Demand and Supply Forces

8/6/2019 Demand and Supply Forces

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Copyright 2004 South-Western

44The Market Forces ofSupply and Demand


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Supply and demand are the two words that

economists use most often.

Supply and demand are the forces that make

market economies work.

Modern microeconomics is about supply,

demand, and market equilibrium.


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A marketis a group of buyers and sellers of a

particular good or service.

The terms supply and demand refer to the

behavior of people . . . as they interact with one

another in markets.

MARKETS AND COMPETITION


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MARKETS AND COMPETITION

Buyers determine demand.

Sellers determine supply


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Desire , Want and Demand

DESIRE

It is a wishful thinking.

WANTWhen you have enough money but you are not

willing to spend it.

DEMANDIt is the quantities that buyers are willing and

able to buy at alternative prices during a given

period of time.


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DEMAND

Quantity demandedis the amount of a good

that buyers are willing and able to purchase.

Law of Demand

The law ofdemandstates that, other things equal,

the quantity demanded of a good falls when the

price of the good rises.


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The Demand Curve: The Relationshipbetween Price and Quantity Demanded

Demand Schedule

The demandschedule is a table that shows the

relationship between the price of the good and the

quantity demanded.


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Market Demand versus Individual Demand

Market demand refers to the sum of the

quantities demanded by all buyers at each

price. Graphically, individual demand curves are

summed horizontally to obtain the market

demand curve.


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Catherines Demand Schedule


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The Demand Curve: The Relationshipbetween Price and Quantity Demanded

Demand Curve

The demand curve is a graphic statement or

presentation of quantities of a good which will be

demanded by the consumer at various possibleprices at a given point of time.

The demand curve shows how price affects quantity

demanded, other things being equal.

Demand curve slopes downward to the right. i.e. a

demand curve has a negative slope.


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Figure 1 Catherines Demand Schedule and DemandCurve


Price ofIce-Cream Cone

0

2.50

2.00

1.50

1.00

0.50

1 2 3 4 5 6 7 8 9 10 11 Quantity ofIce-Cream Cones

$3.00

12

1. A decreasein price ...

2. ... increases quantityof cones demanded.


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Determinants of Demand

Price of the commodity

Price of related goods

Income of the consumer Tastes and preferences of the consumer

Expectations of the consumer regarding the

change in the price in the future.D = f (Px, Pr , Y , T , E)


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Determinants of DemandPRICES OF RELATED GOODS

SUBSTITUE GOODS

Goods that can be substituted for each other.

e.g. Tea and CoffeeDemand curve is positively sloped

COMPLIMENTARY GOODS

Goods which complete the demand for eachother. e.g. Car and Petrol

Demand curve is negatively sloped.


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DETERMINANTS OF DEMANDINCOME OF THE CONSUMER

NORMAL GOODS

Goods the demand for which tends to increase

following an increase consumers income and

vice versa

INFERIOR GOODS

Goods the demand for which tends to decrease

following an increase consumers income andvice versa

NECESSARIES OF LIFE


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DETERMINANTS OF DEMANDTASTE AND PREFERENCES

Fashion , custom and habit

These are influenced by advertisement, change

in fashion, climate , new inventions

Other things being equal, demand for those goods

increases fro which consumer develop taste and

preferences.


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DETERMINANTS OF DEMANDEXPECTATIONS

Expectation about Product prices, Product

availability and future income


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Why does Demand curve slopedownwards?

Law of Diminishing MarginalUtility

Marginal Utility is addition to total utility made

by consuming one more unit of that one

commodity.

A consumer will buy an additional unit of a

commodity only if he has to pay less price for it

compared to the previous unit.

A consumer will stop his purchase at the point

where his MU = Price


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Why does Demand curve slopedownwards?

Law of Diminishing Marginal Utility

Income effect Substitution effect

Different uses

Size of the consumer group


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Exceptions to the Law of Demand

Articles of distinction or Veblen goods

Inferior goods (giffen goods)

Giffen goods are those goods for which the lawof demand does not hold good.

Ignorance


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TYPES OF DEMAND

JOINT OR COMPLIMENTARY DEMANDWhen to satisfy one want two or more than two goodsare demanded together.

COMPOSITEDEMAND

Demand for one commodity in order to satisfy two ormore wants.

COMPETITIVEDEMANDAn increased demand for one means reduced demandfor the other.(demand for substitutes)


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MOVEMENT OF DEMAND CURVE

Change in price alone

Change in quantity demanded

Movement alongDemand curve

EXTENSION OF DEMAND

CONTRACTION OF DEMAND


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0

D

Price of Ice-CreamCones

Quantity of Ice-Cream Cones

A tax that raises theprice of ice-creamcones results in a

movement along thedemand curve.

