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4 Demand
PRINCIPLES OF
ECONOMICS
FOURTH EDITION
N. G R E G O R Y M A N K I W
PowerPoint® Slides
by Ron Cronovich
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CHAPTER 4 THE MARKET FORCES OF SUPPLY AND DEMAND 11
Demand Curve Shifters: income
Demand for a normal good is positively related
to income.
• An increase in income causes increase
in quantity demanded at each price, shifting
the D curve to the right.
18
A C T I V E L E A R N I N G 1:
A. price of iPods falls
Music
Music downloads
downloads
Price of
music and
and iPods
iPods areare
down- complements.
complements.
loads
AA fall
fall in
in price
price ofof
iPods
iPods shifts
shifts the
the
P1
demand
demand curve curve for
for
music
music downloads
downloads
to
to the
the right.
right.
D1 D2
Q1 Q2 Quantity of
music downloads
19
A C T I V E L E A R N I N G 1:
B. price of music downloads falls
Price of
music
down- The
The D
D curve
curve
loads does
does not
not shift.
shift.
P1 Move
Move down
down along
along
curve
curve to
to aa point
point with
with
P2 lower
lower P,
P, higher
higher Q.
Q.
D1
Q1 Q2 Quantity of
music downloads
20
A C T I V E L E A R N I N G 1:
C. price of CDs falls
Price of CDs
CDs andand
music music
music downloads
downloads
down-
are
are substitutes.
substitutes.
loads
AA fall
fall in
in price
price of
of CDs
CDs
P1 shifts
shifts demand
demand for
for
music
music downloads
downloads
to
to the
the left.
left.
D2 D1
Q2 Q1 Quantity of
music downloads
21
Supply
Supply comes from the behavior of sellers.
The quantity supplied of any good is the
amount that sellers are willing and able to sell.
Law of supply: the claim that the quantity
supplied of a good rises when the price of the
good rises, other things equal
$5.00
$0.00 0
1.00 3
$4.00
2.00 6
$3.00 3.00 9
$2.00 4.00 12
$1.00 5.00 15
6.00 18
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CHAPTER 4 THE MARKET FORCES OF SUPPLY AND DEMAND 24
Market Supply versus Individual Supply
The quantity supplied in the market is the sum of
the quantities supplied by all sellers at each price.
Suppose Starbucks and Jitters are the only two
sellers in this market. (Qs = quantity supplied)
Price Starbucks Jitters Market Qs
$0.00 0 + 0 = 0
1.00 3 + 2 = 5
2.00 6 + 4 = 10
3.00 9 + 6 = 15
4.00 12 + 8 = 20
5.00 15 + 10 = 25
6.00 18 + 12 = 30
The Market Supply Curve
QS
P
(Market)
P
$6.00 $0.00 0
1.00 5
$5.00
2.00 10
$4.00
3.00 15
$3.00 4.00 20
$2.00 5.00 25
6.00 30
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CHAPTER 4 THE MARKET FORCES OF SUPPLY AND DEMAND 26
Supply Curve Shifters
The supply curve shows how price affects
quantity supplied, other things being equal.
These “other things” are non-price determinants
of supply.
Changes in them shift the S curve…
P Suppose the
$6.00 price of milk falls.
$5.00
At each price,
$4.00 the quantity of
$3.00 Lattes supplied
will increase
$2.00 (by 5 in this
$1.00 example).
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CHAPTER 4 THE MARKET FORCES OF SUPPLY AND DEMAND 29
Supply Curve Shifters: technology
Technology determines how much inputs are
required to produce a unit of output.
A cost-saving technological improvement has
same effect as a fall in input prices,
shifts the S curve to the right.
Price of
tax return The
The S S curve
curve
S1
software
does
does not not shift.
shift.
P1 Move
Move downdown
along
along thethe curve
curve
P2 to
to aa lower
lower PP
and
and lower
lower Q.
Q.
Q2 Q1 Quantity of tax
return software
35
A C T I V E L E A R N I N G 2:
B. fall in cost of producing the
software
Price of
tax return
S1
The
The S S curve
curve
software S2
shifts
shifts to
to the
the
right:
right:
P1
at
at each
each price,
price,
Q
Q increases.
increases.
