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Chapter 2 - Demand, supply, and market equilibrium. After reading chapter 2 you should be able to: Work with three different types of demand relations: general, direct, and inverse demand functions; list six principal variables that determine the quantity demanded of a good; derive a direct demand function from a general demand function;...
Managerial Economics ninth edition Thomas Maurice Chapter Demand, Supply, & Market Equilibrium McGrawưHill/Irwin McGrawưHill/Irwin ManagerialEconomics,9e ManagerialEconomics,9e Copyrightâ2008bytheMcGrawưHillCompanies,Inc.Allrightsreserved ManagerialEconomics Demand Quantity demanded (Qd) • Amount of a good or service consumers are willing & able to purchase during a given period of time 22 Managerial Economics General Demand Function • Six variables that influence Qd • Price of good or service (P) • Incomes of consumers (M) • Prices of related goods & services (PR) • T as t e pat t e r ns o f c o ns um e r s ( • Expected future price of product (Pe) • Number of consumers in market (N) • General demand function • 23 Qd f ( P, M , PR , , Pe , N ) ) Managerial Economics General Demand Function Qd a bP cM dPR e fPe gN • b, c, d, e, f, & g are slope parameters • Measure effect on Qd of changing one of the variables while holding the others constant • Sign of parameter shows how variable is related to Qd • Positive sign indicates direct relationship • Negative sign indicates inverse relationship 24 Managerial Economics General Demand Function Variable Relation to Qd P Inverse M Direct for normal goods Inverse for inferior goods PR b = Qd/ P is negative c = c = d = Direct for substitutes Inverse for complements d = Direct 25 Sign of Slope Parameter Qd/ Qd/ Qd/ Qd/ M is positive M is negative PR is positive PR is negative e = Qd/ is positive Pe Direct f = Qd/ Pe is positive N Direct g = Qd/ N is positive Managerial Economics Direct Demand Function • The direct demand function, or simply demand, shows how quantity demanded, Qd , is related to product price, P, when all other variables are held constant • Qd = f(P) • Law of Demand • Qd increases when P falls & Qd decreases when P rises, all else constant Qd/ P must be negative 26 Managerial Economics Inverse Demand Function • Traditionally, price (P) is plotted on the vertical axis & quantity demanded (Qd) is plotted on the horizontal axis • The equation plotted is the inverse demand function, P = f(Qd) 27 Managerial Economics Graphing Demand Curves • A point on a direct demand curve shows either: • Maximum amount of a good that will be purchased for a given price • Maximum price consumers will pay for a specific amount of the good 28 Managerial Economics A Demand Curve (Figure 2.1) 29 Managerial Economics Graphing Demand Curves • Change in quantity demanded • Occurs when price changes • Movement along demand curve • Change in demand • Occurs when one of the other variables, or determinants of demand, changes • Demand curve shifts rightward or leftward 2 Managerial Economics Market Equilibrium 2 (Figure 2.5) Managerial Economics Market Equilibrium • Excess demand (shortage) • Exists when quantity demanded exceeds quantity supplied • Excess supply (surplus) • Exists when quantity supplied exceeds quantity demanded 2 Managerial Economics Value of Market Exchange • Typically, consumers value the goods they purchase by an amount that exceeds the purchase price of the goods • Economic value • Maximum amount any buyer in the market is willing to pay for the unit, which is measured by the demand price for the unit of the good 2 Managerial Economics Measuring the Value of Market Exchange • Consumer surplus • Difference between the economic value of a good (its demand price) & the market price the consumer must pay • Producer surplus • For each unit supplied, difference between market price & the minimum price producers would accept to supply the unit (its supply price) • Social surplus • Sum of consumer & producer surplus • Area below demand & above supply over the relevant range of output 2 Managerial Economics Measuring the Value of Market Exchange (Figure 2.6) 2 Managerial Economics Changes in Market Equilibrium • Qualitative forecast • Predicts only the direction in which an economic variable will move • Quantitative forecast • Predicts both the direction and the magnitude of the change in an economic variable 2 Managerial Economics Demand Shifts (Supply Constant) (Figure 2.7) 2 Managerial Economics Supply Shifts (Demand Constant) (Figure 2.8) 2 Managerial Economics Simultaneous Shifts • When demand & supply shift simultaneously • Can predict either the direction in which price changes or the direction in which quantity changes, but not both • The change in equilibrium price or quantity is said to be indeterminate when the direction of change depends on the relative magnitudes by which demand & supply shift 2 Managerial Economics Simultaneous Shifts: ( D, S) P S S’ S ’’ P’ P P’’ B A • • •C D’ D Q 2 Q’ Q’’ Price may rise or fall; Quantity rises Q Managerial Economics Simultaneous Shifts: ( D, S) P S S’ S ’’ A • P P’ B • •C P’’ D D’ Q’ Q 2 Q’’ Price falls; Quantity may rise or fall Q Managerial Economics Simultaneous Shifts: ( D, S) P S ’’ S’ P’’ • C S B • P’ A P • D’ D Q’’ Q Q’ 2 Price rises; Quantity may rise or fall Q Managerial Economics Simultaneous Shifts: ( D, S) P S ’’ P’’ P P’ •C S’ S A • B • D D’ Q’’ 2 Q’ Q Price may rise or fall; Quantity falls Q Managerial Economics Ceiling & Floor Prices • Ceiling price • Maximum price government permits sellers to charge for a good • When ceiling price is below equilibrium, a shortage occurs • Floor price 2 • Minimum price government permits sellers to charge for a good • When floor price is above equilibrium, a surplus occurs Managerial Economics Ceiling & Floor Prices (Figure 2.12) Px Px Sx Sx Dx 22 50 62 Quantity 2 Panel A – Ceiling price Qx ) sr all od( eci r P ) sr all od( eci r P Dx 32 50 84 Quantity Panel B – Floor price Q x ... the change in an economic variable 2 Managerial Economics Demand Shifts (Supply Constant) (Figure 2. 7) 2 Managerial Economics Supply Shifts (Demand Constant) (Figure 2. 8) 2 Managerial Economics Simultaneous... Demand curve shifts rightward or leftward 2 Managerial Economics Shifts in Demand 2 (Figure 2. 2) Managerial Economics Supply • Quantity supplied (Qs) • Amount of a good or service offered for sale during a given period of time 2 ... Minimum price necessary to induce producers to voluntarily offer a particular quantity for sale 2 Managerial Economics A Supply Curve 2 (Figure 2. 3) Managerial Economics Graphing Supply Curves • Change in quantity supplied