Students will explain how the Law of Demand, prices, and profit work to determine production and distribution in an economy.

Students will explain how the Students will explain how the Law of Demand, prices, and profit Law of Demand, prices, and profit

work to determine production work to determine production and distribution in an economyand distribution in an economy

Law of demand-Law of demand- consumers will buy more of a good consumers will buy more of a good when the price decreases and less when the price when the price decreases and less when the price increases.increases.

1. How is demand determined?1. How is demand determined?

a. The substitution effect-a. The substitution effect- consumers consumers react to react to a price increase in a product by a price increase in a product by finding a cheaper finding a cheaper product to replace it product to replace it with.with.

b. The income effect-b. The income effect- a person will a person will change change their consumption of a good their consumption of a good or service as a or service as a result of a change in result of a change in income. income.

Demand Schedules

Individual Demand Schedule

Price of a slice of pizza

Quantity demanded per day

Market Demand Schedule

Price of a slice of pizza

Quantity demanded per day

$.50

$1.00

$1.50

$2.00

$2.50

$3.00

5

4

3

2

1

0

$.50

$1.00

$1.50

$2.00

$2.50

$3.00

300

250

200

150

100

50

Demand schedule-Demand schedule- is a table that lists the quantity of a is a table that lists the quantity of a good you will buy at each different price.good you will buy at each different price.

A market demand schedule-A market demand schedule- lists the quantity of a good lists the quantity of a good all consumers in a market will buy at each different priceall consumers in a market will buy at each different price..

Market Demand Curve

3.00

2.50

2.00

1.50

1.00

.50

0

0 50 100 150 200 250 300 350Slices of pizza per day

Pri

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Demand

Demand Curve-Demand Curve- slopes slopes downward to downward to indicate indicate consumer consumer demand at demand at certain pricescertain prices

1. Income-1. Income- Change in income affects demand of Change in income affects demand of goods, as a consumers income increases they goods, as a consumers income increases they demand more, as it decreases they demand less demand more, as it decreases they demand less goods.goods.

Examples-Examples- Luxury Cars/Electronics/Take OutLuxury Cars/Electronics/Take Out

2. Consumer Expectation-2. Consumer Expectation- if consumers believe a if consumers believe a good will increase or decrease, demand will be good will increase or decrease, demand will be effected.effected.

Examples-Examples- Gas Prices after Hurricane IKE/Toys Gas Prices after Hurricane IKE/Toys

3. Change in population-3. Change in population- changes in the size of a changes in the size of a population will affect the demand for a good.population will affect the demand for a good.

Example-Example- Food/Housing/MedicationFood/Housing/Medication

4. Consumer Tastes/Advertising-4. Consumer Tastes/Advertising- advertising advertising determines trends and affects the demand for goodsdetermines trends and affects the demand for goods

Examples-Examples- Toys/Clothing/MusicToys/Clothing/Music

5. Price of Related Goods-5. Price of Related Goods- the demand for one good is the demand for one good is affected by the demand for another good. affected by the demand for another good. (Complements)- Hamburgers and Hamburger Buns (Complements)- Hamburgers and Hamburger Buns (July 4(July 4thth))

Elasticity of Demand-Elasticity of Demand- is the measure of how is the measure of how consumers will react to a change in price.consumers will react to a change in price.

1. Inelastic Demand-1. Inelastic Demand- A decrease in price will A decrease in price will lead to only lead to only a small change in demand, or no a small change in demand, or no change at all. Also can change at all. Also can be your personal choice that be your personal choice that makes something inelastic. makes something inelastic.

Example-Example- Food/Gas Food/Gas

2. Elastic Demand-2. Elastic Demand- a small change in price a small change in price leads to a leads to a large change in demandlarge change in demand

Example-Example- Luxury Goods Luxury Goods

1. Availability of Substitutes-1. Availability of Substitutes- If there are few If there are few substitutes for a good, then demand will not likely substitutes for a good, then demand will not likely decrease as price increases. The opposite is also decrease as price increases. The opposite is also usually true. usually true.

Examples-Examples- Home cooked Buffalo Wings Home cooked Buffalo Wings vs. vs. American Deli WingsAmerican Deli Wings

2. Relative Importance-2. Relative Importance- how much of your budget how much of your budget you spend on the good.you spend on the good.

Examples-Examples- Dinner out/ Gym. Dinner out/ Gym.

3. Necessities versus Luxuries-3. Necessities versus Luxuries- Whether a person Whether a person considers a good to be a necessity or a luxury has a considers a good to be a necessity or a luxury has a great impact on the good’s elasticity of demand for great impact on the good’s elasticity of demand for that person. that person.