Q1 Q2 Quantity of tax
return software
36
A C T I V E L E A R N I N G 2:
C. professional preparers raise their
price
Price of
tax return
S1 This
This shifts
shifts the
the
software
demand
demand curve
curve for
for
tax
tax preparation
preparation
software,
software, not
not the
the
supply
supply curve.
curve.
Quantity of tax
return software
37
Supply and Demand Together
P
$6.00 D S Equilibrium:
P has reached
$5.00
the level where
$4.00 quantity supplied
$3.00 equals
quantity demanded
$2.00
$1.00
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CHAPTER 4 THE MARKET FORCES OF SUPPLY AND DEMAND 38
Equilibrium price:
The price that equates quantity supplied
with quantity demanded
P
$6.00 D S
P QD QS
$5.00 $0 24 0
$4.00 1 21 5
$3.00 2 18 10
3 15 15
$2.00
4 12 20
$1.00
5 9 25
$0.00 Q 6 6 30
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CHAPTER 4 THE MARKET FORCES OF SUPPLY AND DEMAND 39
Equilibrium quantity:
The quantity supplied and quantity demanded
at the equilibrium price
P
$6.00 D S
P QD QS
$5.00 $0 24 0
$4.00 1 21 5
$3.00 2 18 10
3 15 15
$2.00
4 12 20
$1.00
5 9 25
$0.00 Q 6 6 30
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CHAPTER 4 THE MARKET FORCES OF SUPPLY AND DEMAND 40
Surplus:
when quantity supplied is greater than
quantity demanded
P
$6.00 D Surplus S Example:
If P = $5,
$5.00
then
$4.00 QD = 9 lattes
$3.00 and
$2.00 QS = 25 lattes
$1.00
resulting in a surplus
of 16 lattes
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CHAPTER 4 THE MARKET FORCES OF SUPPLY AND DEMAND 41
Surplus:
when quantity supplied is greater than
quantity demanded
P
$6.00 D Surplus S Facing a surplus,
sellers try to increase
$5.00 sales by cutting the price.
$4.00 This causes
$3.00 QD to rise and QS to fall…
$2.00 …which reduces the
surplus.
$1.00
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CHAPTER 4 THE MARKET FORCES OF SUPPLY AND DEMAND 42
Surplus:
when quantity supplied is greater than
quantity demanded
P
$6.00 D Surplus S Facing a surplus,
sellers try to increase
$5.00 sales by cutting the price.
$4.00 Falling prices cause
$3.00 QD to rise and QS to fall.
$2.00 Prices continue to fall until
market reaches equilibrium.
$1.00
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CHAPTER 4 THE MARKET FORCES OF SUPPLY AND DEMAND 43
Shortage:
when quantity demanded is greater than
quantity supplied
P
$6.00 D S Example:
If P = $1,
$5.00
then
$4.00 QD = 21 lattes
$3.00 and
QS = 5 lattes
$2.00
resulting in a
$1.00 shortage of 16 lattes
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CHAPTER 4 THE MARKET FORCES OF SUPPLY AND DEMAND 44
Shortage:
when quantity demanded is greater than
quantity supplied
P
$6.00 D S Facing a shortage,
sellers raise the price,
$5.00
causing QD to fall
$4.00 and QS to rise,
$3.00 …which reduces the
shortage.
$2.00
$1.00
Shortage
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CHAPTER 4 THE MARKET FORCES OF SUPPLY AND DEMAND 45
Shortage:
when quantity demanded is greater than
quantity supplied
P
$6.00 D S Facing a shortage,
sellers raise the price,
$5.00
causing QD to fall
$4.00 and QS to rise.
$3.00 Prices continue to rise
$2.00
until market reaches
equilibrium.
