Micro Unit Two: Supply and Demand
Vocabulary and Syllabus Topics
Download Unit 2.1: Supply, Demand and Equilibrium.pdf from
http://welkerswikinomics.com/blog/ww-study-guides-3/
Be sure you can define or explain each of these terms within your essays:
commodity
competitive supply
complement
consumer surplus
demand
equilibrium
inferior good
joint supply
law of demand
law of supply
normal good
price ceiling
price floor
producer surplus
quantity demanded
quantity supplied
shortage
substitute
supply
surplus
Demand
• Explain the negative causal relationship between price and quantity demanded.
• Describe the relationship between an individual consumer’s demand and market demand.
• Explain that a demand curve represents the relationship between the price and the quantity
demanded of a product, ceteris paribus.
• Draw a demand curve.
• Distinguish between movements along the demand curve and shifts of the demand curve.
• Draw diagrams to show the difference between movements along the demand curve and shifts of
the demand curve.
• Explain how factors including changes in income (in the cases of normal and inferior goods),
preferences, prices of related goods (in the cases of substitutes and complements) and
demographic changes may shift demand.
• Explain a demand function (equation) of the form Qd = a – bP.
• Plot a demand curve from a linear function (eg. Qd = 60 – 5P).
• Identify the slope of the demand curve as the slope of the demand function Qd = a – bP, that is –b
(the coefficient of P).
• Outline why, if the “a” term changes, there will be a shift of the demand curve.
• Outline how a change in “b” affects the steepness of the demand curve.
Supply
• Explain the positive causal relationship between price and quantity supplied.
• Describe the relationship between an individual producer’s supply and market supply.
• Explain that a supply curve represents the relationship between the price and the quantity
supplied of a product, ceteris paribus.
• Draw a supply curve.
• Distinguish between movements along the supply curve and shifts of the supply curve.
• Draw diagrams to show the difference between movements along the supply curve and shifts of
the supply curve.
• Explain how factors including changes in costs of factors of production (land, labour, capital and
entrepreneurship), technology, prices of related goods (joint/competitive supply), expectations,
indirect taxes and subsidies and the number of firms in the market can change supply.
• Explain a supply function (equation) of the form Qs = c + dP.
• Plot a supply curve from a linear function (eg, Qs = –30 + 20 P).
• Identify the slope of the supply curve as the slope of the supply function Qs = c + dP, that is d
(the coefficient of P).
• Outline why, if the “c” term changes, there will be a shift of the supply curve.
• Outline how a change in “d” affects the steepness of the supply curve.
Market equilibrium
• Explain, using diagrams, how demand and supply interact to produce market equilibrium.
• Analyze, using diagrams and with reference to excess demand or excess supply, how changes in
the determinants of demand and/or supply result in a new market equilibrium.
• Calculate the equilibrium price and equilibrium quantity from linear demand and supply functions.
• Plot demand and supply curves from linear functions, and identify the equilibrium price and
equilibrium quantity.
• Calculate the quantity of excess demand or excess supply in the above diagrams.
The role of the price mechanism
• Explain why scarcity necessitates choices that answer the “What to produce?” question.
• Explain why choice results in an opportunity cost.
• Explain, using diagrams, that price has a signaling function and an incentive function, which result
in a reallocation of resources when prices change as a result of a change in demand or supply
conditions.
Market efficiency
• Explain the concept of consumer surplus.
• Identify consumer surplus on a demand and supply diagram.
• Explain the concept of producer surplus.
• Identify producer surplus on a demand and supply diagram.
• Evaluate the view that the best allocation of resources from society’s point of view is at
competitive market equilibrium, where social (community) surplus (consumer surplus and producer
surplus) is maximized (marginal benefit = marginal cost).
Price Controls
• Explain why governments impose price ceilings, and describe examples of price ceilings, including
food price controls and rent controls.
• Draw a diagram to show a price ceiling, and analyze the impacts of a price ceiling on market
outcomes.
• Examine the possible consequences of a price ceiling, including shortages, inefficient resource
allocation, welfare impacts, underground parallel markets and non-price rationing mechanisms.
• Discuss the consequences of imposing a price ceiling on the stakeholders in a market, including
consumers, producers and the government.
• Calculate possible effects from the price ceiling diagram, including the resulting shortage and the
change in consumer expenditure (which is equal to the change in firm revenue).
• Explain why governments impose price floors, and describe examples of price floors, including
price support for agricultural products and minimum wages.
• Draw a diagram of a price floor, and analyze the impacts of a price floor on market outcomes.
• Examine the possible consequences of a price floor, including surpluses and government measures
to dispose of the surpluses, inefficient resource allocation and welfare impacts.
