Chapter 3
DEMAND AND SUPPLY
© 2013 Cengage Learning
Gottheil — Principles of Economics, 7e
1
Economic Principles
Individual and market demand
Market-day, short-run and long-run supply
Determination of equilibrium price and
quantity
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Price Formation
Market price is a reflection of people’s
willingness to buy and sell.
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Measuring Market Demand
A change in quantity demanded
shows:
• People’s willingness to buy specific
quantities of a good or service at
specific prices.
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Measuring Market Demand
Law of demand
• The inverse relationship between price and
quantity demanded.
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Measuring Market Demand
Demand schedule
• A schedule which shows the specific quantity
of a good or service that people are willing
and able to buy at different prices.
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Measuring Market Demand
Aggregate the demand of many
individuals into market demand by:
• Adding up the quantities purchased by all
consumers at given market prices.
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Measuring Market Demand
If each of the seven dwarfs buys three
cups of coffee per week at Snow
White’s Café at a price of $1/cup, what
is market quantity demanded at a
price of $1?
• 3 + 3 + 3 + 3 + 3 + 3 + 3 = 21.
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Measuring Supply
Supply schedule
• It is a schedule showing the specific quantity
of a good or service that suppliers are willing
and able to provide at different prices.
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Measuring Supply
Market-day supply
• A market situation in which the quantity of a
good supplied is fixed, regardless of price.
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Measuring Supply
A supply curve graphs the
relationship between price and
quantity supplied.
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Measuring Supply
The supply curve is upwardsloping.
• Higher prices provide sellers with an
incentive to increase quantity supplied.
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Measuring Supply
If there are three builders in a small
town, and if each supplies 4 houses
per year at a price of $150,000, what
is market quantity supplied at this
price?
• 4 + 4 + 4 = 12.
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EXHIBIT 1A INDIVIDUAL DEMAND CURVES FOR FISH
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EXHIBIT 1B INDIVIDUAL DEMAND CURVES FOR FISH
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EXHIBIT 2
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THE MARKET DEMAND CURVE
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Exhibit 2: The Market Demand
Curve
The curve in Exhibit 2 represents:
• The market demand for fish.
• It is the sum of all individual demands for fish.
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EXHIBIT 3
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MARKET-DAY SUPPLY CURVE
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Exhibit 3: Market-Day Supply
Curve
The market-day supply curve for fish
is a vertical line because:
• Fishermen cannot change the quantity they
supply once the day’s catch comes in.
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EXHIBIT 4
EXCESS DEMAND
AND EXCESS
SUPPLY
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Exhibit 4: Excess Demand and
Excess Supply
The quantity of fish purchased, when
price rises from $5 to $8:
• Remains at 6,000.
• The market-day supply curve is a vertical line.
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Exhibit 4: Excess Demand and
Excess Supply
The relationship between quantity
demanded and quantity supplied at a
price of $8 is:
• Quantity demanded is 4,500.
• Quantity supplied is 6,000.
• Excess supply of 1,500.
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Exhibit 4: Excess Demand and
Excess Supply
The relationship between quantity
demanded and quantity supplied at a
price of $4 is:
• Quantity demanded is 6,500.
• Quantity supplied is 6,000.
• Excess demand of 500.
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Exhibit 4: Excess Demand and
Excess Supply
The relationship between quantity
demanded and quantity supplied at a
price of $5 is:
• They are equal.
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Determining Equilibrium Price
What is unique about the Equilibrium
Price?
• Quantity demanded is equal to quantity supplied.
• There is neither an excess supply nor an excess
demand.
• Price gravitates toward the equilibrium
price, in well-functioning competitive
markets.
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EXHIBIT 5
MARKET-DAY,
SHORT-RUN,
AND LONG-RUN
SUPPLY
26
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Exhibit 5: Market-Day,
Short-Run, and Long-Run Supply
The short-run supply curve slopes
upward, while the market-day supply
curve is a vertical line because:
• If price rises, then in the short-run suppliers
are able to increase the use of some but not all
of the resources they use to produce goods
and services.
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Exhibit 5: Market-Day,
Short-Run, and Long-Run Supply
The short-run supply curve slopes
upward, while the market-day supply
curve is a vertical line because:
• The short-run suppliers are able to:
• Make modest increases in quantity supplied if
price rises.
• Make modest decreases in quantity supplied
if price falls.
