Transcript Chapter 6: Prices and Decision Making

Shoe Shine time!
• Offers to do shoe shines? How much?
• Demands for shoe shines? At what
price?
• Who competes?
Activity: In the Chips
Balancing the Market
The point at which quantity demanded and quantity supplied
come together is known as equilibrium.
AKA—”Market Clearing Price”
Finding Equilibrium
Equilibrium Point
Combined Supply and Demand Schedule
$3.50
Price of
a ticket
Quantity
demanded
Quantity
supplied
$ .50
300
100
$1.00
250
150
$1.50
200
200
$2.00
150
250
$2.50
100
300
$3.00
50
350
Result
$2.50
$2.00
Equilibrium
Price
$1.50
$1.00
$.50
Supply
0
50
100
150
a
Equilibrium
Quantity
Price per ticket
$3.00
200
Tickets sold
Demand
250
300
350
Shortage from
excess demand
Equilibrium
Surplus from
excess supply
Market Disequilibrium
If the market price or quantity supplied is anywhere but
at the equilibrium price, the market is in a state called
disequilibrium. There are two causes. In either case,
interactions between buyers and sellers will always push
the market back towards equilibrium.
Excess Demand
Excess Supply
• Excess demand
• Excess supply
occurs when
occurs when
quantity
quantity supplied
demanded is more
exceeds quantity
than quantity
demanded.
supplied.
Price Ceilings/Price Floors
(Generally Bad!)
• A price ceiling is a maximum price that can be
legally charged for a good.
• An example of a price ceiling is rent control, a
situation where a government sets a maximum
amount that can be charged for rent in an area.
• A price floor is a minimum price, set by the
government, that must be paid for a good or
service.
• One well-known price floor is the minimum wage,
which sets a minimum price that an employer can
pay a worker for an hour of labor.
Agricultural Price Supports
• 1930s: Government offered loan support through
Commodity Credit Corporation. CCC stabilized
prices and led to food surpluses.
• The CCC switched to deficiency payments to
prevent the government from holding surplus food
• 1996: Congress passed the Federal Agricultural
Improvement and Reform Act (FAIR). Cash
payments replaced price supports and deficiency
payments—no cost savings
• 2002: Huge farm subsidy bill passed to continue
FAIR benefits.
Why the Minimum Wage Hurts
Minority Youth
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With a minimum wage, employment FALLS.
The Quantity demanded of labor falls.
People who keep jobs get paid more, but
Who keeps jobs?
Job losses are NOT random
Minorities lose jobs, cannot acquire job skills
Section 1 Review
1. Equilibrium in a market means which of the following?
(a) the point at which quantity supplied and quantity
demanded are the same
(b) the point at which unsold goods begin to pile up
(c) the point at which suppliers begin to reduce prices
(d) the point at which prices fall below the cost of
production
2. The government’s price floor on low wages is called the
(a) market equilibrium
(b) base wage rate
(c) minimum wage
(d) employment guarantee
Shifts in Supply
Understanding a Shift
– Since markets tend toward equilibrium, a change in
supply will set market forces in motion that lead the
market to a new equilibrium price and quantity sold.
Excess Supply
– A surplus is a situation in which quantity supplied is
greater than quantity demanded. If a surplus occurs,
producers reduce prices to sell their products. This
creates a new market equilibrium.
A Fall in Supply
– The exact opposite will occur when supply is decreased.
As supply decreases, producers will raise prices and
demand will decrease.
Shifts in Demand
Excess Demand
– A shortage is a situation in which quantity
demanded is greater than quantity supplied.
Search Costs
– Search costs are the financial and
opportunity costs consumers pay when
searching for a good or service.
A Fall in Demand
– When demand falls, suppliers respond by
cutting prices, and a new market
equilibrium is found.
Analyzing Shifts in Supply&Demand
Graph A: A Change in Supply
Graph B: A Change in Demand
$800
$60
a
Supply
$50
b
Original
supply
$40
c
Price
Price
$600
$400
c
$30
a
b
$20
$200
New
supply
Demand
New
demand
Original
demand
$10
0
1
2
3
4
5
Output (in millions)
0
100
200
300
400
500
600
700
800
900
Output (in thousands)
• Graph A shows how the market finds a new equilibrium when
there is an increase in supply.
