Transcript Percentage Change in Quantity Demanded

Unit 2
Supply and Demand
Demand
The interaction of supply and
demand creates the market price
Section 1: Understanding
Demand

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Demand is the desire, ability and
willingness to pay for something.
Demand represents the buyers in a
market
The Law of Demand
1.
2.

When a good’s price is low,
consumers will buy more
When a good’s price is high,
consumers will buy less
The law of demand is the
result of two interacting
behaviors:
The Substitution Effect
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When people react to a price change by
buying less of that good and more of
other goods
Example -
The Income Effect
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The change in consumption from a
change in real income.
At $3.80/gallon you cannot afford to
buy as much gas as you would at
$3.00/gallon
The Income Effect (cont)
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Normal Good – people buy more if their income
increases
example Inferior Good – people buy more if their income
decreases
example Giffen Good – an inferior good with no close
substitutes; as its price increases, so does quantity
demanded
Veblen Good – a luxury good whose quantity demand
increases as price increases, conspicuous consumption
Demand Schedule
1.
2.
A table that lists
the quantities that
will be purchased
at various prices
Schedules can be
for an individual or
a given population
Demand for
Price
Qty
Demand Curve
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A graph representation of a demand
schedule
Used to predict how people will change
their buying habits when price rises or
falls
Can change easily depending on related
variables
Shifts in the Demand Curve

Remember, a change in price only
causes a change in quantity demand,
not a change in demand
Changes in Demand

A change (shift) in demand is when at
the same price, quantity demanded
rises or falls.
What causes a change in
demand?
There are at least six reasons why
demand can change
1. Income – when income changes,
people demand more or different
types of goods
2. Consumer Expectations
If people expect the
price of something to
increase in the future,
demand will increase
now
Opposite is also true
4. Changes in Taste, Preferences
 Fads can increase demand temporarily

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Bandwagon effect – “everybody else…”
Preferences can also show long term
changes

Ex: More low fat food
3. Change in Population
 More people want more stuff!
 Opposite is also true
5. Change in price of
complement
- If the price of a
good increases,
demand for its
complement
decreases
- opposite is also
true
(what causes…cont)
6. Change in price of a
substitute
 If the price of a good
increases, demand
for its substitute
increases
 Opposite is also true
The Supply Curve


Supply is the amount of goods and
services that producers are willing to
produce at given prices
The Law of Supply – as prices increase,
producers are willing to supply a
greater quantity of a good or service

Supply and price are positively related
Explanation for the Law of
supply:
1. Higher Production
The expectations of higher
prices is an incentive for more
companies to produce more
2. Market Entry
When prices and profits are
high in a market, that is an
incentive for other businesses
to enter the market
The Supply Schedule


A supply schedule is a
chart showing the
quantities that will be
supplied at various prices
A change in quantity
supplied occurs when
the price changes and
producers change the
amount they will produce
Wage
$0
$7
$10
Hours
Supplied
Changes in Supply

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Just as there are factors that cause the
demand curve to change…
There are also several factors that
cause the supply curve to change
As with demand, right is an increase,
left is a decrease
Input Costs
1.
2.
Change in the cost of factors of
production – higher costs decrease
supply
Technology – new technology
increases supply
Government
3. Subsidies – a government payment
that supports a business or market
Subsidies increase the supply curve
4. Taxes & Regulations –Taxes & Regs.
decrease the supply curve
Other Factors
5. Future Expectations of prices – if
producers expect prices to increase,
they will decrease supply now
6. Number of suppliers – more producers
increases supply
Review


We have the supply curve, the demand
curve and factors that shift the curves
These can be used to predict the price
and quantity at which a good is bought
or sold
Equlibrium

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The intersection of S
and D is the
equilibrium.
The price at this
point is the
equilibrium price
and the quantity is
the equilibrium
quantity
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If supply or demand shifts, the market is in
disequilbrium
If qty demand is greater than qty supplied, a
shortage results
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Prices will rise and qty supplied will increases until the
market is in equilibrium
If qty supplied is greater than qty demanded, a
surplus results

Prices will decrease and qty supplied will decrease until
the market is in equilibrium
Price Controls

In a few cases, market
forces do not determine
prices

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Governments have some
power to set prices
There are two types of
price controls
1. Price Ceiling
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Government imposed price below
the equilibrium point, therefore
creating a shortage
The maximum legal price that can
be charged – “price caps”
Ex: rent controls in large cities,
Medicare or Medicaid payments by
the government
Rent Control
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P* - equilibrium
price
P – Price Ceiling
Pf –
Q* - Equilibrium
quantity
Qd – Quantity
demanded
Qs – Quantity
Supplied
Qd – Qs = amount
of shortage
Problems with Price Ceilings

Inefficient Allocation to consumers

Wasted Resources
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Lower Quality
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Search costs increase (Price Pf), high
“security deposits”
Landlords cut maintenance or abandon
buildings
Black Markets
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Bribes,
2. Price Floor
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The minimum legal price that can be
charged – “price supports”
This price is above the equilibrium
point, therefore creating a surplus
Ex: agricultural price supports,
minimum wage
Minimum Wage
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W* - Equilibrium wage
Wmin – minimum wage
L* - equilibrium qty of
workers
Ls – number of people
willing to work
LD – number of people
hired
Ls-Ld=# people
unemployed
Quantity Controls
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The government seeks to limit not the
price, but the quantity of an item
Effects of Price Ceiling
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Overproduction
Inflationary effects in related markets
Elasticity of Demand
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Elasticity is how much a price change
affects the quantity demanded
Elastic: a small change in price will
cause a large change in quantity
demanded
Inelastic: a change in price will cause
little change in quantity demanded
Factors Affecting Elasticity


1. Availability of Substitutes – the fewer
substitutes an item has, the greater its
inelasticity
2. Necessity v. Luxury – if its considered
a necessity, then the greater its
inelasticity
3. Percentage of income- if an item uses a large
portion of your income, it is more likely to be
elastic.

If Coke is priced at $1.00 & $1.09 at two
stores, you probably won’t care. But, if a car
you’re interested in varies from $18,000 to
$19,800 (10%) you might care.
4. Change over Time - a good is more elastic if
the purchase can be delayed. In
emergencies, people are more likely to pay
higher prices
Elasticity on the Demand
Curve
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Steep line = inelastic
Shallow line = elastic
Vertical line = perfectly inelastic
Calculating Elasticity
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Demand Elasticity is the slope of the demand curve
If the % change in quantity > % change in price, demand is elastic
If the % change in quantity< % change in price, demand is inelastic
If the % change in quantity = % change in price, demand is unit elastic
Demand Elasticity = Percentage Change in Quantity Demanded
Percentage Change in Price
Price Effect v. Quantity Effect
Total Revenue and Elasticity
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Total Revenue = Price x Qty
A rise in price means less qty demand
If an item is elastic, and prices rise,
total revenue will decrease
If an item is inelastic, and prices rise,
total revenue increase
Why?
Change in
Price
Up
Total
Revenue
Up
Inelastic
Down
Down
Inelastic
Up
Down
Elastic
Down
Up
Elastic
Up/Down
=
Unit Elastic
Elasticity of Supply
• The quantity reaction of the producers to a price change
• An inelastic supply means that producers cannot quickly
increase or decrease production if price increases
• An elastic supply means that producers can quickly
increase or decrease production if the price increases
• Real world examples of perfectly elastic and inelastic
supply are easier to find than for demand
• Examples?
Factors that determine supply
elasticity

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Availability of inputs
Time required for production