Demand and Supply
Ch. 4 & 5 & 6
Option #1: explain a thorough and complete
example for the vocabulary word
Option #2: draw a graph, image, or
representation as an example for the
vocabulary word
1.) law of demand
O Def: consumers buy more of a good when its
price decreases and less when its price
increases
O A good’s price has an important effect on
the amount of that good people will buy.
O The lower the price, the more consumers will
buy
O The higher the price, the less consumers will
buy
You need to draw this:
My example:
O More people will buy a slice of pizza priced
at $1 than at $10.
O Less people will buy a slice of pizza priced
at $10 than at $1.
O Your example:
The law of demand results from 2 patterns of
human behavior. The first is known as the…
O 2.) substitution effect:
O Def: when consumers react to an increase in a good’s
price by consuming less of that good and more of
substitute goods.
O 1. increase in price of beef will decrease the quantity demanded
for beef and increase the quantity demanded for chicken
O 2. some goods/services can’t be substituted (milk, gas, salt)
My example:
O When the price of pizza becomes more expensive then
other foods, like tacos or salads, people are more likely
to buy those other foods.
O The result: demand for pizza drops
O The change in spending is known as the substitute
effect
O However, if the price of pizza drops
Consumers are more likely to substitute pizza for other
choices.
This causes the demand for pizza to rise
Your example:
The law of demand results from 2 patterns of
human behavior. The second is known as the…
O 3.) income effect:
O Def: the change in consumption resulting
from a change in real income.
O any increase or decrease in the consumer’s
purchasing power caused by a change in the price.
O Usually occurs by someone on fixed income
O Remember – economists measure
consumption in the amount of a good that is
bought, not the amount of money spend to
buy it
My example:
O Price of slice of pizza increase – a slice of
O
O
O
O
O
O
O
O
O
pizza went from $1 to $2
I feel poorer 
Can’t buy as much as I used to because of
my limited budget
I buy fewer slices of pizza without
increasing my purchases of other foods –
income effect!
I have to spend $2 for my pizza – I don’t buy
more than one piece
The quantity demanded goes down, even
though I’m spending more.
What happens if the price of pizza falls?
I feel wealthier 
If, I start to buy more pizza – that is income
effect too!
Your example:
The Demand Schedule
O A demand schedule is a table that
lists the quantity of a good a
person will buy at each different
price.
O A market demand schedule is a
table that lists the quantity of a
good all consumers in a market
will buy at each different price.
Demand Schedules
Individual Demand Schedule
Price of a slice
of pizza
Quantity demanded
per day
$.50
$1.00
$1.50
$2.00
$2.50
$3.00
5
4
3
2
1
0
Market Demand Schedule
Price of a slice
of pizza
$.50
$1.00
$1.50
$2.00
$2.50
$3.00
Quantity demanded
per day
300
250
200
150
100
50
The Demand Curve
a graphical
representation of
a demand
schedule.
O When reading a
demand curve,
assume all outside
factors, such as
income, are held
constant.
Market Demand Curve
3.00
Price per slice (in dollars)
O A demand curve is
2.50
2.00
1.50
1.00
Demand
.50
0
0
50 100 150 200 250 300 350
Slices of pizza per day
4.) Demand Curve
O Def: illustrates the quantities demanded at each
price by consumers in the market
O Vertical axis shows price, and the horizontal axis
shows the quantity demanded
O Because demand rises as prices fall, the demand
curve slopes down and to the right
The Demand Curve conti.
O Three characteristics of
Market Demand Curve
every demand curve:
1. Downward sloping
2. Must assume ceteris
O What is the one factor that
causes a shift in the
quantity demanded?
O Price
O Your example:
Price per slice (in dollars)
paribus (all other things
held constant)
3. Relationship between price
and quantity
3.00
2.50
2.00
1.50
1.00
Demand
.50
0
0
50 100 150 200 250 300 350
Slices of pizza per day
2 3
Chapter 4, Section 1
Demand Schedule & Demand Curve
5.) Normal goods
O Def: a good that consumers demand more of when
their income increases
O What I want!
O Ex.: Amber’s income increases form $50 to $75 per week.
O This increase will cause her to buy more of a normal good at ever price
level
O Plotting the new schedule on a graph would produce a curve to the right
of her original curve
O This shift to the right of the curve is called an increase in demand
Normal good conti…
O If Amber’s income falls from $50 to $25 per
week, the demand curve would shift to the
left.
