Supply and Demand
Overview
In a Market Economy, all consumers have a great
influence on the price of goods and services.
 Prices are determined by two things

– Demand - The amount of a good or service that
consumers are able and willing to buy at various possible
prices.
– Supply – The amount of a good or service that producers
are able and willing to sell at various prices.
Law of Demand

Economic rule stating that the quantity demanded
and price move in the opposite.
– As price goes up, quantity demanded goes down
– As price goes down, quantity demanded goes up

Several factors help explain this relation
– Real income, substitution, diminishing marginal utility
Law of Demand Factors

Real Income
– Economic rule stating that individuals cannot keep buying
the same quantity of a product if its price rises while their
income stays the same
– Ex. – You fill your car up twice a month; $15 each time;
$30 total
– If gas prices rise, and your income does not, then you will
not be able to fill your car up twice.
– Your Real Income; or purchasing power, has been reduced.
– In order to keep filling your car up twice, you need to cut
back spending elsewhere.
– Basically, as prices increase, while your pay doesn’t, your
money is “worth” less.
– Real income effect forces you to make a trade-off.
Law of Demand Factors

Substitution Effect
– Economic rule stating that if two items satisfy the
same need and the price of one rises, people will buy
the other.
Law of Demand Factors

Diminishing Marginal Utility
– Everything people like, desire, want or use gives a
measurable level of satisfaction.
– This satisfaction is called Utility
 Power a good or service has to satisfy a want.
 Determines what people will buy and for how much
– Marginal Utility is the satisfaction you get from each
additional good or service
– Diminishing Marginal Utility rule states that the
additional satisfaction a consumer gets from purchasing
one more unit of a product will lessen with each
additional unit purchased.
 Ex. – Buying a coke on a hot day at a ball park
– First one great; satisfies you… Each additional one is at some
point, not as satisfying as the price you pay for it.
Demand Curve
• Quantity demanded is based on price.
• When demand is low, usually prices are lower.
• Then as more people want a particular product
or service (increased demand) prices generally
rise.
• This section explains or describes graphing the
demand curve, what factors determine demand,
and elastic and inelastic demand.
Graphing the Demand Curve
A demand schedule is a table of prices and the
quantity demanded at each price
 List quantity demanded at different prices
 A demand curve graphs the quantity demanded of
a good or service at each possible price.

Demand Curve
Figure 7.4 Part A
Demand Schedule
The numbers in the
demand schedule to the
right show that as the
price per CD decreases,
the quantity demanded
increases. Note that at
$16 each, a quantity of
500 million CDs will be
demanded.
Figure 7.4 Part B
Plotting the Price–
Quantity Pairs
Note how the price and
quantity demanded
numbers in the demand
schedule have been
transferred to the graph on
the right. Find letter E.
Note that it represents a
number of CDs demanded
(500 million) at a specific
price ($16).
Figure 7.4 Part C
Demand Curve
for CDs
The points in the
previous graph have
been connected with a
line in the chart to the
right. This line is the
demand curve, which
always falls from left to
right. How many CDs
will be demanded at a
price of $12 each?
Determinants of Demand

Changes in Population
– When pop increases, opportunities to buy and sell
increase
– Demand increases for most products
– Meaning more CD’s will be in demand.

Changes in income
– Demand for most goods and services depend on income.
– Biggest influence on demand curve.

Changes in Tastes and Preferences
– 2nd biggest influence on demand
– Refers to peoples likes and dislikes
– Up to the producer to recognize and respond to
Determinants of Demand

Substitutes
– The arrival of a better/similar product/cheaper product

Complimentary Goods
– Product often used with another product.
 Ex.. Camera’s and film
– When the price of one will affect the demand of the
other.
Law of Supply
Economic rule stating that price and quantity
supplied move in the same direction.
 The willingness and ability of producers to
provide goods and services at different prices

– As price rises for good, the quantity supplied
generally rises
– As price falls, quantity demanded also falls.

Quantity supplied is the amount of a good or
service that a producer is willing and able to
supply at a specific price.
Supply Curve
• The relationship
between quantity
and price is direct
and always moving
in the same
direction.

Putting Supply and Demand
Together
Equilibrium Price
– Price at which the amount producers are will to
supply is equal to the amount consumers are willing
to buy.
Determinants of Supply

Four factors determine how much a producer is
willing to supply at given prices
– Price of Inputs
 When raw materials, wages, etc, drop so will price.
– Number of firms in the Industry
 As more firm enter an industry, greater quantity supplied are
offered at each price.
– Taxes
 The more taxes gov’t imposes, the less producers will supply
– Technology
 As technology develops, usually producing becomes cheaper,
producers supply more
Prices serve as Signals

Market is designed to stay at or around
equilibrium price.
– From time to time situations can naturally occur to
temporarily change that
– Usually takes care of itself without the need for
intervention

Shortages
– Occurs when quantity demanded is greater that
quantity supplied at the current price
– If left alone, and with no gov’t interference, prices will
rise till eventually consumer purchasing dies down
– Happens when prices are set below equilibrium price
Shortage
Prices serve as Signals

Surpluses
– Situation in which quantity supplied is greater than
quantity demanded
– Happens when producers set prices above the
equilibrium price
– Consumers are less willing to buy, good begin to
stockpile, prices are lowered to reduce stock.
Surplus
The fast-food restaurant
business wants to hire
students at $4.15 an hour,
but the government has
set a minimum wage–a
price floor–of $5.15 an
hour. This results in a
surplus of workers.
Price Controls

Government intervention
– For the most part, gov’t lets market forces control
supply and demand.
– However, gov’t does get involved for a number of
reasons
 1). Believes the market is unfair to consumers.
 2). No competition for market forces to work
 3). Receive kickback from certain industries to protect their
interests.
– At these times, gov’t will intact certain restrictions on
producers.
Price Controls

Price Ceilings
– Government set maximum price that can be charged for
goods or services
– Prevents prices form going above a certain amount.
– Usually a temporary situation
– Usually leads to shortages occurring when done
effectively

Rationing
– When the economy is bad and/or shortages last for a
long time (Great Depression, water), gov’t may resort to
rationing.
– Distribution of goods and service based on something
other than price.
Price Controls

Price Floors
– Legal minimum price below which a good or service
may not be sold.
– Most commonly seen with minimum wages and
agriculture
– Gov’t sets minimum wage to ensure employers pay
fairly for their employees services
– If Equilibrium price is followed, farmers would make no
profits
– Gov’t will set minimum prices on produce to keep
farmers from turning away from agriculture, and allow
them to make a profit.