Chapter 4: Demand & Supply An Equilibrium Analysis © Playconomics, LHS 1
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Chapter 4: Demand & Supply An Equilibrium Analysis
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Demand and Supply Aggrega:on Sum the Supply curves HORIZONTALLY!
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Demand and Supply Aggrega:on Sum the Demand curves HORIZONTALLY!
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Demand and Supply Aggrega:on
DefiniGons: The Aggregate Demand (or Supply) represents the horizontal sum of the individual Demand (or Supply) curves.
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Market Equilibrium
How much gets traded in the market & at what price?
1. In one graph, plot both Aggregate Demand & Aggregate Supply
2. Find the point (Q*, P*) where Quan:ty Demand = Quan:ty Supplied
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Market Equilibrium
DefiniGons: Excess Supply depicts a situa:on where the quan/ty supplied is larger than the quan/ty demanded. Excess Demand depicts a situa:on where the quan/ty demanded is larger than the quan/ty supplied.
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Market Equilibrium
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Market Equilibrium
DefiniGon: The Equilibrium Price (QuanGty) represents the price (quan:ty) such that the quanGty supplied equals the quanGty demanded. © Playconomics, LHS 8
Market Equilibrium
Perfectly compeGGve market à Buyers & Sellers are Price Accepters (Takers)
Seller 1 Buyer 1 Seller 2 Buyer 2 Seller 3 Buyer 3 Seller 4 Buyer 4 Seller 5 Buyer 5 Seller 6 Buyer 6
# ReservaGon Price
# ReservaGon Price
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Market Equilibrium
DefiniGons: The ReservaGon Price of a Buyer is the highest price a buyer is willing to pay for a given good. The ReservaGon Price of a Seller is the lowest price a seller is willing to accept for a given good.
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Market Equilibrium
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Market Equilibrium
RaGoning Rule: The RaGoning Rule states that buyers who value the good more will be the first to buy it.
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Market Equilibrium
Market Equilibrium DefiniGons: The Consumer Surplus represents the difference between what a consumer pays for a good or service and what she is willing to pay for that good or service (her reserva:on price). The Producer Surplus represents the difference between the price a seller receives for a good or service and what he is willing to receive for that good or service (her reserva:on price).
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Market Equilibrium
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-‐$2
Market Equilibrium
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Market Equilibrium
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NOPE!! Perfectly compeGGve market: If agents try to change price away
from P*, they wouldn’t be able to buy (sell) anything
à (equilibrium) price-‐takers!
Market Equilibrium
Market Equilibrium
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Consumer and Producer Surplus
DefiniGons: The Total Consumer Surplus represents the sum of the economic surplus of all consumers. The Total Producer Surplus represents the sum of the economic surplus of all producers. The Total Surplus is the sum of the total consumer surplus and total producer surplus.
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Consumer and Producer Surplus
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In a perfectly compeGGve market, Total Surplus is maximized exactly at the
equilibrium price P*!!
Consumer and Producer Surplus
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Consumer and Producer Surplus
A (Clever) Toy Model
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A (Clever) Toy Model
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A (Clever) Toy Model
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C Compe::ve Markets: Pareto Efficiency (Short Run)
Pareto Efficiency: Pareto Efficiency is a situa:on in which it is impossible to make any individual be^er off without making at least one other individual worse off.
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C Compe::ve Markets: Pareto Efficiency (Short Run)
A perfectly compeGGve market’s Equilibrium is Pareto Efficient!
à à There is = no possible transac:on that would make someone be^er off harming someone else.
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C Compe::ve Markets: Pareto Efficiency (Short Run)
DefiniGon: A Pareto Improving TransacGon is a transac:on where all par:es involved are be^er off.
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C Compe::ve Markets: Pareto Efficiency (Short Run)
How about Equity & Society Wellbeing?
EfficiencyEquality of Resources & OpportuniGes
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C Compe::ve Markets: The Invisible Hand (Long Run)
The Invisible Hand Principle: The Invisible Hand Principle states that individuals’ independent efforts to maximize their gains (profits for sellers; u:lity for buyers) will generally be beneficial for society and result in the socially op:mal alloca:on of resources.
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C Compe::ve Markets: The Invisible Hand (Long Run)
In the long run, !
• exis:ng firms can adjust all their factors of produc:on (and perhaps exit) à it’s the long run!
• new firms can enter the market (as long as Πproduc:on>0) à S curve shihs to right à P* ê à Πproduc:on ê Πproduc:on = 0 à firms produce Q* such that ATC is minimized
P*LR = min(ATC) !!! à what if ini:ally Πproduc:on < 0 ?
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C Compe::ve Markets: The Invisible Hand (Long Run)
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Entry à ê
C Compe::ve Markets: The Invisible Hand (Long Run)
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C Compe::ve Markets: The Invisible Hand (Long Run)
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The Long Run Supply Curve
All firms -‐ produce with the same technology (à same cost curves) -‐ sell at P* = min(ATC) © Playconomics, LHS 36
The Long Run Supply Curve P* doesn’t change !! But Q* does !!
In the LR, Supply is more elas/c!
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