O This is called a decrease in demand.
O Your example:
6.) inferior goods:
O Def: a good that consumers demand less of when their
O
O
O
O
incomes increase
What I can afford
Goods that you would buy in smaller quantities, or none
at all, if your income were to rise and you could afford
something better.
Possible examples: macaroni and cheese, generic
products, used cars
Your example:
7.) complements (complementary goods):
O Def: two goods that are commonly bought and used
together
O If I buy a pair of skies, I’m likely to buy ski boots as well.
• An increase of the
price of ski boots
will cause people to
buy fewer boots.
• Because skis are
useless without
boots, the demand
for skis will fall at
all prices
• Your example:
8.substitute goods:
O Def: goods that can be used to replace the purchase of similar
goods when prices rise
O Ex. Snowboards are a substitute for skis
O A rise in the price of snowboards will cause people to
O
O
O
O
buy fewer snowboards, and therefore people will buy
more pairs of new skis
Or, a fall in the price of snowboards will lead consumers
to buy fewer skis
ex. Butter for margarine; turkey for ham
increase in price leads to an increase in demand for
substitute goods
Your example:
elasticity of demand
O a measure of how consumers react to a change in
price
O Describes the way people respond to price changes
O Can be elastic or inelastic
9.) elastic demand:
O Def: describes demand that is very sensitive to a
change in price
O If you buy less after a small price increase your demand
is elastic
O Product has elastic demand if:
O The product is not a necessity
O Readily available substitutes
O Products cost represents a large portion of a person’s income
O Your example:
10.) inelastic demand:
O Def: describes demand that is not very sensitive to a
O
O
O
O
change in price
If you keep buying despite a price increase, your demand
is inelastic
Demand tends to be inelastic for goods that have few
substitutes, like medicines
Or, for goods that are considered essential like milk
Your example:
11.) Total Revenue
O Def: total amount of money a firm receives by
O
O
O
O
O
O
selling its goods or services
Determined by two factors:
1.) The price of the goods
2.) And the quantity sold
T.R.: = (Q) Quantity sold X (P) price charged
If Ms. Morse’s Pizzeria sells 125 slices of pizza per
day at $2.00 per slice: total revenue would be
$250.00 a day
Your example:
12.) The Law of Supply
Def: According to the law of supply,
O as price increases, supply increases. By contrast
as price decreases, supply decreases.
O Producers will offer more of a good if prices rise,
and less of a good if prices fall
You should draw this:
Price
Supply
As price
increases…
Quantity
supplied
increases
Price
Supply
As price
falls…
Quantity
supplied
falls
My example: Ms. Morse’s Pizzeria:
O If price of pizza rises, my cost of making the pizza
stays the same, then Ms. Morse’s Pizzeria will earn a
higher profit on each slice of pizza
O I will try to produce and sell more pizza to take
advantage of the higher prides.
As price of
pizza
increases…
Quantity of
pizza
supplied
will
increase
O The price of pizza starts to fall
O Ms. Morse’s Pizzeria will earn less profit per slice
or even lose money
O Ms. Morse will choose to sell less pizza and
produce something else, like calzones, flatbreads,
or sandwiches, that would yield more profit.
O Your ex.
As the
price of
pizza
falls…
The
quantity or
amount of
pizza
supplied
and
produced
falls.
Supply Schedules
A market supply schedule is a chart
that lists how much of a good all
suppliers will offer at different
prices.
Market Supply Schedule
Price per slice of pizza
Slices supplied per day
$.50
1,000
$1.00
1,500
$1.50
2,000
$2.00
2,500
$2.50
3,000
$3.00
3,500
13.) Market Supply Curve:
2. Always upward sloping
3. Must have ceteris
paribus (“all things
held constant”) to
exist
Market Supply Curve
Supply
3.00
2.50
Price (in dollars)
Characteristics of a
Supply Curve
1. Relationship between
price and quantity
supplied
2.00
1.50
1.00
.50
0
0
500
1000 1500 2000 2500 3000 3500
Output (slices per day)
Def: A market supply curve is a graph of the quantity
supplied of a good by all suppliers at different prices
• A change in price
causes a change in the
quantity supplied
• Your example:
Elasticity of Supply
Elasticity of supply is a measure of the
way quantity supplied reacts to a
change in price.
O If supply is not
very responsive to
changes in price, it
is considered
inelastic.
O If supply is very
sensitive to
changes in price it
is considered Elastic
elastic.