A

B

8

1.00

$2.00

4

Changes in Quantity Demanded


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SHIFT OF THE DEMAND CURVE

Consumer income

Prices of related goods

Tastes

Expectations Number of buyers

Change in demand

Shift in D curve

Increase in demand

Decrease in demand


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INCREASE IN DEMAND/RIGHTWARD SHIFT

Rise in demand in response to change in

determinants of demand other than the price of

the product.

Demand may increase in 2 ways

Same price more demand

More price same demand


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INCREASE IN DEMAND/RIGHTWARD SHIFT

Income increases Demand for normal goods

The price of a complimentary good decreases

The price of substitute good increases A positive change in tastes and preferences

The number of buyers increases


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DECREASE IN DEMAND/DOWNWARD SHIFT

Fall in demand in response to change in

determinants of demand other than the price of

the commodity

Demand may decrease in 2 ways:

Same price less purchase

Less price same purchase


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DECREASE IN DEMANDDOWNWARD SHIFT

Fall in income decreases demand for normal

goods

The price of complementary good increases

The price of substitute goods Decreases.

The number of buyers decreases.

A negative change in tastes and preferences


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Figure 3 Shifts in the Demand Curve

Copyright2003 Southwestern/Thomson Learning

Price of

Ice-Cream

Cone

Quantity of

Ice-Cream Cones

Increasein demand

Decreasein demand

Demand curve,D3

Demandcurve, D1

Demandcurve, D2

0


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Shifts in the Demand Curve

Consumer Income

As income increases the demand for a normalgood

will increase.

As income increases the demand for an inferiorgoodwill decrease.


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$3.00

2.50

2.00

1.50

1.00

0.50

21

3 45 6 7 8 9 1

01

211

Price of Ice-Cream Cone

Quantity ofIce-Cream

Cones0

Increasein demand

An increasein income...

D1

D2

Consumer IncomeNormal Good


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$3.00

2.50

2.00

1.50

1.00

0.50

21

3 45 6 7 8 9 1

01

211

Price of Ice-

Cream Cone

Quantity of

Ice-Cream

Cones0

Decrease

in demand

An increase

in income...

D1

D2

Consumer IncomeInferior Good


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Shifts in the Demand Curve

Prices of Related Goods

When a fall in the price of one good reduces the

demand for another good, the two goods are called

substitutes. When a fall in the price of one good increases the

demand for another good, the two goods are called

complements.


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Table 1 Variables That Influence Buyers

Copyright2004 South-Western


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SUPPLY

Quantitysuppliedis the amount of a good that

sellers are willing and able to sell.

Law of Supply

The law ofsupply states that, other things equal, the

quantity supplied of a good rises when the price of

the good rises.


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The Supply Curve: The Relationship betweenPrice and Quantity Supplied

Supply Schedule

Thesupplyschedule is a table that shows the

relationship between the price of the good and the

quantity supplied.


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Bens Supply Schedule


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The Supply Curve: The Relationship between

Price and Quantity Supplied

Supply Curve

Thesupply curve is the graph of the relationship

between the price of a good and the quantity

supplied.


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Figure 5 Bens Supply Schedule and Supply Curve


Price of

Ice-CreamCone

0

2.50

2.00

1.50

1.00

1 2 3 4 5 6 7 8 9 10 11 Quantity ofIce-Cream Cones

$3.00

12

0.50

1. Anincreasein price ...

2. ... increases quantity of cones supplied.


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Market Supply versus Individual Supply

Market supply refers to the sum of all

individual supplies for all sellers of a particular

good or service.

Graphically, individual supply curves are

summed horizontally to obtain the market

supply curve.


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Shifts in the Supply Curve

Input prices

Technology

Number of sellers( producers)

Prices of other products


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Change in Quantity Supplied

Movement along the supply curve.

Caused by a change in anything that alters the

quantity supplied at each price.


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1 5

Price of Ice-

Cream

Cone

Quantity of

Ice-Cream

Cones0

S

1.00

A

C$3.00

A rise in the priceof ice cream

cones results in amovement alongthe supply curve.

Change in Quantity Supplied


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Change in Supply

A shift in the supply curve, either to the left or right.

Caused by a change in a determinant other than

price.


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Figure 7 Shifts in the Supply Curve


Price of

Ice-CreamCone

Quantity of

Ice-Cream Cones

0

Increasein supply

Decreasein supply

Supply curve, S3

curve,Supply

S1Supply

curve, S2


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Table 2 Variables That Influence Sellers

Copyright2004 South-Western


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SUPPLY AND DEMANDTOGETHER

Equilibrium refers to a situation in which the

price has reached the level where quantity

supplied equals quantity demanded.


