Lecture Principles of Microeconomics: Chapter 2 - James D. Miller

Chapter 2 - Introducing supply and demand. After reading this chapter, you should be able to answer the following questions: What is demand? What is law of demand? What factors change demand? What is supply? What is law of supply? What factors change supply?

Chapter Introducing Supply and Demand McGraw­Hill/Irwin Copyright © 2009 by The McGraw­Hill Companies, Inc. All Rights Reserved A Tale of a Desert… When water is free of charge: • Miners consume lots of water • Government is the only supplier of water When price of water is high: • Miners conserve and use less water • Private sellers find new ways to sell more water 2-2 Learning Objectives • • • • • • What is demand? What is law of demand? What factors change demand? What is supply? What is law of supply? What factors change supply? 2-3 Demand Demand = How much consumers buy at various prices 2-4 Quantity Demanded vs Demand • Quantity demanded = The number of units consumers purchase at a specific price over a specific time period • Demand = The entire relationship between price and quantity demanded over a specific time period 2-5 Demand for Apples Price $.05 Quantity Demanded 30,000 Demand curve $P 30 25 $.10 24,000 20 $.15 18,000 10 15 05 $.20 12,000 D 00 $.25 6,000 10 20 30 40 Quantity of Apples in thousand 2-6 Law of Demand • Consumers buy less of a good as its price increases and more of a good as its price decreases • As price increases, quantity demanded falls and as price decreases, quantity demanded rises 2-7 Demand Curve • Demand Curve = A graph that shows demand relationship • Negative relationship between price and quantity demanded • Slope of demand curve is negative • Downward sloping demand curve $P 30 25 20 15 10 05 D 00 10 20 30 40 Quantity of Apples in thousand 2-8 Market Demand Market demand = the sum total of individual quantities demanded at each price Price Bill’s Jane’s Sophia’s Market demand demand demand demand $.05 $.10 $.15 $.25 $.30 20 16 12 10 35 28 19 10 2-9 Change in Quantity Demanded vs Change in Demand Ceteris paribus: • Change in price causes change in quantity demanded • Movement along the same demand curve $P 30 25 Lose 80% 20 15 10 D1 0 10 20 30 40 50 Quantity of caps in thousand 2-10 Supply in Competitive Markets Competitive markets: • Markets in which individual buyers and sellers cannot set prices • Firms’ primary motive is profit • The higher the price, the greater the profit from production 2-22 Law of Supply • Firms produce less of a good as its price falls and more of a good as its price increases • As price increases, quantity supplied rises and as price decreases, quantity supplied falls 2-23 Supply Curve Supply Curve = A graph that shows supply relationship • Positive relationship between price and quantity supplied • Slope of supply curve is positive • Upward sloping supply curve $P S 50 25 0 15,000 50,000 Quantity supplied of Apples 2-24 Market Supply Market supply = the sum total of individual firms’ supply at each price Price Firm A’s Firm B’s Firm C’s Market Supply Supply Supply Supply $.05 $.10 $.15 $.25 $.30 0 5 10 20 0 30 18 55 2-25 Change in Quantity Supplied vs Change in Supply • • • • Ceteris paribus: Change in price causes change in quantity supplied Movement along the same supply curve Change in something other than price causes change in supply Shift of the entire supply curve $P Fair weather S1 50 Excellent weather S2 25 Quantity supplied of Apples 2-26 Behind Supply Curves: Costs Ceteris paribus: • Increase in cost of production decreases profits • Decrease in supply • Supply curve shifts to the left $P High cost S2 Low cost S1 Quantity supplied 2-27 Behind Supply Curves: Expectations • If firms expect prices to increase in the near future, they withhold goods to get better prices • Higher expected prices, decrease the current supply • How would you change your supply if you expect lower price in near future? 2-28 Behind Supply Curves: Input Prices • Inputs = resources firms use to make goods • With increase in input prices or wages, firms use less inputs or workers • Decrease in supply $P Wage =$6.15 Wage S2 =$5.15 S1 Quantity supplied 2-29 Behind Supply Curves: Innovations • Innovations and improved technology reduce cost of production • Increase in supply $P Before innovation After S1 innovation S2 Quantity supplied of Apples 2-30 Behind Supply Curves: Joint Production • Two or more goods are jointly produced if the process that produces one necessarily produces others When price of bacon increases: • Quantity supplied of bacon increases • Supply of ham and pork chops also increases 2-31 Do You Know? • What is the Law of Supply? As price increases, quantity supplied rises and as price decreases, quantity supplied falls • What is the difference between a change in supply vs a change in quantity supplied? A change in price = change in quantity supplied A change in a factor other than price = change in supply 2-32 Do You Know? • How costs affect supply? Increase in cost of production = decrease in supply • How can innovation affect supply? Innovations and advanced technology = increase in supply 2-33 Summary • Increase in the price causes decrease in quantity demanded and increase in quantity supplied • • • • • Increase in demand caused by: Increase in price of substitutes Fall in price of complements Increase in income for normal goods Decrease in income for inferior goods Expectations of future price increase 2-34 Summary • • • • • • • • Increase in supply caused by: Decrease in production costs Decrease in input prices Expectations of lower price in near future Innovations Increase in price of jointly produced good Demand curve is downward sloping Supply curve is upward sloping Increase causes shift to the right, decrease causes shift to the left 2-35 Coming Up How demand and supply determine the price in the market? 2-36 ... period 2- 5 Demand for Apples Price $.05 Quantity Demanded 30,000 Demand curve $P 30 25 $.10 24 ,000 20 $.15 18,000 10 15 05 $ .20 12, 000 D 00 $ .25 6,000 10 20 30 40 Quantity of Apples in thousand 2- 6... • What will happen if price of burgers falls with no change in price of ketchup? $P High price of burgers Low price of burgers D1 D2 Quantity demanded of ketchup 2- 13 Behind Demand Curve: Income... profit • The higher the price, the greater the profit from production 2- 22 Law of Supply • Firms produce less of a good as its price falls and more of a good as its price increases • As price increases,