and bacon

14
Demand Curve Shifters: Tastes
 Anything that causes a shift in tastes toward a
good will increase demand for that good
and shift its D curve to the right.
 Example:
The Atkins diet became popular in the ’90s,
caused an increase in demand for eggs,
shifted the egg demand curve to the right.

15
Demand Curve Shifters:
Expectations
 Expectations affect consumers’ buying
decisions.
 Examples:
 If people expect their incomes to rise,
their demand for meals at expensive
restaurants may increase now.
 If the economy sours and people worry about
their future job security, demand for new
autos may fall now.

16
Summary: Variables That Influence
Buyers
Variable A change in this variable…
Price …causes a movement
along the D curve
# of buyers …shifts the D curve
Income …shifts the D curve
Price of
related goods …shifts the D curve
Tastes …shifts the D curve
Expectations …shifts the D curve
17
 Supply
 The quantity supplied of any good is the
amount that sellers are willing and able to sell.
 Law of supply: the claim that the quantity
supplied of a good rises when the price of the
good rises, other things equal

18
 The Supply Schedule
 Supply schedule: Price Quantity
of of cloth
A table that shows the
cloth supplied
relationship between the
$0.00 0
price of a good and the
quantity supplied. 1.00 3
2.00 6
 Example: 3.00 9
Seema’s supply of cloth. 4.00 12
 Notice that Seema’s supply 5.00 15
schedule obeys the 6.00 18
Law of Supply.
19
 Seemas’ Supply Schedule & Curve
Price Quantity
P of of cloth
$6.00 cloth supplied
$5.00 $0.00 0
1.00 3
$4.00
2.00 6
$3.00
3.00 9
$2.00 4.00 12
$1.00 5.00 15
$0.00 6.00 18
Q
0 5 10 15
20
 Market Supply versus Individual
Supply
 The quantity supplied in the market is the sum of
the quantities supplied by all sellers at each price.
 Suppose Seema and Jimmy are the only two sellers
in this market. (Qs = quantity supplied)
Price Seema Jimmy Market Qs
$0.00 0 + 0 = 0
1.00 3 + 2 = 5
2.00 6 + 4 = 10
3.00 9 + 6 = 15
4.00 12 + 8 = 20
5.00 15 + 10 = 25
6.00 18 + 12 = 30 21
 The Market Supply Curve
QS
P
(Market)
P
$6.00 $0.00 0
1.00 5
$5.00
2.00 10
$4.00 3.00 15
$3.00 4.00 20
$2.00 5.00 25
6.00 30
$1.00
$0.00 Q
0 5 10 15 20 25 30 35
22
 Supply Curve Shifters
 The supply curve shows how price affects
quantity supplied, other things being equal.
 These “other things” are non-price determinants
of supply.
 Changes in them shift the S curve.

23
Supply Curve Shifters: Input
Prices
 Examples of input prices:
wages, prices of raw materials.
 A fall in input prices makes production
more profitable at each output price,
so firms supply a larger quantity at each price,
and the S curve shifts to the right.

24
Supply Curve Shifters: Input Prices

P Suppose the
$6.00 price of shoes
falls.
$5.00
At each price,
$4.00 the quantity of
$3.00 shoes supplied
will increase
$2.00 (by 5 in this
$1.00 example).

$0.00 Q
0 5 10 15 20 25 30 35
25
Supply Curve Shifters:
Technology
 Technology determines how much inputs are
required to produce a unit of output.
 A cost-saving technological improvement has
the same effect as a fall in input prices,
shifts S curve to the right.

26
Supply Curve Shifters: # of
Sellers
 An increase in the number of sellers increases
the quantity supplied at each price,
shifts S curve to the right.

27
Supply Curve Shifters:
Expectations
Example:
 Events in the Middle East lead to expectations of
higher oil prices.
 In response, owners of Texas oilfields reduce
supply now, save some inventory to sell later at
the higher price.
 S curve shifts left.
In general, sellers may adjust supply * when their
expectations of future prices change.
(*If good not perishable)
28
Summary: Variables that Influence
Sellers
Variable A change in this variable…
Price …causes a movement
along the S curve
Input Prices …shifts the S curve
Technology …shifts the S curve
# of Sellers …shifts the S curve
Expectations …shifts the S curve

29
 ACTIVE LEARNING 1
A. Price of iPods falls
Music
Music downloads
downloads
Price of
and
and iPods
iPods are are
music
down- complements.
complements.
loads AA fall
fall in
in price
price ofof
iPods
iPods shifts
shifts the
the
P1 demand
demand curve curve for
for
music
music downloads
downloads
to
to the
the right.
right.
D1 D2

Q1 Q2 Quantity of
music downloads
30
Two goods are complements if
an increase in the price of one
causes a fall in demand for the other.
 ACTIVE LEARNING 1
B. Price of music downloads falls
Price of
music The
The D
D curve
curve
down- does
does not
not shift.
shift.
loads
Move
Move down
down along
along
P1 curve
curve to
to aa point
point with
with
lower
lower P,
P, higher
higher Q.
Q.
P2

D1

Q1 Q2 Quantity of
music downloads
31
 ACTIVE LEARNING 1
C. Price of CDs falls
Price of CDs
CDs andand
music music
music downloads
downloads
down-
are
are substitutes.
substitutes.
loads
AA fall
fall in
in price
price of
of CDs
CDs
P1 shifts
shifts demand
demand forfor
music
music downloads
downloads
to
to the
the left.
left.

D2 D1

Q2 Q1 Quantity of
music downloads
32
 ACTIVE LEARNING 2
A. Fall in price of tax return
software
Price of
tax return SS curve
S curve does
does
software
1 not
not shift.
shift.
P1 Move
Move downdown
along
along thethe curve
curve
P2 to
to aa lower
lower PP
and
and lower
lower Q.
Q.

Q2 Q1 Quantity of tax
return software
33
 ACTIVE LEARNING 2
B. Fall in cost of producing the
software
Price of
tax return SS curve
curve shifts
shifts
S S2
software to
1
to the
the right:
right:
at
at each
each price,
price,
P1
QQ increases.
increases.

Q1 Q2 Quantity of tax
return software
34
 ACTIVE LEARNING 3
C. Professional preparers raise
their price
Price of
tax return
S This
This shifts
shifts the
the
software
1 supply
supply curve
curve forfor
tax
tax preparation
preparation
software,
software, not
not the
the
supply
supply curve.
curve.

Quantity of tax
return software
35