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Exhibit 5: Market-Day,
Short-Run, and Long-Run Supply
The short-run supply curve slopes
upward, while the market-day supply
curve is a vertical line because:
• This results in a short-run supply curve
which is steeply upward-sloping.
• The quantity supplied is fixed on
the market-day supply curve.
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Exhibit 5: Market-Day,
Short-Run, and Long-Run Supply
The long-run supply curve is less
steep than the short-run supply curve
because:
• Suppliers are able to change the quantity of all
resources they use to produce goods and services
during this time interval.
• A given increase in price will result in a
larger increase in quantity supplied in the
long run than in the short run.
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Change in Demand
A change in price will not result in
a change in demand.
• A change in price results in a change in
quantity demanded.
• A change in demand is caused by factors
other than a change in the price of that
good.
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Change in Demand
A change in a consumer’s income
will result in a change in demand.
• A change in a consumer’s income will cause
the demand curve to shift.
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EXHIBIT 6
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CHANGE IN DEMAND
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Exhibit 6: Change in Demand
In Exhibit 6, when the demand curve
shifts from D to D′, the equilibrium price
and quantity demanded:
• The equilibrium price rises from $5 to $6.
• The quantity demanded rises from
6,000 to 6,500.
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Exhibit 6: Change in Demand
If fish are a normal good and consumer
incomes have increased, the demand
will shift from D to D′.
• If a good is normal, then an increase
in consumer income will increase
demand.
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Exhibit 6: Change in Demand
In Exhibit 6, when the demand curve
shifts from D to D″, the equilibrium
price and quantity demanded:
• The equilibrium price falls from $5 to $4.
• The quantity demanded falls from
6,000 to 5,500.
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Exhibit 6: Change in Demand
If fish and beef are substitutes, then a
decrease in the price of beef will cause
demand to shift from D to D″.
If the price of beef declines:
• The quantity of beef demanded will increase.
• The demand curve for fish will shift left.
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Changes in Demand
What happens to the demand for
software when computer hardware and
software are complements, and the
price of hardware declines:
• A decline in hardware prices will increase the
quantity of hardware demanded.
• If more hardware is purchased, the result
will be more software purchased, since
they are complements.
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Changes in Demand
What happens to the demand for
software when computer hardware and
software are complements, and the
price of hardware declines:
• The increase in the quantity of software
demanded was caused by a factor other than
the price of software.
• The demand for software will increase.
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Changes in Demand
If consumers anticipate that computer
hardware will become considerably
cheaper in the coming months, today’s
demand for hardware:
• Today’s demand will decrease (shift to the
left).
• Some consumers will delay their purchase in
anticipation of lower future prices.
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Changes in Demand
The demand for day-old bakery
goods if consumer incomes rise,
and day-old bakery goods are
inferior goods will:
• The demand for day-old bakery goods will
fall as consumer incomes rise.
• Inferior goods are goods that people
consume less of as their incomes rise.
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Changes in Demand
When students are gone during the
summer, the demand for pizza
slices on campus:
• The demand will fall because there will be fewer
consumers.
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Changes in Demand
If the Surgeon General announces that
cheeseburgers reduce heart attack risk
and prevent premature baldness, this
will affect market demand for
cheeseburgers:
• The demand will rise.
• The news will increase consumer tastes and
preferences for cheeseburgers.
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Changes in Demand
Which of the following are most likely to
be consumer substitutes:
i. Peanut butter and jelly
ii. Coke and Pepsi
iii. Cars and gasoline
iv. Telephones and telephone books
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Changes in Demand
Which of the following are most likely to
be consumer substitutes:
i. Peanut butter and jelly
ii. Coke and Pepsi
iii. Cars and gasoline
iv. Telephones and telephone books
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EXHIBIT 7
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DISTINGUISHING CHANGES IN DEMAND
FROM CHANGES IN QUANTITY DEMANDED
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Exhibit 7: Distinguishing Changes in
Demand from Changes in Quantity
Demanded
Movement along the demand curve
D from a price of $10 to a price of $7
illustrates a change in
• Quantity demanded.
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Exhibit 7: Distinguishing Changes in
Demand from Changes in Quantity
Demanded
In which of the following do we know for
certain that a change in demand
occurred:
i. Price declined and quantity demanded
increased.
ii. Price remained the same and quantity
demanded increased.
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Exhibit 7: Distinguishing Changes in
Demand from Changes in Quantity
Demanded
In which of the following do we know for
certain that a change in demand
occurred:
i. Price declined and quantity demanded
increased.
ii. Price remained the same and quantity
demanded increased.