• Graph B shows how the market finds a new
equilibrium when there is an increase in
demand
Section 2 Review
1. When a new equilibrium is reached after a fall in
demand, the new equilibrium has a
(a) lower market price and a higher quantity sold.
(b) higher market price and a higher quantity sold.
(c) lower market price and a lower quantity sold.
(d) higher market price and a lower quantity sold.
2. What happens when any market is in disequilibrium
and prices are flexible?
(a) Market forces push toward equilibrium.
(b) Sellers waste their resources.
(c) Excess demand is created.
(d) Unsold perishable goods are thrown out.
The Role of Prices
• Prices GENERATE INFORMATION. Who is willing to pay? Who
is the highest value user? Who is the low-cost supplier?
• Prices help move land, labor, and capital into the hands of
producers, and finished goods into the hands of buyers. They
serve as incentives. Prices ration goods.
• Prices create efficient resource allocation for producers and
a language both consumers and producers can use.
(Competitive Price Theory—contingent on ideal conditions)
• Prices are neutral—favor neither buyer or seller
• Prices allow for “shocks” & unforeseen events. They are
more flexible than production and can be easily
increased/decreased to solve problems of supply or demand.
• Prices have no administration cost
• Prices are familiar/easily understood
A Look at Rationing
Methods of Rationing
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Auction is normal method
1st come, 1st served
Dictator
Share equally
Brute force
Contest—Who wants to be a Millionaire?
Need—organs, scholarships
Raffle/Lottery
Advantages of “Auction”
• All can participate
• Matches willingness to pay with desire
• Price influences supply
• Provides incentives to modify behavior
• Reflects opportunity costs
Resource Allocation
• You can allocate goods w/o prices.
• One solution: RATIONING. Government
decides everyone’s “Fair share”
• But rationing leads to high administrative
costs and few incentives to work and
produce
• A market system, with its fully
changing prices, ensures that
resources go to the uses that
consumers value most highly.
Market Problems
– Imperfect competition between firms in a
market can affect prices and consumer
decisions.
– Spillover costs, or externalities, are costs of
production, such as air and water pollution, that
“spill over” onto people who have no control
over how much of a good is produced.
– If buyers and sellers have imperfect information
on a product, they may not make the best
purchasing or selling decision.
But what if…..
• If you have high price suppliers and low
price demanders?
• You get NO TRADE and the market will
adjust resources.
ACHIEVING Economic Stability
• Misery Index (sum of inflation +
unemployment rate) is lower in the U.S. than
in other industrialized countries.
• Even so, there is a GDP gap—the difference
between actual GDP and the GDP that could
be achieved if all resources had been fully
employed.
• Economic stability frequently leads to political
instability—this explains why some developing
countries have so many problems
• Economic instability= Crime, fewer services,
less willingness to hire disadvantaged people
Aggregate Supply
• An Aggregate Supply Curve shows the
amount of real GDP that could be
produced at various price levels.
• When costs fall, the graph shifts to the
right
• When costs rise, the graph shifts to the
left
Aggregate Demand
• An Aggregate Demand Curve shows the
amount of real GDP that would be
purchased at various price levels.
• A decrease in savings, expectations of a
strong economy, an increase in transfer
payments, or a tax cut shifts the graph
to the right. Prices make it possible.
Critical Thinking Question
• Topographically, why are Bombay and
Calcutta so different from New York
City?
Section 3 Review
1. What prompts efficient resource allocation in a wellfunctioning market system?
(a) businesses working to earn a profit
(b) government regulation
(c) the need for fair allocation of resources
(d) the need to buy goods regardless of price
2. How do price changes affect equilibrium?
(a) Price changes assist the centrally planned economy.
(b) Price changes serve as a tool for distributing goods and
services.
(c) Price changes limit all markets to people who have the
most money.
(d) Price changes prevent inflation or deflation from
affecting the supply of goods.
• Which of the following situations would necessarily
lead to an increase in the price of peaches?
• (A) The wage paid to peach farm workers rises at the
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same time that medical researchers find that eating
peaches reduces the chances of a person’s
developing cancer.
(B) While the wages of peach farm workers fall
drastically, the peach industry launches a highly
successful advertising campaign for
peaches.
(C) A breakthrough in technology enables peach
farmers to use the same amount of resources as
before to produce more peaches
per acre.
(D) The prices of apples and oranges fall.
(E) Weather during the growing season is ideal for