Chapter 3 Lecture Notes PDF

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Summary

Introduction to microeconomics with chapter 3 on demand and market equilibrium...

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Chapter 3 Markets -

Demand -

Demand, Supply, and Market Equilibrium

Markets bring together buyers and sellers o Local, national, or international  Personal (Face-to-face) or faceless (buyer and seller never meets) o Focus on: markets with large numbers of independently acting buyers and sellers come together buy and sell standard products

Demand – schedule or curve showing the quantity of a product that consumers are willing and able to buy at each possible price point during a period of time o “Willing and able” – consumer must be able to buy what they are willing to buy o Time period must be specified o Demand is a statement of a buyer’s plans > prices might not be in market

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Law of Demand – price and quantity are inversely related (as price falls, quantity increases) o Other-things-equal assumption is critical – other products are constant o Reasons for inverse relationship:  Logic – people buy more if cheaper  Diminishing marginal utility – Less utility gained from each additional unit of product consumed  Income and substitution effects  Income effect – lower prices allows for people to buy more  Substitution effect – lower prices encourages consumers to replace relatively more expensive products

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The Demand Curve – curve showing the relation between price and quantity o Downwards slope shows law of demand o Inverse relations between price and quantity o Price is most important factor of curve

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Market Demand – total quantity demanded by all consumers o Determined by adding all the quantities demanded by all buyers  Assume all buyers want the same quantity at each price point  Quantity * buyers = market demand  Curve is the horizontal summation of the individual curves o Determinants of Demand – factors that can shift demand

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 Consumer preferences  Number of buyers  Consumer’s income  Prices of related goods  Consumer expectations Determinants of demand are assumed constant when making demand curve

Changes in demand – shift in demand curve caused by determinants o Preferences  Favorable change in taste increases demand; unfavorable > decreases

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 New products can affect consumer tastes for other products Number of buyers  More buyers likely increases demand; less buyers > decreases Income – rise in income increases demand; drop > decreases  Normal goods – products whose demand varies directly with income  Inferior goods – products whose demand varies inversely with income Prices of related goods  Substitute good – goods used in place of another  Increase in the price of one good will increase demand for the other  Complimentary good – goods used together with another good  Increase in the price of one good will decrease demand for related good  Independent goods – goods not related to another’s demand Consumer Expectations  E.g. – buyers buying housing now expecting housing price to rise > increase demand

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Changes in quantity demanded – movement from one point to another on the curve o Due to increase or decrease in price under consideration

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Supply – schedule or curve showing the quantity of a product that producers are willing and able to make available for sale at each possible price point during a period of time

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Law of Supply – price and quantity are directly related (as price increases, supply increases) o Reasons for direct relationship:  Logic – higher price means higher revenue thus producers make more supply at higher prices

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The Supply Curve – curve showing the relation between price and supply o Upwards slop reflects law of supply o Direct relationship between price and supply

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Market Supply – total quantity supplied by all producers o Determined same way as market demand o Determinants of Supply – factors that can shift supply  Resource prices  Technology  Taxes and subsidies  Prices of other goods  Producer expectations  Number of sellers in the market

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Changes in supply – shifts in supply caused by determinants o Resources prices  Higher resource costs will reduce supply o Technology

Supply

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 Advances will increase supply (reduced costs) Taxes and subsidies  Taxes decreases supply and subsidies increases supply Prices of other goods

If other goods have a higher price, producers will want to switch to producing more of the more expensive good, thus decrease supply for the cheap goods Producer expectations  E.g. – producers expecting a price increase will increase supply Number of sellers  More sellers mean more supply 

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Changes in quantity supplied – movement from one point to another on the curve o Due to change in the price of the specific product being considered

Market Equilibrium - Equilibrium is where the demand and supply curve intersects o Equilibrium price – price where intentions of buyers and sellers match o Equilibrium quantity – quantity where intentions of buyers and sellers match o Competition drives the price to equilibrium

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 Surplus drives the price down > less supply  Shortages drives the price up > more supply Rationing function of prices – ability of the competitive forces of supply and demand to establish equilibrium Efficient allocation driven by competitive markets o Productive efficiency – production of any particular good in least costly way o Allocative efficiency – the particular mix of goods and services most highly valued by society o Market ensures that suppliers produce all goods for which marginal benefits exceeds marginal costs

Changes in Supply, Demand, and Equilibrium - Changes in Demand o

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Changes in Supply o

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Complex Cases – change in both supply and demand

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Application: Government-Set Prices - Government sometimes place legal limits on price due to unfair prices o Price ceilings – maximum price a seller may charge  Likely to cause shortages because the ceiling is under equilibrium  Problems:  Rationing – shortages means rationing of supply  Black markets – buyers willing to pay more than legal limits to obtain services o Price floors – minimum price a seller may charge  Likely to cause surpluses because the floor is above equilibrium  Problems:  Disrupts allocative efficiency because producers use the scarce resources to produce a product with little demand  Governments have to buy the surplus to continue price floor...