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Equilibrium Price

The price that balances quantity supplied and

quantity demanded.

On a graph, it is the price at which the supply anddemand curves intersect.

Equilibrium Quantity

The quantity supplied and the quantity demanded atthe equilibrium price.

On a graph it is the quantity at which the supply and

demand curves intersect.


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At $2.00, the quantity demandedis equal to the quantity supplied!


Demand Schedule Supply Schedule


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Figure 8 The Equilibrium of Supply and Demand


Price ofIce-Cream

Cone

0 1 2 3 4 5 6 7 8 9 10 11 12

Quantity of Ice-Cream Cones

13

Equilibriumquantity

Equilibrium price Equilibrium

Supply

Demand

$2.00


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Figure 9 Markets Not in Equilibrium


Price of

Ice-Cream

Cone

0

Supply

Demand

(a) Excess Supply

Quantity

demandedQuantity

supplied

Surplus

Quantity of

Ice-Cream

Cones

4

$2.50

10

2.00

7


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Equilibrium

urplus

When price > equilibrium price, then quantity

supplied > quantity demanded.

There is excess supply or a surplus. Suppliers will lower the price to increase sales, thereby

moving toward equilibrium.


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Equilibrium

hortage

When price < equilibrium price, then quantity

demanded > the quantity supplied.

There is excess demand or a shortage. Suppliers will raise the price due to too many buyers

chasing too few goods, thereby moving toward

equilibrium.


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Figure 9 Markets Not in Equilibrium


Price of

Ice-Cream

Cone

0 Quantity of

Ice-Cream

Cones

Supply

Demand

(b) Excess Demand

Quantity

suppliedQuantity

demanded

1.50

10

$2.00

74

Shortage


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Equilibrium

Law ofsupply anddemand

The claim that the price of any good adjusts to bring

the quantity supplied and the quantity demanded for

that good into balance.


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Three Steps to Analyzing Changes inEquilibrium

Decide whether the event shifts the supply or

demand curve (or both).

Decide whether the curve(s) shift(s) to the left

or to the right.

Use the supply-and-demand diagram to see how

the shift affects equilibrium price and quantity.

Figure 10 How an Increase in Demand Affects the


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Figure 10 How an Increase in Demand Affects theEquilibrium


Price of

Ice-Cream

Cone

0 Quantity ofIce-Cream Cones

Supply

Initialequilibrium

D

D

3. . . . and a higher

quantity sold.

2. . . . resultingin a higher

price . . .

1. Hot weather increasesthe demand for ice cream . . .

2.00

7

New equilibrium$2.50

10


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Three Steps to Analyzing Changes in

Equilibrium

Shifts in Curves versus Movements along

Curves

A shift in the supply curve is called a change in

supply. A movement along a fixed supply curve is called a

change in quantity supplied.

A shift in the demand curve is called a change in

demand.

A movement along a fixed demand curve is called a

change in quantity demanded.

Figure 11 How a Decrease in Supply Affects the


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Figure 11 How a Decrease in Supply Affects theEquilibrium


Price of

Ice-CreamCone

0 Quantity ofIce-Cream Cones

Demand

Newequilibrium

Initial equilibrium

S1

S2

2. . . . resultingin a higherprice of icecream . . .

1. An increase in theprice of sugar reducesthe supply of ice cream. . .

3. . . . and a lower

quantity sold.

2.00

7

$2.50

4


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Summary

Economists use the model of supply and

demand to analyze competitive markets.

In a competitive market, there are many buyers

and sellers, each of whom has little or noinfluence on the market price.


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Summary

The demand curve shows how the quantity of a

good depends upon the price.

According to the law of demand, as the price of a

good falls, the quantity demanded rises. Therefore,the demand curve slopes downward.

In addition to price, other determinants of how

much consumers want to buy include income, the

prices of complements and substitutes, tastes,expectations, and the number of buyers.

If one of these factors changes, the demand curve

shifts.


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Summary

The supply curve shows how the quantity of a

good supplied depends upon the price.

According to the law of supply, as the price of a

good rises, the quantity supplied rises. Therefore,the supply curve slopes upward.

In addition to price, other determinants of how

much producers want to sell include input prices,

technology, expectations, and the number of sellers.

If one of these factors changes, the supply curve

shifts.


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Summary

Market equilibrium is determined by the

intersection of the supply and demand curves.

At the equilibrium price, the quantity demanded

equals the quantity supplied.

The behavior of buyers and sellers naturally

drives markets toward their equilibrium.


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Summary

In market economies, prices are the signals that

guide economic decisions and thereby allocate

resources.

Demand and Supply Forces

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