Supply, Demand and
Market Equilibrium
By:
Thomas Gruca - University of Iowa
Mark Pelzer - Kirkwood Community College
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Demand: Raw data
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1
Name
Quantity
Maximum price
willing to pay
Mary
1
4
Bob
1
1
Jane
1
5
Ed
1
3
Alice
1
2
Demand Schedule
1
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Price
Quantity
5
1
Total Quantity
Demanded
1
4
1
2
3
1
3
2
1
4
1
1
5
Demand Curve
6
5
Price
4
3
2
1
D
0
1
2
3
Quantity demanded
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4
5
Demand: Definition
• Relationship between price and quantity
demanded at a given price
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Demand Curve
6
5
Price
4
3
2
1
D
0
1
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2
3
Quantity demanded
4
5
Demand Curve
6
5
I
Price
4
3
2
1
D
0
1
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2
3
Quantity demanded
4
5
Change in quantity demanded
due to change in price
6
5
I
Price
4
3
II
2
D
1
0
1
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2
3
Quantity demanded
4
5
Shifts in the Demand Curve
•
•
•
•
•
income
related goods
tastes
number of consumers
expectations of future prices
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Demand curve shifts to the right
6
5
Price
4
3
2
1
D
0
1
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2
3
Quantity demanded
4
5
Demand curve shifts to the left
6
5
Price
4
3
2
D
1
0
1
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2
3
Quantity demanded
4
5
Demand for an intangible good
• For example, a promise exchanged for
money
• Value of the promise depends on future
events
• Examples
– loans
– insurance
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Demand for an intangible good
• Application: a futures contract
– value based on a future event
– possible events
•
•
•
•
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price of a bushel of wheat in October
Microsoft stock price on 3rd Friday of June
value of the Euro in $ on February 1st
price of oil on April 21st
Assignment
• Political futures contract
– pays $1 if Bradley is the Democratic nominee
for 2000
– pays $0 otherwise
• Price that someone is willing to pay is based
on their own prediction of a particular
outcome
• Assignment: graphing a real demand curve
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Graph of Bradley demand data
0.4
0.35
0.3
Price
0.25
0.2
0.15
0.1
0.05
0
0
5
10
15
20
25
Quantity Demanded
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30
35
40
Price
The effect of NBA party
on demand for Bradley contracts
0.4
0.35
0.3
0.25
0.2
0.15
0.1
0.05
0
0
5
10
15
20
25
Quantity Demanded
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30
35
40
Supply: Raw data
Company Name
Quantity
Minimum price
willing to accept
ADC
1
3
SSW
1
2
QWE
1
5
YYJ
1
1
AQD
1
4
1
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Supply Schedule
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1
Price
Quantity
1
1
Total Quantity
Supplied
1
2
1
2
3
1
3
4
1
4
5
1
5
Supply Curve
6
S
5
Price
4
3
2
1
0
1
2
3
Quantity supplied
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4
5
Supply: Definition
• Relationship between price and quantity
supplied at a given price
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Supply Curve
6
S
5
Price
4
3
I
2
1
0
1
2
3
Quantity supplied
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4
5
Change in quantity supplied due
to
a
change
in
price
6
S
5
II
Price
4
3
I
2
1
0
1
2
3
Quantity supplied
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4
5
Shifts in the Supply Curve
•
•
•
•
•
prices of relevant resources
technology
taxes
number of sellers
expectations of future prices
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Supply curve shifts to the right
6
S
5
Price
4
3
2
1
0
1
2
3
Quantity supplied
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4
5
Supply curve shifts to the left
6
S
5
Price
4
3
2
1
0
1
2
3
Quantity supplied
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4
5
Supply for an intangible good
• Simplified insurance example
• Why would anyone supply car insurance?