Examples-Examples- Plasma T.V. Plasma T.V.

4. Change over Time-4. Change over Time- Demand sometimes becomes Demand sometimes becomes more elastic over time because people can eventually more elastic over time because people can eventually find substitutes.find substitutes.

Examples-Examples- Touch phones/Mp3 players/ Touch phones/Mp3 players/

Elasticity of Demand can hurt a Elasticity of Demand can hurt a firms income. firms income.

Impact- Impact- If they make a product that If they make a product that has elasticity. Then raising the price has elasticity. Then raising the price will cause their income to fallwill cause their income to fall..

How do supply and demand create How do supply and demand create balance in the marketplace?balance in the marketplace?

What are differences between a market What are differences between a market in equilibrium and a market in in equilibrium and a market in disequilibrium?disequilibrium?

What are the effects of price ceilings What are the effects of price ceilings and price floors?and price floors?

Pri

ce

pe

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Equilibrium Point

Finding Equilibrium

Price of a slice

of pizza

Quantity demanded

Quantity supplied

Result

Combined Supply and Demand Schedule

$ .50 300 100

$3.50

$3.00

$2.50

$2.00

$1.50

$1.00

$.50

Slices of pizza per day

050 100 150 200 250 300 350

Supply Demand

Equilibrium- Equilibrium- when the quantity supplied when the quantity supplied and demand come together. and demand come together. (Market (Market Clearing Price)Clearing Price)

$2.00

$2.50

$3.00

150

100

50

250

300

350

Surplus from excess supply

$1.50 200 200 Equilibrium

Equilibrium Price

a

Eq

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briu

m

Qu

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tity

$1.00 250 150

Shortage from excess demand

Disequilibrium-Disequilibrium- if the price or supply of the good is if the price or supply of the good is anywhere but at equilibrium. anywhere but at equilibrium.

What causes disequilibrium?What causes disequilibrium?

1. SURPLUS- 1. SURPLUS- there is more supplied than there is more supplied than demanded, demanded, sellers HAVE to cut prices to sell sellers HAVE to cut prices to sell productsproducts

2. SHORTAGE-2. SHORTAGE- consumers demand more than consumers demand more than what is what is suppliedsupplied

Buyers and Sellers will force the market to return Buyers and Sellers will force the market to return to equilibrium to equilibrium

Price Ceiling-Price Ceiling- the maximum you can legally charge for a product. the maximum you can legally charge for a product. Problem is that it causes shortages for the product. It is always Problem is that it causes shortages for the product. It is always below the market equilibrium price. below the market equilibrium price. CAUSES SHORTAGESCAUSES SHORTAGES

ExamplesExamples

1. Rent Control1. Rent Control

Price Floor-Price Floor- the minimum price set for a good by the the minimum price set for a good by the government. This is always higher than the market equilibrium government. This is always higher than the market equilibrium price. Problem is that buyers don’t buy at the new price, while price. Problem is that buyers don’t buy at the new price, while suppliers are willing to supply more at the new price. suppliers are willing to supply more at the new price. CAUSES CAUSES SURPLUSSURPLUS

ExamplesExamples

1. Minimum Wage1. Minimum Wage

Pri

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pe

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Equilibrium Point

Finding Equilibrium

Price of a slice

of pizza

Quantity demanded

Quantity supplied

Result

Combined Supply and Demand Schedule

$ .50 300 100

$3.50

$3.00

$2.50

$2.00

$1.50

$1.00

$.50

Slices of pizza per day

050 100 150 200 250 300 350

Supply Demand$2.00

$2.50

$3.00

150

100

50

250

300

350

Surplus from excess supply

$1.50 200 200 Equilibrium

Equilibrium Price

a

Eq

uili

briu

m

Qu

an

tity

$1.00 250 150

Shortage from excess demand

1.1. Prices are Signals-Prices are Signals- communicates to both buyers and communicates to both buyers and sellers whether goods or services are scarce or easily sellers whether goods or services are scarce or easily available. Prices can encourage or discourage available. Prices can encourage or discourage production.production.

2. Signals for Suppliers-2. Signals for Suppliers- High Price= MAKE MORE (GO)High Price= MAKE MORE (GO) Low Price= MAKE LESS (STOP)Low Price= MAKE LESS (STOP)

3. Signals for Buyers-3. Signals for Buyers- High price= DON’T BUY (STOP). High price= DON’T BUY (STOP). Low Prices=BUY (GO)Low Prices=BUY (GO)

4. Flexibility-4. Flexibility- Prices can be easily increased or Prices can be easily increased or decreased to solve problems of excess supply or decreased to solve problems of excess supply or excess demand.excess demand.