Chapter 3

Demand, Supply, and Market Equilibrium

Copyright 2009 by The McGraw-Hill Companies, Inc. All

McGraw-Hill/Irwin

Chapter Objectives
Demand and its determinants Supply and its determinants Supply, demand, & market equilibrium Changes in supply and demand Government-set prices
3-2

A Market
Interaction between buyers and sellers Buyers demand goods Sellers supply goods Assumptions
Standardized good Competitive market
3-3

Demand
Schedule or curve Amount consumers willing and able to purchase at a given price Other things equal Individual demand Market demand
3-4

Law of Demand
Other things equal, as price falls quantity demanded rises Explanations:
Diminishing marginal utility Income effect Substitution effect
3-5

Individual Demand
P
6 5

P $5 4 3 2 1

Qd 10 20 35 55 80

Price (per bushel)

4 3 2 1 0

D
10 20 30 40 50 60 70 80

Quantity Demanded (bushels per week)

3-6

Determinants of Demand
Factors that shift the demand curve Cause more or less to be bought at any possible price Increase or decrease in demand Tastes Number of buyers
3-7

Determinants of Demand
Income
Normal goods Inferior goods

Price of related goods

Substitute good Complementary good Unrelated goods

Consumer expectations
3-8

Individual Demand
P
6 5

P $5 4 3 2 1

Qd 10 20 35 55 80

Price (per bushel)

4 3 2 1

D2 D1
16 18 Q

D3
0

Quantity Demanded (bushels per week)

10

12

14

3-9

Individual Demand
P
6 5

Change in Demand

P $5 4 3 2 1

Qd 10 20 35 55 80

Price (per bushel)

4 3 2 1

Change in Quantity Demanded

D2 D1
16 18 Q

D3
0

Quantity Demanded (bushels per week)

10

12

14

3-10

Supply
Schedule or curve Amount producers willing and able to sell at a given price

Individual supply Market supply

3-11

Law of Supply
Other things equal, as price rises the quantity supplied rises Explanations:
Revenue implications Marginal cost

3-12

Individual Supply
P
6 5

S1

P $5 4 3 2 1

Qs 60 50 35 20 5

Price (per bushel)

4 3 2 1 0

10

Quantity Supplied (bushels per week)

20

30

40

50

60

70

3-13

Determinants of Supply
Resource prices Technology Taxes and subsidies Prices of other goods Producer expectations Number of sellers
3-14

Individual Supply
P
6 5

S3

S1 S2

P $5 4 3 2 1

Qs 60 50 35 20 5

Price (per bushel)

4 3 2 1 0

10

20

30

40

50

60

70

Quantity Supplied (bushels per week)

3-15

Individual Supply
P
6 5

S3

P $5 4 3 2 1

Qs 60 50 35 20 5

Price (per bushel)

Change in Quantity Supplied

S1 S2

4 3 2

Change in Supply
1 0

10

20

30

40

50

60

70

Quantity Supplied (bushels per week)

3-16

Market Equilibrium
Equilibrium price and quantity Surplus and shortage Rationing function of price Efficient allocation
Productive efficiency Allocative efficiency
3-17

Market Equilibrium
6 5

Price (per bushel)

P
$5 4 3

Qd
2,000 4,000 7,000

6,000 Bushel Surplus

S $4 Price Floor

P
$5 4

Qs
12,000 10,000 7,000 4,000 1,000

4 3

$2 Price Ceiling
2 1 0

3 2

2 11,000 1 16,000

7,000 Bushel Shortage

2 4 6 7 8 10 12 14 16

D
18

Bushels of Corn (thousands per week)

3-18

Market Equilibrium
Change in demand
Shift of the demand curve

Change in supply
Shift of the supply curve

Change in equilibrium price and quantity

3-19

Market Equilibrium
Price Quantity

Supply increase; Demand decrease Supply decrease; Demand increase Supply increase; Demand increase Supply decrease; Demand decrease

? ? ? ?
3-20

Government-Set Prices
Price ceilings on gasoline
Rationing problem Black markets

Rent controls Price floors on wheat

Optimal allocation of resources
3-21

A Market for Human Organs

Waiting list for transplants Demand for organs Supply of organstwo possibilities Market eliminates shortage Moral objections Legalize and regulate?
3-22

A Market for Human Organs

P S1 S2 Supply of Organs

P1 At Price P1 the Shortage is Reduced By Q1 Q2

Demand for Organs

P0

D1 Q1 Q2 Q3 Q
3-23

Key Terms
demand demand schedule law of demand diminishing marginal utility income effect substitution effect demand curve determinants of demand normal goods inferior goods substitute good complementary good change in demand change in quantity demanded supply supply schedule law of supply supply curve determinants of supply change in supply change in quantity supplied equilibrium price equilibrium quantity surplus shortage price ceiling price floor
3-24

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The U.S. Economy: Public and Private Sectors

3-25