Demand, Supply, and Prices
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Chapter 6: Demand, Supply, and Prices
KEY CONCEPT
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The equilibrium price is the price at which quantity demanded and
quantity supplied are the same.
WHY THE CONCEPT MATTERS
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In a market economy, the forces of demand and supply work together
to set a price that buyers and sellers find acceptable.
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Seeking Equilibrium: Demand and
Supply
The Interaction of Demand and Supply
KEY CONCEPTS
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Market equilibrium
– at a certain price, quantity demanded and quantity supplied are
equal
Equilibrium price
– price at which quantity demanded and quantity supplied are equal
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The Interaction of Demand and Supply
EXAMPLE: Market Demand and Supply Schedule
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Laws of demand and supply interact in the market
Karen sells salads at her sandwich shop
– wants to offer more salads at higher prices to earn more profit
– customers not willing to pay higher prices for salads
– Karen seeks highest price customers will pay so she can still make
profit
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The Interaction of Demand and Supply
EXAMPLE: Market Demand and Supply Curve
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Vertical axis shows various prices
Horizontal axis shows quantity of product
Combined schedule gives prices, quantities for demand, supply
curves
Two curves intersect at point of market equilibrium
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Reaching the Equilibrium Price
KEY CONCEPTS
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Trial and error may be necessary for market to arrive at equilibrium
– Market may have surplus—more quantity supplied than demanded
– Market may have shortage—more quantity demanded than
supplied
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Reaching the Equilibrium Price
EXAMPLE: Surplus, Shortage, and Equilibrium
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Surplus, shortage shown above and below point of equilibrium
Surplus, shortage measured by horizontal distance between two
curves
With surplus, prices tend to fall; producers cut back production
With shortage, prices rise; producers increase quantity supplied
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Reaching the Equilibrium Price
EXAMPLE: Holiday Toys
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Marketers sometimes overestimate popularity, others underestimate
Tickle Me Elmo doll introduced for holidays in 1996
– at first sold slowly at $30; seemed stores would have surplus
– fad caught on; shortage developed, price went up
– by spring, supply doubled; demand decreased, price dropped to
$25
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Equilibrium Price in Real Life
KEY CONCEPTS
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disequilibrium
– imbalance between quantity demanded and quantity supplied
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Equilibrium Price in Real Life
EXAMPLE: Change in Demand and Equilibrium Price
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Decrease in demand at every price shifts demand curve to left
– demand curve intersects supply curve at lower price
– equilibrium price falls, fewer units sold even though price is lower
With increase in demand, demand curve shifts to right
– equilibrium price rises, more units sold even at higher prices
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Equilibrium Price in Real Life
EXAMPLE: Change in Supply and Equilibrium Price
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If supply at every price decreases, supply curve shifts to left
– curves intersect at higher price: equilibrium price rises
If supply increases, supply curve shifts to right
– equilibrium price falls as more units available at every price
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Reviewing Key Concepts
Explain the differences between the terms in each of
these pairs:
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market equilibrium and disequilibrium
surplus and shortage
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Prices as Signals and Incentives
How the Price System Works
KEY CONCEPTS
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Competitive pricing—selling products at lower prices than others
– lures customers away from rival producers
– maintains overall profits by selling more units
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How the Price System Works
EXAMPLE: Competitive Pricing
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Elm Street Hardware prices snow shovels at $20
Uptown Automotive enters market, sells shovels at $13
– has lower profit margin, but hopes to sell more units
Elm Street must choose to lower price or risk losing customers
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How the Price System Works
EXAMPLE: Characteristics of the Price System
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Neutral: interaction of consumers, producers sets equilibrium price
Market driven: market forces, not central planners determine prices
Flexible: surpluses, shortages lead producers to change prices
Efficient: prices adjust until maximum number of products sold
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Prices Motivate Producers and Consumers
KEY CONCEPTS
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Prices motivate consumers and producers in different ways
Incentive encourages people to take a certain action
In price system, incentives move producers and consumers
– both act in ways consistent with own best interests
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Prices Motivate Producers and Consumers
EXAMPLE: Prices and Producers
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Prices signal whether it is good time to enter or leave a market