Why can’t I respond to a
change in price for trees,
but I can for haircuts?
14.) elastic supply
O Def: If supply is very sensitive to changes in price it is
O
O
O
O
O
O
O
O
considered elastic.
The supply is easily expanded or reduced
My example: A service industry like a barbershop has elastic
supply.
If the price of a haircut rises, barber shops and salons can
hire new workers quickly.
New barber shops will start, and existing businesses will stay
open later
A small increase in Quantity supplied will fall quickly
Haircut suppliers can quickly change their operations, the
supply of haircuts is elastic price will cause a large increase in
quantity supplied, even in the short term
If the price of haircut drops, shops will close earlier & others
will leave the market
Your example:
15.) inelastic supply:
O Def: If supply is not very responsive to changes in price, it
is considered inelastic.
Industries that cannot easily alter production
My example: Orange tree growers
They cannot respond quickly when prices rise
They cannot increase production fast
Orange trees take years to grow and mature
New suppliers/growers would be prevented from entering the
market quickly
O Price on crates of oranges fall – the grove will produce
oranges no matter what the prices are! Growers will still
pick and sell nearly as many oranges as before
O Because of the investment in land, trees, and time, most
competitors won’t drop out of the market if they can
survive.
O Your example:
O
O
O
O
O
O
16.) fixed cost
O Def: a cost that does not change, no matter how
much of a good is produced.
O Usually involves the production facility, the cost of
building and equipping a factory, office, store, or
restaurant.
O Ex. Rent, machinery repairs, and the salaries of
workers who keep the business running even when
production temporarily stops.
O Your ex.:
17.) variable cost:
O Def: a cost that rises or falls depending on how much
O
O
O
O
is produced
They include the costs of raw materials and some
labor
Ex. To produce more lemonade, the company
(lemonade stand) must purchase more lemons and
hire more workers to make the lemonade.
If the company wants to produce less or cut costs, it
can stop buying lemons or have some workers work
fewer hours.
Your ex.:
Is electricity and heating bills
fixed costs or variable costs?
O Variable – companies can cut off heat and
electricity for the factory and its machines
when they are not in use.
18.) total cost
O Def: fixed costs plus
O
O
O
O
O
variable costs (fixed and
variable added together)
Ex. Fixed costs (stand,
equipment), $6 per min.
(2nd column)
Variable costs (costs of
lemons, sugar, water, and
some labor) rise with the
number of cups of
lemonade that are being
produced.
Fixed costs and variable
costs are added together to
find total cost.
Total cost is shown in the
fourth column: TC=TFC +
TVC
Your example:
19.) marginal product of labor
O Def: the change in output from
O
O
O
O
hiring one additional unit of
labor (one more worker)
It measures the change in
output at the margin, where
the last worker has been hired
or fired
The 1st worker to be hired
produces 4 toys an hour, so
her marginal product is 4 toys.
The 2nd worker raises total
output from 4 toys an hour to
10 toys, so her marginal
product of labor is 6.
Your example:
Marginal Product of Labor
Labor
(# of
workers)
Output
(toys per
hour)
Marginal
product of
labor
0
0
----
1
4
4
2
10
6
3
17
7
4
23
6
5
28
5
6
31
3
7
32
1
8
31
-1
20.) increasing marginal returns:
O Def: a level of production in which
O
O
O
O
O
O
the marginal product of labor
increases as the number of workers
increases.
Ex. 1st worker produces 4 toys per
hour.
Adding a 2nd worker would allow
each worker to specialize in one or
two tasks.
Specialization increase output per
worker, 2nd worker adds more to
output than the 1st: : My toy shop
enjoys increasing marginal returns
In my example, there are benefits for
the first 3 workers.
My toy shop enjoys a rising marginal
product of labor for the first 3
workers.
Your example:
21.) diminishing marginal returns:
O Def: a level of production in which the
O
O
O
O
O
O
marginal product of labor decreases
as the number of workers increases
At some point, adding each worker
will result in diminishing marginal
returns
Workers may need to wait to use a
tool or machine
As workers are added, there will
eventually be negative marginal
returns.
After the 3rd worker is hired, the
benefits of specialization end.
Adding more workers increases total
output, but at a decreasing rate,
marginal product of labor shrinks as
each worker joins the company:
DIMINSHING MARGINAL RETURN
Your example:
22.) marginal cost:
O Def: the cost of producing one more unit of a good
O Even if this toy company is not producing a single toy, it must pay
$36 an hour for fixed costs.
