Supply and Demand

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In economics, supply and demand is a model of price determination in a market.

Demand

Definitions

  • Demand Curve
    • A curve or schedule showing the total quantity of goods that buyers want to buy at each price in a market
  • Change in the quantity demanded
    • A movement along the demand curve that occurs in response to a change in price
  • Change in demand
    • A shift of the entire demand curve (eg. an increase in income will shift the demand curve to the right)

Characteristics

  • It is downward slopping with respect to price
    • When the price is high, consumers will demand less of a good
    • When the price is low, consumers will demand more of a good

Determinants of Demand

  • Income
  • Prices of Related Goods
  • preference changes
  • Expectations
  • Number of buyers
  • Technology

Practice Problems

Questions:

  1. What effect would a news announcement indicating the health benefits of eating apples have on the apple market?
  2. The demand curve for apples in the market for apples will shift to the left if the price of apples increase. True or False.

Answers:

  1. Demand curve will shift to the right because of the increase in consumer preferences
  2. False because price only determines the change in the quantity demand. Therefore, there will only be a leftward shift along the demand curve but the entire demand curve will not shift.

Supply

Definitions

  • Supply Curve
    • The amount of a good that sellers are willing and able to sell
  • Change in quantity supplied
    • a movement along the supply curve that occurs in response to a change in price
  • Change in supply
    • A shift of the entire supply curve

Characteristics

  • It is upward slopping with respect to price
    • When the price is high, sellers will supply more because they can earn more in revenue
    • When the price is low, sellers will supply less because they earn less in terms of revenue

Determinants of Supply

  • Input costs including wages, interest rates
  • Technology
  • Expectations
  • Number of Sellers

Practice Problems

Questions:

  1. What effect would a good growing season in Hawaii have on the global market for pineapple?
  2. What effect would a major petroleum refinery outage in Georgia have on the market for gasoline in North America?

Answers:

  1. The supply would shift to the right because of good growing season.
  2. The supply would decrease because of technological failure.

Equilibrium

Definitions

  • Equilibrium (market clearing)
    • Equilibrium means 'no movement', i.e. no changes in the variable of interest. A situation in which the price has reached the level where quantity supplied equals quantity demanded. In a free market, prices and quantities will keep changing until the market clears.
  • Equilibrium Price
    • The price that balances quantity supplied and quantity demanded
  • Equilibrium Quantity
    • The quantity supplied and the quantity demanded at the equilibrium price

Steps in analyzing Changes in Equilibrium

Step 1

  • Decide whether the event shifts the supply or the demand curve

Step 2

  • Decide whether the curve(s)shift(s) left or right

Step 3

  • Indicate the changes to the equilibrium price and quantity

Surplus and Shortage

  • Surplus: Situation in which the quantity supplied is greater than the quantity demanded.
  • Shortage: Situation in which the quantity demanded is greater than the quantity supplied.



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