$1.00
Shortage
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CHAPTER 4 THE MARKET FORCES OF SUPPLY AND DEMAND 46
Three Steps to Analyzing Changes in
Eq’m
P1
D1
Q
Q1
quantity of
hybrid cars
CHAPTER 4 THE MARKET FORCES OF SUPPLY AND DEMAND 48
EXAMPLE 1: A Change in
Demand
EVENT TO BE
ANALYZED: P
Increase in price of gas. S1
STEP 1: P2
D curve shifts
because
STEP 2: price of gas P1
affects demand for
D shifts right
hybrids.
because
STEP 3: high gas
S curve
price doeshybrids
makes not D1 D2
The shift
shift, causes
because an
price
more attractive Q
increase
of gas in price
does not cars. Q1 Q2
relative to other
and quantity
affect cost of of
hybrid cars.
producing hybrids.
CHAPTER 4 THE MARKET FORCES OF SUPPLY AND DEMAND 49
EXAMPLE 1: A Change in
Demand
Notice: P
When P rises,
S1
producers supply
a larger quantity P2
of hybrids, even
though the S curve P1
has not shifted.
Always be careful
D1 D2
to distinguish b/w
a shift in a curve Q
Q1 Q2
and a movement
along the curve.
CHAPTER 4 THE MARKET FORCES OF SUPPLY AND DEMAND 50
Terms for Shift vs. Movement Along
Curve
Change in supply: a shift in the S curve
• occurs when a non-price determinant of supply
changes (like technology or costs)
Change in the quantity supplied:
a movement along a fixed S curve
• occurs when P changes
Change in demand: a shift in the D curve
• occurs when a non-price determinant of
demand changes (like income or # of buyers)
Change in the quantity demanded:
a movement along a fixed D curve
• occurs when P changes
EXAMPLE 2: A Change in
Supply
EVENT: New technology
reduces cost of P
producing hybrid cars. S1 S2
STEP 1:
S curve shifts
because
STEP 2: event affects P1
cost of production.
S shifts right P2
D curve does
because event not
STEPbecause
shift, 3:
reduces cost, D1
The shift causes
production technology
makes production Q
price
is not to
onefallof the Q1 Q2
more profitable at
and quantity
factors that to rise.
affect
any given price.
demand.
CHAPTER 4 THE MARKET FORCES OF SUPPLY AND DEMAND 52
EXAMPLE 3: A Change in
Both Supply
EVENTS: and Demand
P
price of gas rises AND
new technology reduces S1 S2
production costs
STEP 1: P2
Both curves shift.
P1
STEP 2:
Both shift to the right.
STEP 3: D1 D2
Q rises, but effect Q
on P is ambiguous: Q1 Q2
If demand increases more
than supply, P rises.
CHAPTER 4 THE MARKET FORCES OF SUPPLY AND DEMAND 53
EXAMPLE 3: A Change in
Both Supply
EVENTS: and Demand
P
price of gas rises AND
new technology reduces S1 S2
production costs
STEP 3, cont.
P1
But if supply
increases more P2
than demand,
D1 D2
P falls.
Q
Q1 Q2
55
A C T I V E L E A R N I N G 3:
A. fall in price of CDs
The market for
P music downloads
S1
STEPS
1. D curve shifts P1
2. D shifts left P2
3. P and Q both
fall.
D2 D1
Q
Q2 Q1
56
A C T I V E L E A R N I N G 3:
B. fall in cost of
The market for
royalties music downloads
P
S1 S2
STEPS
1. S curve shifts P1
(royalties are part P2
2. S shifts right
of sellers’ costs)
3. P falls,
Q rises.
D1
Q
Q1 Q2
57
A C T I V E L E A R N I N G 3:
C. fall in price of CDs
AND fall in cost of royalties
STEPS
STEPS
1.
1. Both
Both curves
curves shift
shift (see
(see parts
parts AA && B).
B).
2.
2. D
D shifts
shifts left,
left, SS shifts
shifts right.
right.
3.
3. PP unambiguously
unambiguously falls. falls.
Effect
Effect on
on Q Q is
is ambiguous:
ambiguous:
The
The fall
fall in
in demand
demand reduces
reduces Q,Q,
the
the increase
increase in in supply
supply increases
increases Q.
Q.
58
CONCLUSION:
How Prices Allocate Resources
One of the Ten Principles from Chapter 1:
Markets are usually a good way
to organize economic activity.
In market economies, prices adjust to balance
supply and demand. These equilibrium prices
are the signals that guide economic decisions
and thereby allocate scarce resources.