Carlos A Rodriguez Herrera 2 1 23 Principles of Macroeconomics ECON 2002 01 Chapter 3 Demand and Supply Introduction Over the past 30 years college tuition and fees have increased significantly Annual tuition that would have been about 2 000 in the 1980s is now at a level of around 20 000 Textbook prices have experienced a sizable increase as well Students now typically pay 1 000 a year for books compared to an annual expense of about 200 in the 1980s In this chapter you will learn what has caused these prices to rise Learning Objectives Explain the law of demand Discuss the difference between money prices and relative prices Distinguish between changes in demand and changes in quantity demanded Distinguish between changes in supply and changes in quantity supplied Understand how supply and demand interact to determine equilibrium price and quantity Explain the law of supply Chapter Outline Demand The Demand Schedule Shifts in Demand The Law of Supply The Supply Schedule Shifts in Supply Putting Demand and Supply Together Demand A schedule showing how much of a good or service people will purchase at any price during a specified time period other things being constant Law of Demand A negative or inverse relationship between the price of any good or service and the quantity demanded holding other factors constant ceteris paribus a When the price of a good goes up people buy less of it other things being equal b When the price of a good goes down people buy more of it other things being equal What are we holding constant Income Tastes and preferences Price of other goods Many other factors Relative prices and money prices Relative Price The Ohio State University 1 Carlos A Rodriguez Herrera 2 1 23 a The price of a commodity in terms of another commodity Money Price a Price we observe today in today s dollars absolute or nominal price The Demand Schedule Demand Schedule Table relating prices to quantities demanded We must also consider a Time dimension e g per year b Constant quality units Demand Curve A graphical representation of the demand schedule Negatively sloped line showing the inverse relationship between the price and the quantity demanded other things being equal Individual versus market demand curves Market Demand The demand of all consumers in the marketplace for a particular good or service Summation at each price of the quantity demanded by each individual Shifts in Demand Scenario Ceteris Paribus Conditions Imagine the government gives every registered college student in the United States a magneto optical disk drive a If some factor other than price changes we can show its effect by moving the entire demand curve shifting the curve left or right b In this case there will be an increase in the number of MO disks demanded at each and every possible price Determinants of the relationship between price and quantity that are unchanged along a curve Changes in these factors cause a curve to shift Goods for which demand rises as income rises most goods are normal goods Normal Goods Inferior Goods Goods for which demand falls as income rises Determinants of Demand Income Tastes and preferences The prices of related goods a Substitutes b Complements Expectations a Future prices b Income c Product availability Market size number of buyers Substitutes Complements Two goods are substitutes when a change in the price of one causes a shift in demand for the other in the same direction as the price change Two goods are complements when a change in the price of one causes an opposite shift in the demand curve for the other The Ohio State University 2 Carlos A Rodriguez Herrera 2 1 23 Changes in Demand versus Changes in Quantity Demanded Whenever there is a change in a ceteris paribus condition there will be a change in demand a A shift of the entire demand curve to the right or to the left b The only thing that can cause the entire curve to move is a change in a determinant other than the good s own price A change in a good s own price leads to a change in quantity demanded a single point on a demand curve for any given demand curve a A movement along the same demand curve The Law of Supply Supply Schedule showing relationship between price and quantity supplied for a specified time period other things being equal The amount of a product or service that firms are willing to sell at alternative prices Law of Supply The higher the price of a good the more of that good sellers will make available over a specified time period other things being equal a At higher prices a larger quantity will generally be supplied than at lower prices all other things held constant b At lower prices a smaller quantity will generally be supplied than at higher prices all other things held constant The Supply Schedule The supply schedule is a table relating prices to quantity supplied at each price Supply Curve A graphical representation of the supply schedule Positively sloped line curve showing the direct relationship between price and quantity supplied all else being equal Shifts in Supply Scenario A new method of manufacturing magnetic optical disks significantly reduces the cost of production Producers of MO disks will supply more products at any given price Determinants of Supply Cost of inputs Technology and productivity Taxes and subsidies Price expectations Number of firms in the industry Changes in Supply versus Changes in Quantity Supplied Whenever there is a change in a ceteris paribus condition there will be a change in supply a A shift of the entire supply curve to the right or to the left b The only thing that can cause the entire curve to move is a change in a determinant other than the good s own price A change in a good s own price leads to a change in quantity supplied a single point on a supply curve for any given supply curve a A movement along the same supply curve The Ohio State University 3 Carlos A Rodriguez Herrera 2 1 23 Putting Demand and Supply Together Putting Demand and Supply Together Equilibrium Market Clearing Price The price that clears the market The price at which quantity demanded equals quantity supplied The price where the demand curve intersects the supply curve Equilibrium The situation when quantity supplied equals quantity demanded at a particular price There tends to be no movement of the price of the quantity away from this point unless demand or supply changes Equilibrium is a stable point any point that is not equilibrium is unstable and will not persist