O If the firm decides to produce just one toy an hour, its total cost
rises $8 from $36 to $44 an hour.
O The marginal cost of the first toy is $8
O Your example:
Production Costs
Toys (per
hour)
Fixed cost
Variable
cost
Total cost (fixed
cost + variable
cost)
$36
0
$36
$0
1
36
8
44
2
36
12
3
36
15
4
5
36
36
6
7
Marginal
cost
Total
revenue
—
Marginal
revenue (market
price)
$24
$0
Profit
(total revenue –
total cost)
$ –36
$8
24
24
–20
48
4
24
48
0
51
3
24
72
21
20
27
56
63
5
7
24
24
96
120
40
57
36
36
72
9
24
144
72
36
48
84
12
24
168
84
8
36
63
99
15
24
192
93
9
36
82
118
19
24
216
98
10
36
106
142
24
24
240
98
11
36
136
172
30
24
264
92
12
36
173
209
37
24
288
79
23.) marginal revenue:
O Def: the additional income from selling one more unit of a good- usually the
price of a unit.
O When a marginal cost is less than marginal revenue, a producer has an
incentive to increase output, since it will earn a profit on the next unit produced
O When marginal cost is more than marginal revenue, a producer has an
incentive to decrease output, since it will lose money on the next unit produced
O That is why profits are maximized when marginal cost equals marginal revenue
Production Costs
Toys (per
hour)
Fixed cost
Variable
cost
Total cost (fixed
cost + variable
cost)
$36
0
$36
$0
1
36
8
44
2
36
12
3
36
15
4
5
36
36
6
7
Marginal
cost
Total
revenue
—
Marginal
revenue (market
price)
$24
$0
Profit
(total revenue –
total cost)
$ –36
$8
24
24
–20
48
4
24
48
0
51
3
24
72
21
20
27
56
63
5
7
24
24
96
120
40
57
36
36
72
9
24
144
72
36
48
84
12
24
168
84
8
36
63
99
15
24
192
93
9
36
82
118
19
24
216
98
10
36
106
142
24
24
240
98
11
36
136
172
30
24
264
92
12
36
173
209
37
24
288
79
marginal revenue conti….
O If the company has no control over the market price, marginal
revenue equals market price
O Each toy sold at $24 increase the firm’s total revenue by $24, so
marginal revenue is $24.
O According to the table, price = marginal cost with 10 toys, so that’s
the quantity that maximizes profit at $98
Production Costs
Variable
cost
Total cost (fixed
cost + variable
cost)
Marginal
cost
Marginal
revenue
Toys (per
hour)
Fixed cost
0
$36
$0
$36
—
$24
$0
$ –36
1
36
8
44
$8
24
24
–20
2
36
12
48
4
24
48
0
3
36
15
51
3
24
72
21
4
5
36
36
20
27
56
63
5
7
24
24
96
120
40
57
6
36
36
72
9
24
144
72
7
36
48
84
12
24
168
84
8
36
63
99
15
24
192
93
9
36
82
118
19
24
216
98
10
36
106
142
24
24
240
98
11
36
136
172
30
24
264
92
12
36
173
209
37
24
288
79
(market price)
Total
revenue
Profit
(total revenue –
total cost)
Your If the firm made only 4 toys per hour, is it making as much money as it can?
Ex:
If the firm made 11 toys an hour, is it making as much money as it can?
The marginal cost of producing 11 toys is higher than the price. The firm actually loses $6 on the sale of the 11 toy.
The firm is better off producing less and keeping costs down
What is a subsidy? What does it mean to be subsidized?
24.) subsidy
O Def: a government payment that supports a business or
O
O
O
O
O
market
The government often pays a producer a set subsidy for
each unit of a good produced.
Since the subsidy lower producers’ cost, its effect is
usually to increase supply.
Ex. Governments in developing countries often
subsidize manufactures to protect young, growing
industries from strong foreign competition.
Indonesia and Malaysia have subsidized a national car
company as a source of pride, even though imported
cars were less expensive to build
Your example:
25.) excise tax
O Def: a tax on the production or sale of a good
O Governments reduce the supply of some goods by
O
O
O
O
placing an excise tax on them
Increases production costs by adding an extra cost for
each unit sold
Causes the supply of a good to decrease
Ex. Goods that are harmful to the public good:
cigarettes, alcohol, and high-pollutant gasoline
Your example: