The Market Forces of Supply and Demand

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MARKETS AND COMPETITION •  A market is a group of buyers and sellers of a particular good or service.

•  The terms supply and demand refer to the behavior of people . . . as they interact with one another in markets.

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DEMAND •  Quantity demanded is the amount of a good that buyers are willing and able to purchase at a specific price. •  Law of Demand: Other things equal, the quantity demanded of a good falls when the price of the good rises.

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Catherine’s Demand Schedule

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The Demand Curve

The demand curve is a graph of the relationship between the price of a good and the quantity demanded.

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Catherine’s Demand Schedule and Demand Curve Price of Ice-Cream Cone $3.00 2.50 1. A decrease in price ...

2.00 1.50 1.00 0.50 0 1 2 3 4 5 6 7 8 9 10 11 12 Quantity of Ice-Cream Cones 2. ... increases quantity of cones demanded. Copyright © 2004 South-Western

Market Demand versus Individual Demand •  Market demand refers to the sum of all individual demands for a particular good or service. •  Graphically, individual demand curves are summed horizontally to obtain the market demand curve.

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Helen’s Demand Schedule & Curve Price of Lattes

Price Quantity of of lattes lattes demanded $0.00

16

1.00

14

2.00

12

3.00

10

4.00

8

5.00

6

6.00

4

Quantity of Lattes Copyright © 2004 South-Western

Market Demand versus Individual Demand •  Suppose Helen and Ken are the only two buyers in the Latte market. (Qd = quantity demanded) Price

Helen’s Qd

$0.00

16

1.00

14

2.00

12

3.00

10

4.00

8

5.00

6

6.00

4

+ + + + + + +

Ken’s Qd

Market Qd

8

=

24

7

=

21

6

=

18

5

=

15

4

=

12

3

=

9

2

=

6 Copyright © 2004 South-Western

The Market Demand Curve for Lattes

P

P

Qd (Market)

$0.00

24

1.00

21

2.00

18

3.00

15

4.00

12

5.00

9

6.00

6

Q Copyright © 2004 South-Western

Why is the demand curve downward sloping?

•  The law of diminishing marginal utility •  The substitution effect •  The income effect

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Changes in Quantity Demanded Price of IceCream Cones

B

$2.00

A

1.00

A change in quantity demanded is a movement along the demand curve caused by a change in the price of the good.

D 0

4

8

Quantity of Ice-Cream Cones Copyright © 2004 South-Western

Shifts in the Demand Curve

• Consumer income • Prices of related goods • Tastes • Expectations • Number of buyers

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Shifts in the Demand Curve

•  Change in Demand •  A shift in the demand curve, either to the left (decrease in demand) or right (increase in demand). •  Caused by any change that alters the quantity demanded at every price. Copyright © 2004 South-Western

Shifts in the Demand Curve Price of Ice-Cream Cone Increase in demand

Decrease in demand

Demand curve, D3 0

Demand curve, D1

Demand curve, D2

Quantity of Ice-Cream Cones Copyright©2003 Southwestern/Thomson Learning

The Effect of Income on Demand (Normal Goods and Inferior Goods)

•  Normal Good: As income increases the demand for a normal good will increase. •  Inferior Good: As income increases the demand for an inferior good will decrease. Copyright © 2004 South-Western

Normal Good Price of IceCream Cone

$3.00

An increase in income...

2.50 Increase in demand

2.00 1.50 1.00 0.50

D1 0 1

2 3 4 5 6 7 8 9 10 11 12

D2

Quantity of Ice-Cream Cones

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Inferior Good Price of IceCream Cone

$3.00 2.50

An increase in income...

2.00 Decrease in demand

1.50 1.00 0.50

D2 0 1

D1

2 3 4 5 6 7 8 9 10 11 12

Quantity of Ice-Cream Cones

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Prices of Related Goods

•  Substitutes: When a fall in the price of one good reduces the demand for another good, the two goods are called substitutes. •  Complements: When a fall in the price of one good increases the demand for another good, the two goods are called complements.

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Number of buyers P

Suppose the number of buyers increases. Then, at each price, quantity demanded will increase (by 5 in this example).

Q

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Tastes •  Anything that causes a shift in tastes toward a good will increase demand for that good and shift its D curve to the right.

•  Example: The Atkins diet became popular in the ’90s, caused an increase in demand for eggs, shifted the egg demand curve to the right.

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Expectations •  Expectations affect consumers’ buying decisions. •  Examples: •  If people expect their incomes to rise, their demand for meals at expensive restaurants may increase now. •  If the economy turns bad and people worry about their future job security, demand for new autos may fall now. Copyright © 2004 South-Western

Influences on Demand

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Draw a demand curve for music downloads. What happens to it in each of the following scenarios? Why? A. The price of iPods falls B. The price of music downloads falls C. The price of compact discs falls

24 Copyright © 2004 South-Western

Music downloads and iPods are complements.

Price of music downloads

P1

D1 Q1

Q2

D2

A fall in price of iPods shifts the demand curve for music downloads to the right.

Quantity of music downloads 25 Copyright © 2004 South-Western

Price of music downloads

The D curve does not shift. Move down along curve to a point with lower P, higher Q.

P1 P2 D1 Q1

Q2

Quantity of music downloads 26 Copyright © 2004 South-Western

CDs and music downloads are substitutes.

Price of music downloads

A fall in price of CDs shifts demand for music downloads to the left.

P1

D2 Q2

Q1

D1 Quantity of music downloads 27 Copyright © 2004 South-Western