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Chapter 4 Demand and Supply

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Editors notes: Our Current Events Internet Library has an interesting economics section.

 I. The marketplace
     A. A market is defined as an institution or mechanism which promotes trade by bringing together buyers (demanders) and 
          sellers (suppliers).
     B. Replaced barter which is the direct exchange of goods.
     C. A modern market brings money and prices into the circular flow of goods.

II. Demand is willingness to buy.
     A. Demand is a schedule of the amounts of goods and services consumers are willing and able to buy at a set of prices.
     B. Total demand is the Horizontal Summation  of individual demand.
     C. Law of demand:: price and quantity are inversely related.
         1. As price goes up, quantity demanded goes down.
         2. As price goes down, quantity demanded goes up.
          3. Why more is bought as price drops.
                 a. Income Effect: as the price of a good drops, consumers feel richer and buy more.
              b. Substitution Effect: as the price of a good drops, it becomes cheaper relative to 
                  other goods and consumers buy more

 C. Math Review is a short review of basic dynamic math skills for microeconomics from R. Larry Reynolds of Boise State.

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Review With
AP Macroeconomics Review Materials

AP Microeconomics Review Materials

 

 

Price 
 5
4
3
2
1

Quantity
 1
2
3
4
5

     D. What determines demand   
          1. Tastes or preferences of consumers
          2. Number of consumers
          3. Incomes of consumers
              a. normal (superior) goods such as steak and vacations - more is purchased as income increases. 
              b inferior goods such as bread and hamburger - less is purchased as income increases.
          4. Consumer expectations
          5. Price of related goods
              a. Substitutes are goods that compete with each other such as hot dogs and hamburgers.
                  If the price of a good increases, the demand for its substitutes will increase.
              b. Complements are goods that are purchased together like hot dogs and rolls.
                  If the price of a good increases, the demand for its complement will decrease.
          6. ''Ceteris Paribus'' is Latin for all other variables remain the same.. So we change one variable at a tome.
      E. Changes (shifts) in Demand
         1. A decrease in demand shifts the demand curve to the left
         2. An increase in demand shifts the demand curve to the right
Note: Increase is to the right because the x-axis increases to the right

. 

 

 
      F.  Explorations in Economic Demand by Kim Sosin, Department of Economics of the University of Omaha has good examples.
      G. Check your knowledge of Demand by answering questions provided by Samuel L. Baker, Ph.D. of the University of South Carolina.

III. Supply is willingness to sell
      A. Supply is a schedule of the amounts of goods or services producers are 
           willing and able to sell at a set of prices.
      B. Law of supply: price and quantity supplied are directly related because
          price and expected profit are directly related
          1. As price goes up, quantity supplied goes up
          2. As price goes down, quantity supplied goes down
      C. Supply schedule

      Price
         5
         4
         3
         2
         1

    Quantity
          1
          2
          3
          4
          5 		 
      D. What determines supply
           1. Product costs as affect2ed by
               a. Technology
               b. Resource prices
               c. Government involvement with taxes and subsidies
           2. Price of related goods
               a. If 2 goods are substitutes, price up for one will increase supply of the other (price of gasoline up, 
                   supply of alternative fuels increases) as companies see more potential profit
               b. If 2 goods are complements, price down of one will increase supply of other (price of PC's down, 
                   supply of computer software up) as the expected increase in sales of the first item should increase
                   sales of the complement.
           3. Number of producer and their expectations concerning the above listed variables will affect supply
      E. Changes (shifts) in supply
          1. A decrease in supply shifts the supply curve to the left
          2. An increase in supply shifts the supply curve to the right

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      F. Explorations in Economic Supply from Dr. Kim Sosin of the University of Omaha has good examples.
IV. Equilibrium is where suppliers and demanders agree on price and quantity as depicted by the intersection 
      of their supply and demand curves. 
      A. If the price is too high, a surplus results and price must be lowered (the world economic slowdown in 1999 
           required lowering price to work down supply) 
      B. If the price is too low, a shortage results. This happens with toys every Christmas (Cabbage Patch Dolls)
      C. If they can not agree, as happened with Beta videotape machines, then the curves do not intersect and the 
           goods are not sold. 		 

      D. Econ Concepts in 60 Second Disequilibrium, Surplus, and Shortage
      E. Rationing function of price
          1. When competitive forces of supply and demand result in an equilibrium,
              a rationing function of goods produce to consumers has occurred.
          2. Competition has made it an efficient allocation of resources.

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VI. Government Imposed Price Ceilings and Floors
      A. A price ceiling keeps prices from rising (rent control) helping renters but often resulting in a shortage of housing as investors seek higher returns elsewhere.
      B. A price floor keeps prices from falling (farm price supports) helps farmers though a surplus often results as more of supported crops are produced.
      C. Econ Concepts in 60 Seconds Video on Government Price Controls

 

 

 

 

 

V. How changes in supply and demand affect equilibrium price and quantity
    A. Econ Concepts in 60 Second Video on Double Shifts in Supply and Demand
     B Econ Concepts in 60 Seconds Video on Shifting Supply and Demand
     C. Another View
         D up and S up equally

         D up causes P up and Q up

         S up causes P down and Q up

        Result is P same and Q up

D up and S down equally  

D up causes P up and Q up 

S down causes P up and Q down 

Result is P up and Q same

      D down and S up equally

      D down causes P down and Q down

      S up causes P down and Q up

      Result is P down and Q same		 D down and S down equally 

D down causes P down and Q down 

S down causes P up and Q down 

Result is P same and Q down

     D. View a dynamic model of Changes in Supply, Demand and Market Equilibrium
          by Dennis Kaufman University of Wisconsin-Parkside.

  
     E. Unequal Shifts in Demand and Supply
         D up and S up more

  D up and S down more


         Check your knowledge of Supply, Demand, and Equilibrium by answering questions provided by Samuel L. Baker, Ph.D. of the University of South Carolina.
         More Excellent Supply/Demand Practice from  http://ecedweb.unomaha.edu/home.cfm
         For a real life example visit Cattle Market Equilibrium

VII. Valuing bonds using supply and demand
        1. A bond is a promise to pay over time.
        2) Suppose you buy a twenty year, $10,000 bond paying 5% per year at face value of $10,000. Face value is called par value.
            a) A few years go by and you need money and one choice is to sell the bond.
            b) If interest rates on this type bond have gone down, people will be very anxious to buy, demand, will be high pushing price up and 
                your will receive more than $10,000.
            c) If rate shave gone down, no one will give you $10,000, demand will be low, so if you need the money, it will sell for less, below par.
            d) You can hold for twenty years and get par and ind the money some where else.
        3) Therefore, interest rates and bond values (prices) go in the opposite direction, if interest rates down, old bond price up because they are at the old higher rate.
        4) This is called the interest rate risk for bonds. Other risks have to do with issuer default and monetary inflation.
        5. studyfinance.com  calculates the new bond value when interest rate drops.

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