DEMAND AND

SUPPLY

Chapter 4Chapter 4

Today’s lecture

• Demand

• The Law of Demand

• The Demand Curve

• Shifts in Demand Curve versus Movement along a Demand Curve

• Individual and Market Demand Curve

Demand

Demand is the amount of goods that buyers are willing and able to purchase.

The air that we need to breathe everyday is our demand?

The Law of Demand

The Law of Demand:

Quantity demanded rises as price falls, other things constant.

Quantity demanded falls as price rises, other things constant.

The Demand Curve

• Demand Curve is a graph of the relationship between the price of a good and the quantity demanded.

Based on the law of demand, what’s kind of shape the demand curve should be like?

From a Demand Table to a Demand Curve

Pri

ce p

er D

VD

s (i

n d

oll

ars) A Demand Curve

Quantity demanded of DVDs (per week)

1 2 3 4 5 6 7 8 9 101112

13

$6.00

5.00

4.00

3.00

2.00

1.00 .50

0

3.50

E

D

C

BA

A Demand Table

ABCDE

$0.50 1.002.003.004.00

98642

Price per DVD

DVD rentals demanded per

week

Demand for DVDs

Quantity Demanded Versus Demand

• Quantity demanded refers to a specific amount that will be demanded per unit of time at a specific price, other things constant.

• Quantity demanded refers to a specific point on the demand curve.

• A change in quantity demanded, caused only by a change in the price of the good itself, is shown by a movement along a demand curve.

Quantity Demanded Versus Demand

• Demand refers to a schedule of quantities of a good that will be bought per unit of time at various prices, other things constant.

• It refers to the entire demand curve.• A change in demand, caused by anything

other than the good’s own price, is shown by a shift in the demand curve.

B

100

$20

Quantity Demanded Versus Demand

D1

Change in quantity demanded

0

Pri

ce

Quantity demanded

$10

200

AP

ric

e

Quantity demanded

D1

D0

$20

$10

100

BA

Change in demand

200

Normal good vs Inferior good

• Normal good is the good that an increase in income leads to an increase in demand, other things constant.

• Inferior good is the good that an increase in income leads to a decrease in demand, other things constant.

Substitutes vs Complements

• Substitutes are often pairs of goods that are used in place of each other and an increase in the price of one leads to an increase in the demand for the other.

• Complements are often pairs of goods that are used together and an increase in the price of one leads to a decrease in the demand for the other.

Shift Factors of Demand

• Shift factors of demand are factors that cause changes in demand (shifts in the demand curve).

• Society’s Income– An increase in income will increase

demand for normal goods.– An increase in income will decrease

demand for inferior goods.

Shift Factors of Demand• Prices of Other Goods

– When the price of a substitute good falls, demand falls for the good whose price has not changed.

– When the price of a complement good falls, demand rises for the good whose price has not changed.

• Tastes– A change in taste will change demand with no

change in price.

Shift Factors of Demand

• Expectations– If you expect your income to rise, you may

consume more now.– If you expect prices to fall in the future, you

may put off purchases today.

• Taxes and Subsidies– Taxes increase the cost of goods, thereby

reducing demand.– Subsidies have an opposite effect.

Question

Would a change in the price of pizza shift the pizza’s demand curve?

Individual and Market Demand Curves

Price per DVD

$.0.501.001.502.002.503.003.504.00

Alice’s demand

Market demand

98765432

65432100

11000000

16141197532

ABCDEFGH Cathy BruceAlice

D

A

C

EF

G

Quantity demanded of DVD per week

2

$4.00

3.50

3.00

2.50

2.00

1.50

1.00

0.50

0

Pri

ce p

er D

VD

(in

do

llars

)

4 6 8 10 12 14 16

B

+ Bruce’s demand

Cathy’s demand

+ + =

A market demand curve is the horizontal sum of all individual demand curves

Supply

• Supply

• The Law of Supply

• The Supply Curve

• A Shift in Supply Curve vs a Movement along a Supply Curve

• Individual and Market Supply Curve

Supply

• Supply is the amount of a good that sellers are willing and able to sell.

• The Law of Supply:Quantity supplied rises as price rises, other

things constant.Quantity supplied falls as price falls, other

things constant.

The Supply Curve

• Supply Curve is a graph of the relationship between the price of a good and the quantity supplied.

Based on the law of supply, what’s kind of shape the supply curve should be like?

The Supply Curve

• The supply curve is the graphic representation of the law of supply.

• The supply curve slopes upward to the right because the relationship between quantity supplied and the price is positive

• As price increases, the quantity supplied increases. Quantity supplied

(per unit of time)

0

Pri

ce

(pe

r u

nit

) S

APA

QA

BPB

QB

Quantity Supplied Versus Supply

• Quantity supplied refers to a specific amount that will be supplied at a specific price.

• Quantity supplied refers to a specific point on the supply curve.

• A change in quantity supplied, caused only by a change in the price of the good itself, is shown by a movement along the supply curve.

Quantity Supplied Versus Supply

• Supply refers to a schedule of quantities a seller is willing to sell per unit of time at various prices, other things constant.

• Supply refers to the whole supply curve.

• A change in supply, caused by anything other than the good’s price, is shown by a shift in the supply curve.

Quantity Supplied Versus Supply

Pri

ce

(pe

r b

arr

el)

Barrels per year (millions)

S0Change in Supply S1

$15A B

1700 1800

Change in quantity supplied

Pri

ce

(pe

r b

arr

el)

Barrels per year (millions)

S0

$15A

1700 1900

B$36

Shift Factors of Supply

• Shift factors of supply are factors that cause changes in supply (shifts in the supply curve).

• Price of Inputs– When costs go up, profits go down, so that the incentive

to supply also goes down.

• Technology– Advances in technology reduce the number of inputs

needed to produce a given supply of goods, decreasing costs, increasing profits, leading to increased supply.

Shift Factors of Supply

• Expectations– If suppliers expect prices to rise in the future,

they may store today’s supply to sell later, decreasing supply now.

• Taxes and Subsidies– When taxes increase, costs go up, and profits

go down, causing a decrease in supply.– When subsidies increase, costs decrease, and

profits increase, leading to an increase in supply.

Individual and Market Supply

Price (per DVD)

ABCDEFGHI

$0.000.501.001.502.002.503.003.504.00

012345678

001234555

000000022

013579

111415

AnnMarket

supplyCharlieBarry+ + =

Quantity of DVDs supplied (per week)

$4.00

3.50

3.00

2.50

2.00

1.50

1.00

0.50

1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16

Charlie Barry Ann

0

IH

G

F

E

D

C

BA

Market Supply

CAMarket supply is determined by adding all quantities supplied at a given price.

Equilibrium

Price

(per DVD)QS QD

Surplus(+)

Shortage (-)

$3.50 7 3 +4

$2.50 5 5 0

$1.50 3 7 -4

A

Pri

ce p

er D

VD

$5.00

4.00

3.50

3.00

2.50

2.00

1.50

1.00

S

D

Quantity of DVDs supplied and demanded (per week)

C

Excess demand

1 2 3 4 5 6

Excess supply

E

7 8

Concepts• Equilibrium is a situation in which supply

and demand have been brought into balance.

• Equilibrium price is the price that balances supply and demand.

• Equilibrium quantity is the quantity supplied and quantity demanded when the price has adjusted to balance supply and demand

Equilibrium

• When the market is not in equilibrium, there is either excess demand or excess supply.

• Excess supply – a surplus, the quantity supplied is greater than the quantity demanded, and prices fall.

• Excess demand – a shortage, the quantity demanded is greater than the quantity supplied, and prices rise.

• When quantity demanded equals quantity supplied, prices have no tendency to change.

Increase in DemandP

rice

(p

er D

VD

s)

A

S0

Quantity of DVDs (per week)

$2.50

2.25

0 98 10

D0 D1

B Excess demand

B Excess demandA

Pri

ce (

per

DV

Ds)

Quantity of DVDs (per week)

$2.50

2.25

0 98 10

D0

S0C

S1

Decrease in Supply

Shifts in Supply and Demand

• Shifts in either supply or demand change equilibrium price.

• An increase in demand or a decrease in supply:– Creates excess demand at the original

equilibrium price.– Excess demand increases price until a new

higher equilibrium price and quantity are reached.

Questions

• It has been reported that eating red meat is bad for your health. Using supply and demand curves, demonstrate the report’s likely effect on the equilibrium price and quantity of steak sold in the market.

Questions

• Why does the price of airline tickets rise during the summer months? Demonstrate your answer with demand and supply curves.

Questions• Show how the equilibrium price and quantity

will be affected by each of the following factors:

a. Bad weather wreaks havoc with the tea crop

b. A technological innovation lowers the cost of producing tea

c. Consumers’ income falls.( Assume tea is a normal good.)

d. A medical report implying tea is bad for your health is published

Summary

• A change in quantity demanded (supplied), caused only by a change in the good’s own price, is a movement along the demand (supply) curve.

• A change in demand (supply) is a shift of the entire demand (supply) curve.

• Factors that affect supply and demand other than price are called shift factors.

Summary

Shift Factors of Demand Shift Factors of Supply

Income Price of Inputs

Prices of Other Goods Technology

Tastes Expectations

ExpectationsTaxes and Subsidies on

Producers

Taxes and Subsidies on Consumers

Summary

• A market demand (supply) curve is the horizontal sum of all individual demand (supply) curves.

• When quantity demanded equals quantity supplied at equilibrium, prices have no tendency to change.

• When quantity demanded > quantity supplied, prices tend to rise.

• When quantity supplied > quantity demanded, prices tend to fall.

Summary

• When the demand curve shifts to the right (left), equilibrium price rises (declines) and equilibrium quantity rises (falls).

• When the supply curve shifts to the right (left), equilibrium price declines (rises) and equilibrium quantity rises (falls).