Slide 1Slide 2OVERVIEW / Questions of the DayI. What is a market?I. What is a Market?I. Market: ExamplesI. Market: DefinitionI. Markets: DefinitionII. How does the market work?The Market for “Do-Dads”Market EquilibriumAt Equilibrium…What if we aren’t at equilibrium?Market Out of EquilibriumMarket Forces: P > P*Market Out of EquilibriumMarket Forces: P < P*Market EquilibriumBig Idea In EconomicsIII. Markets: what they doMarkets Determine Prices, So What?Markets Determine Prices, So What?Markets and AllocationBIG IDEA IN ECONOMICS!!What does this all mean?What Do Markets Do For Us?IV. What happens when things change?CHANGES IN EQUILIBRIUMSlide 29Slide 30Slide 31Slide 32Simultaneous Changes in Demand and SupplyDoes that result make sense?Summary: Shifting Demand & SupplyWhat do markets do for us?PracticeKey Concepts and TermsGas Prices and the Onset of the Iraq WarSlide 40SUPPLY, DEMAND, MARKETS AND APPLICATIONSUnderstanding How Markets Work1Topic IV: Supply and DemandTopic V: We Love Free Markets!Topic VI: Sometimes We Don’t!Topic VII: Applications of MarketsTOPIC V:MARKETS IN ACTION!How do markets work?What do markets do?2Talk is cheap because supply exceeds demand!OVERVIEW / Questions of the DayWhat role do markets play in our economy?•What is a ‘market’?•How do markets work in action?•How do they allocate our resources?•What do they do for us?3I. WHAT IS A MARKET?What exactly do we mean by ‘a market’?4I. What is a Market?Demand and supply make up two sides of a MARKET•A collection of buyers and sellers that, through their actions or potential interactions, determine the price of goods/services•Any institution that facilitates the voluntary exchange of goods and services for other goods/services or money•The institution through which buyers and sellers interact and engage in voluntary exchange•Interactions between buyers and sellers that determine the price of good/serviceA market is created anytime a group of people wish to provide/sell something and another group of people wish to buy that something5I. Market: Examples•Output Markets (Goods and Services)•Goods Markets: Milk, Hamburgers, Airplanes, Homes•Services Markets: Car repair, Haircuts, Law services•Input Markets (Factors of Production)•Labor Markets: Teachers, Police, Truck Drivers, Lawyers•Commodities Markets: Wheat, Gold, Oil, Copper, TinFinancial Markets (Credit Markets)•Markets for borrowing/lending (determines interest rates)•Foreign Exchange Markets•Currency Markets: Dollars, Euros, Yen, Yuan, Baht6I. Market: Definition Market definition: who is included and who is excluded from a particular market•This can be a subjective processYou can examine the model from different perspectives•From very broad to very narrow•Market for automobiles (cars and trucks, new and used)•Market for new automobiles (no used)•Market for new cars (no trucks or SUV’s)•Market for new sedans (4 – door only)•Market for entry-level luxury new sedans7BroadNarrowI. Markets: Definition8Market for all passenger vehiclesMarket for all used passenger vehiclesMarket for all new passenger vehiclesMarket for used carsMarket for used pick-ups, SUV’s, etc.Market for new carsMarkets for new pick-ups, SUV’s, etc.All of these are legitimate markets – it just depends on which is the most appropriate to what you want to studyII. HOW DOES THE MARKET WORK?How do markets find the ‘correct’ price?9The Market for “Do-Dads”Suppose we bring our 5 market participants together•K, L, M, Mr. Bud and Ms. Coors•What will happen?1. How many do-dads will Mr. Bud and Ms. Coors produce in total?•How much will each one produce?2. How many do-dads will K, L and M buy in total?•How many will K get? M? L?3. What will be the market price?1011Market Equilibrium11 128 145Q (do-dads/month)181512936SDP(do-dads)14216PriceMarket SupplyMarket Demand$18 17 0$15 14 1$12 11 4$9 8 8$6 5 12$3 2 16P* is the Q* isAt Equilibrium…•The market is at rest•no forces pushing P or Q higher or lower•Sellers can sell as much as they want•provided •(how much does Bud want to sell?)•Buyers can buy as much as they want•provided •(how much does K want to buy?)•Quantity demanded (Qd) equals •the exact amount buyers want is the exact amount sellers produce12What if we aren’t at equilibrium?If the market is not in equilibrium, then “market forces” will begin to push itself back towards equilibrium…•What if the current price is higher than P*?•What if the current price is lower than P*?•Either way, K, L, M, Mr. Bud and Ms. Coors will be guided to change their behavior that will effectively push P back to P*•How does these ‘market forces’ work?13Market Out of EquilibriumPriceMarket SupplyMarket Demand$18 17 0$15 14 1$12 11 4$9 8 8$6 5 12$3 2 16How do our market participants behave (react) if the price is $12 instead of $9?Bud and Coors produce K, L and M would One group will be unhappy with this situation – which one?Who didn’t get what they wanted? The sellers – Bud and Coors!1415Market Forces: P > P*1184Q (do-dads/month)18129SDPWhat happens to K, L, M, Bud and Coors if P = $12?QD = 4 do-dads:K wants 2L wants 2M wants 0QD = 11 do-dads:Bud produces 6Coors produces 5Surplus of 7The buildup of surplus do dads puts pressure on Bud and Coors to lower their priceMarket Out of EquilibriumPriceMarket SupplyMarket Demand$18 17 0$15 14 1$12 11 4$9 8 8$6 5 12$3 2 16How do our market participants behave (react) if the price is $6 instead of $9?Bud and Coors produce 5 do-dads and put them up for sale K, L and M would only like to purchase 12 do-dads One group will be unhappy with this situation – which one?Who didn’t get what they wanted?1617Market Forces: P < P*1285Q (do-dads/month)186SDPWhat happens to K, L, M, Bud and Coors if P = $6?Qs= 5 do-dadsBud produces 2Coors produces 3There is now a shortage of do-dads (by 7)Qd= 12 do dads:K wants 4L wants 6 M wants 218Market Equilibrium11 128 145Q (do-dads/month)181512936SDP(do-dads)14216PriceMarket SupplyMarket Demand$18 17 0$15 14 1$12 11 4$9 8 8$6 5 12$3 2 16$9 is the only place where everyone is happyBig Idea In EconomicsThe price of $9 is the only price where K,L,M, Bud and Coors are all satisfied with the outcome!!At a price of $9… •Bud wishes to produce (and sell) 4, and he does•Coors wishes to produce (and sell) 4, and she does•K wants to buy 3 and he does•L wants to