• Seller expects that you will not have an
accident during the next year
• If you do, they pay the bills. If not, they still
keep the premium (price of policy)
• Prices depend on how likely there will be a
claim
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Political Futures Contract
• Recall our example political futures contract
• People holding this contract get $1 if
Bradley is the Democratic nominee for
2000 and $0 otherwise
• They may be willing to sell if they are not
100% sure that Bradley will be the nominee
• Assignment 4: graphing a real supply curve
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Graph of Bradley supply data
0.6
0.5
Price
0.4
0.3
0.2
0.1
0
0
5
10
15
20
Quantity supplied
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25
30
35
Effect of internet taxes on supply
of Bradley contracts
0.6
0.5
Price
0.4
0.3
0.2
0.1
0
0
5
10
15
20
Quantity supplied
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25
30
35
A Market
6
S
5
Price
4
3
2
D
1
0
1
2
3
4
Quantity
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5
Surplus
6
S
Surplus
5
Price
4
3
2
D
1
0
1
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2
Qd
3
Quantity
4
Qs
5
Market adjustment to surplus
6
S
Surplus
5
Price
4
3
2
D
1
0
1
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2
Qd
3
Quantity
4
Qs
5
Shortage
6
S
5
Price
4
3
2
Shortage
1
D
0
1
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2
Qs
3
Quantity
4
Qd
5
Market adjustment to shortage
6
S
5
Price
4
3
2
D
1
Shortage
0
1
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2
Qd
3
Quantity
4
Qs
5
Equilibrium
Price
6
S
5
4
Eq.P
3
2
D
1
0
1
2
3
Eq.Q
4
5
Quantity
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Government interventions:
Price controls
• The government sets a maximum price
– Example: the price of basic commodities in
many countries (milk, flour, bread, rice)
– what happens to the availability of this good?
• The government sets a minimum price for
wages
– Example: minimum wage
– what happens to the supply of labor?
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Equilibrium in the
Bradley market
Bradley Nomination Market (6/99-9/99)
0.6
S
0.5
Price
0.4
0.3
0.2
0.1
D
0
0
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10
20
Quantity
30
40
Supply and demand information
available in a real market
Exchanges
that already
have occurred
Price
S
Offers to sell
(ask price)
Market price
(observed)
Offers to buy
(bid price)
D
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Quantity
Supply and demand information
available in a real market
Price
S
Best Ask
Last Trade
Note: Eq.Q. is equilibrium
quantity
Best Bid
D
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Eq.Q
Eq.Q +1
Quantity
Iowa Electronic Market
• The market for Bradley contracts is run by
the Iowa Electronic Market
– real $, real time futures market run by the
Tippie Business School at the University of
Iowa
– web site: www.biz.uiowa.edu/iem
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IEM Prices: 12/10/99
Market Quotes: DCONV00
(2000 Democratic National Convention Market)
Quotes current as of 15:45:05 CST, Friday, December 10, 1999.
Symbol
Bid
Ask
Last
Low
High Average
BRADLEY 0.310 0.324 0.311 0.311 0.323 0.314
GORE
0.682 0.694 0.682 0.681 0.698 0.682
DCROF
0.002 0.003 0.002 0.002 0.002 0.002
• DCROF is a contract for candidates other than Gore and
Bradley
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Assignment 7
• Choose one of the current markets running
at the IEM
• Read the prospectus to make sure you understand
how the contracts work
• Using various news sources, try to determine what
events will affect prices in the IEM for two-weeks
• Using your understanding of supply and demand,
predict how prices should change
• Determine if your predictions were correct and
reconcile any discrepancies
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How do bid,ask prices happen?
• The bid and ask prices you see on the IEM
trading screen are offers to buy and sell
posted by traders in the market.
• Other information available includes:
– last traded price
– volume of trades
– historical prices
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How do you get contracts to sell?
• There are two ways to buy contracts
– Buy a bundle of contracts from the market
• each market has a set of contracts
• only one will pay $1, all others pay 0$
• keep the contracts that you think will pay off and
sell the others
– Buy from another trader
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How do you make $ in the IEM
markets?
• Buy and hold those contracts which
eventually pay $1
• Buy contracts at a low price and sell them
when the prices rise
• Sell one of each contract when sum of all
bid prices is greater than $1 (Why?)
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