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EXHIBIT 8
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CHANGE IN SUPPLY
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Exhibit 8: Change in Supply
When the supply changes from
curve S to curve S′, this is an
increase in supply.
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Exhibit 8: Change in Supply
What would cause the equilibrium to
shift from point a. to point b. in
Exhibit 8?
• A decrease in supply from S′ to S″.
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Changes in Supply
A change in supply:
• A change in quantity supplied of a good or
service that is caused by factors other than a
change in the price of that good.
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Changes in Supply
If a labor union successfully negotiates
a large pay increase, this will affect the
supply curve for the product they make
by:
• Higher wages, like any other increase in
resource prices, will cause the supply curve
to shift inwards to the left (a decrease in
supply).
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Changes in Supply
If more sellers enter the market, this
will affect the market supply curve:
• An increase in the number of sellers will
cause the supply curve to shift outwards to
the right (an increase in supply).
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Changes in Supply
Suppose that farmers who grow soybeans
can also grow corn. If the price of soybeans
triples, how this will affect the market
supply of corn by:
• This will reduce the market supply of corn,
because many corn farmers will switch
to growing soybeans.
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EXHIBIT 9A INCREASES IN DEMAND AND SUPPLY
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EXHIBIT 9B INCREASES IN DEMAND AND SUPPLY
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Exhibit 9: Increases in Demand
and Supply (panel a)
When both demand and supply
increase:
• Equilibrium quantity increases.
• The effect of an increase in both supply an
demand on price depends on the relative size
of the increases. If the increase in demand is
larger than the increase in supply, then
price rises.
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EXHIBIT 10A INCREASES IN DEMAND, DECREASES
IN SUPPLY
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EXHIBIT 10B INCREASES IN DEMAND, DECREASES
IN SUPPLY
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Exhibit 10: Increases in
Demand, Decreases in Supply
When demand increases a little and
supply decreases a lot:
• The equilibrium price increases, but
equilibrium quantity decreases. This effect
is illustrated in Exhibit 10, panel a.
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Exhibit 10: Increases in
Demand, Decreases in Supply
When demand increases a lot and
supply decreases a little:
• The equilibrium price and quantity both
increase. This effect is illustrated in Exhibit
10, panel b.
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Demand and Supply
The equilibrium price of oranges will be
affected if the demand for oranges
decreases, while at the same time the
supply of oranges increases:
• The equilibrium price of oranges will fall.
• The relative magnitude of the changes in supply
and demand is needed before we
can determine how the equilibrium
quantity of oranges will change.
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Katrina and Gasoline Prices
The real problem with Hurricane Katrina
and the price of gasoline was due to:
i. The refugees use of gasoline as they escaped.
ii. The destruction of the Gulf Coast oil rigs.
iii. The cutback in oil refining capacity.
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Katrina and Gasoline Prices
The real problem with Hurricane Katrina
and the price of gasoline was due to:
i. The refugees use of gasoline as they escaped.
ii. The destruction of the Gulf Coast oil rigs.
iii. The cutback in oil refining capacity.
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EXHIBIT 11
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The Market for Gasoline
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Exhibit 11: The Market for
Gasoline
The cutback in refinery capacity shifts the
supply curve way to the left, from S to S0.
What happens?
• Quantity decreases from 400 million gals.
to 360 million per day.
• The average market price for gasoline
increases from a pre-Katrina $2 per gal.
to a post-Katrina $3.
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Price as a Rationing
Mechanism
Price rations scarce goods and
services in a market:
• It rations out goods in a market in such a way
that only those who have a high willingnessto-pay get them as shown in Exhibit 12, which
depicts 250 people and those willing to pay
the market price for fish.
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EXHIBIT 12A RATIONING FUNCTION OF PRICE
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Exhibit 12: Rationing Function
of Price
Panel a shows what 250 people will pay for
fish at various prices. Only those willing to
pay the market price get the fish. All others
don’t.
So who gets them? Look at panel b.
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EXHIBIT 12B RATIONING FUNCTION OF PRICE
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Exhibit 12: Rationing Function
of Price
Panel b shows market for fish and its
equilibrium price. So who gets them?
• Only those willing to pay the market price
get the fish.
• The demand curve D and supply curve S
generate a market price of $6 and a
quantity demanded and supplied of 100.
It means 100 of the 250 end up with fish.
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