Transcript Macro04
Supply and Demand Supply and Demand is the essential issue of economics. Economic agents: Households Economic agents: Business firms Markets for Outputs (products) Markets for Inputs (factors) Market Equilibrium P S P* D 0 Q* Q Mathematical form of The equilibrium state Equilibrium is the state where quantity demanded equals quantity supplied Qd = Qs Demand and supply can be represented by equations Example Suppose the TV market is described as follows: The Demand Function Qd = 95 - 50 P The Supply Function Qs = - 10 + 100 P Find equilibrium price and quantity Equilibrium Math Form Qd = Qs By substitution, 95 - 50 P = - 10 + 100 P 105 = 150 P P = 0.70 (Equilibrium price) Q = 95 - 50 X 0.7 = 60 (Equilibrium quantity) Comparative static analysis in the equation form “Outside force” change the equation. Example, income changes causes the shift in the demand function to Qd = 120 - 50 P Then we solve for the new equilibrium price and equilibrium quantity Draw conclusions CONTROLS ON PRICES Are usually enacted when policymakers believe the market price is unfair to buyers or sellers. Result in government-created price ceilings and floors. CONTROLS ON PRICES Price Ceiling – A legal maximum on the price at which a good can be sold. Price Floor – A legal minimum on the price at which a good can be sold. How Price Ceilings Affect Market Outcomes If the price ceiling is set set below the equilibrium price (called binding), leading to a shortage. A Market with a Price Ceiling Rent of Apartment Supply Equilibrium price $2000 800 Price ceiling Shortage Demand 0 7500 Quantity supplied 12500 Quantity demanded Apartments available For rent How Price Ceilings Affect Market Outcomes A (binding) price ceiling creates – Shortages because QD > QS. Example: Gasoline shortage of the 1970s Example: Usury law and interest rate control Shortage and repressed inflation in CPEs – Nonprice rationing Examples: sellers Long lines, discrimination by CASE STUDY: Lines at the Gas Pump In 1973, OPEC raised the price of crude oil in world markets. Crude oil is the major input in gasoline, so the higher oil prices reduced the supply of gasoline. What was responsible for the long gas lines? Economists blame government regulations that limited the price oil companies could charge for gasoline. How Price Floors Affect Market Outcomes When the government imposes a price floor floor above the equilibrium price, leading to a surplus. A Market with a Price Floor Price of Wheet Supply Surplus $4 Price floor 3 Equilibrium price Demand 0 Quantity of wheet Quantity Quantity Thousands of bushels demanded supplied 80 120 How Price Floors Affect Market Outcomes A binding price floor causes . . . – a surplus because QS > QD. – nonprice rationing is an alternative mechanism for rationing the good, using discrimination criteria. Examples: The minimum wage, agricultural price supports Examples: Agricultural products CASE STUDY: The Minimum Wage An important example of a price floor is the minimum wage. Minimum wage laws dictate the lowest price possible for labor that any employer may pay. How the Minimum Wage Affects the Labor Market Wage Labor surplus (unemployment) Labor Supply Minimum wage Equilibrium wage Labor demand 0 Quantity demanded Quantity supplied Quantity of Labor A Can of Worms Favoritism and corruption Unenforceability Limit of volume of transactions Misallocation of resources and inefficiency