– Rising prices create expectation of profits, leading producers to
enter
– Falling prices and possibility of losses lead producers to leave
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Prices Motivate Producers and Consumers
EXAMPLE: Prices and Consumers
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Surpluses result in lower prices that motivate consumers to buy
– producers signal to consumers through advertising, store displays
High prices usually encourage consumers to buy substitutes
– may signal shortage of a product
– may signal product has a higher status than others
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Michael Dell: Using Price to Beat the
Competition
Lowering Costs to Reduce Prices
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Dell bypassed retailers, sold directly over telephone
Each computer built to customer requirements after ordered
– this lowered costs, Dell became low-price leader in market
Internet sales pioneer—close customer contact, easy to adjust prices
Dell now entering consumer electronics market
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Reviewing Key Concepts
Use each of the terms below in a sentence that illustrates
the meaning of the term:
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competitive pricing
incentive
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Intervention in the Price System
Imposing Price Ceilings
KEY CONCEPTS
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Government interferes to keep some prices from going too high
Price ceiling—legal maximum price a seller may charge for a product
– set below the equilibrium price, so shortage results
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Imposing Price Ceilings
EXAMPLE: Football Tickets and Price Ceilings
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College sells 30,000 football tickets at $15
– 60,000 fans want tickets
College could resolve shortage by raising price to reach equilibrium
College wants to keep price affordable for students
On game day, some people sell tickets for $50 or more
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Imposing Price Ceilings
EXAMPLE: Rent Control as a Price Ceiling
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Rent-control laws kept housing affordable for low-income families
Rents did not match market, so shortage of rental housing developed
Landlords unwilling to increase own costs by maintaining properties
City of Santa Monica solution: let market set initial rent
– rent control board regulates yearly increases
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Setting Price Floors
KEY CONCEPTS
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Government intervenes to increase income to certain producers
Price floor—legal minimum price buyers may pay for product
Various programs protect agricultural products
– encourage farmers to produce abundant supply of food
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Setting Price Floors
EXAMPLE: Minimum Wage as a Price Floor
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Minimum wage—least amount employer may pay for one hour of
work
– set by government
If set above equilibrium price for job, employers may employ fewer
workers
– unemployment increases
If set below equilibrium price, minimum wage has no effect
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Rationing Resources and Products
KEY CONCEPTS
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In national emergency, government may distribute products,
resources
Rationing—way of allocating products using factors other than price
Black market—illegal buying and selling of products
– violates price controls, rationing
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Rationing Resources and Products
EXAMPLE: Rationing Resources
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During WWII, U.S. rationed consumer goods so all could afford them
– allocated resources toward war effort, not consumers
From 1946–2002, North Korea strict rationing; system inefficient,
corrupt
– In 1996–2000, widespread famine; people set up unofficial
markets
– In 2002, markets legalized; prices, wages rose; government may
turn back
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Rationing Resources and Products
EXAMPLE: Black Markets—An Unplanned Result of
Rationing
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Black markets common result of rationing;
– in U.S. during WWII, black market for scarce goods developed
Pre-2002 North Korea, trade of most products forbidden or restricted
– on the whole, black market prices very high
– post-2002 black market continues since many products still illegal
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Reviewing Key Concepts
Explain the relationship between the terms in each of
these pairs:
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price floor and minimum wage
rationing and black market
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Case Study: Prices for Concert Tickets
Background
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Less affluent fans cannot afford concerts, yet ticket prices rising
Ticket prices cover costs profit for performers, venues, distributors
What’s the Issue?
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How do demand, supply, and pricing affect the concert ticket market?
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Case Study: Prices for Concert Tickets
{continued}
Thinking Economically
1. Do you think TicketMaster’s plan in document C would help or harm
Pearl Jam’s wish “that no one will pay more than $20” to see them
(document A)? Explain.
2. What do you think happened to quantity supplied of tickets over the
span of the graph in document B? Why?
3. In what year in Figure 6.15 did the high price for concert tickets hit
$50—the high price that Pearl Jam speaks of in document A? What
year was it $20—the desired price they mention?
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