• Discuss the consequences of imposing a price floor on the stakeholders in a market, including
consumers, producers and the government.
• Calculate possible effects from the price floor diagram, including the resulting surplus, the change
in consumer expenditure, the change in producer revenue, and government expenditure to
purchase the surplus.
AP/IB Economics
Micro Unit Two Review Questions
1.
What is a competitive market? Briefly describe a type of market that is not
competitive.
2. Define demand. Why does the demand curve slope downward?
3. Explain the graphical difference between change in demand and a change in
quantity demanded. Which happens when consumers’ tastes change? Which
happens when price changes?
4. For each market, identify a specific change that could decrease demand:
Oranges
Airline travel
Peanut butter
5. For each market, identify a specific change that could increase demand:
Rice
Public transportation
Luxury shoes
6. Popeye’s income declines, and as a result, he buys more spinach. What kind of
good is spinach? What happens to Popeye’s demand curve for spinach?
7. Consider the markets for DVD movies, TV screens, and tickets at movie
theatres. Identify whether each pair are complements or substitutes
 DVDs and TV screens
 DVDs and movie tickets
 TV screens and movie tickets
8. What is consumer surplus?
9. Draw a fully-labeled diagram which illustrates consumer surplus.
10. Melissa buys an iPod for $120 and gets consumer surplus of $80.
o What is her willingness to pay?
o If she had bought the iPod on sale for $90, what would her consumer
surplus have been?
o If the price of an iPod were $250, what would her consumer surplus have
been?
11. Define supply. Why does the supply curve slope upward?
12. Explain the graphical difference between change in supply and a change in
quantity supplied. Which happens when input costs change? Which happens
when price changes?
13. Consider the markets for DVD movies, TV screens, and tickets at movie
theatres.
o Suppose a technological advance reduces the cost of manufacturing TV
screens. Draw a single supply and demand diagram to show what happens
in the market for TV screens. What happens to the price of TV screens?
o Draw two more supply and demand diagrams to show how the change in
the price of TV screens affects the markets for DVDs and movie tickets.
14. Over the past twenty years, technological advances have reduced the cost of
computer chips. Explain what has happened to supply OR demand in the
markets for a) computers; b) computer software; c) typewriters.
15. What happens to the supply of beef when the price of leather rises? Explain.
16. What happens to the supply of eggs when the price of chicken falls? Explain.
17. What is producer surplus?
18. Draw a fully-labeled diagram which illustrates producer surplus.
19. Here are the costs to Ernie of producing bottled water
Cost of first bottle:
$1
Cost of second bottle:
$3
Cost of third bottles:
$5
Cost of fourth bottle:
$7
o If the market price is $4, how many bottles will Ernie produce? What is
his producer surplus?
o If the market price rises to $6, how does quantity supplied change?
What is Ernie’s producer surplus?
20. Define the equilibrium of a market. Describe the forces that move a market
toward its equilibrium.
21. Explain each of the following statements using supply-and-demand diagrams.
Be sure and indicate the market you are diagramming.
o When a cold snap hits Florida, the price of orange juice rises in
supermarkets throughout the country.
o When the weather turns warm in New England every summer, the price of
hotel rooms in Caribbean resorts plummets.
o When war breaks out in the Middle East, the price of gasoline rises, and
the price of gas-guzzling Hummers falls. [2 different markets here…]
22. “An increase in demand for notebooks raises the quantity of notebooks
demanded but not the quantity supplied.” Explain why this statement is false.
23. Identify the flaw in this analysis: “If more Americans go on a low-carb diet,
the demand for bread will fall. The decrease in demand for bread will cause
the price of bread to fall. The lower price, however, will then increase the
demand. In the new equilibrium, Americans might end up consuming more
bread than they did initially.”
24. Using supply-and-demand diagrams, show the effect of the following events on
the market for sweatshirts.
o A hurricane in South Carolina damages the cotton crop.
o The price of leather jackets falls.
o All colleges require morning exercise in athletic attire.
o New knitting machines are invented.
25. Give a specific example of a market that might have a price ceiling and a
market that might have a price floor. Which causes a shortage of a good?
Which causes a surplus? Justify your answers with diagrams.
26. When the price is not allowed to bring supply and demand into equilibrium,
what other mechanisms might occur?
27. Explain why economists usually oppose controls on prices.
28. Lovers of classical music persuade Congress to impose a price ceiling of $40
per concert ticket. As a result of this policy to more or fewer people attend
classical music concerts? Explain your answer, including the use of a diagram.
29. The government has decided that the free-market price of cheese is too low
for farmers to maintain their standard of living.
o Suppose the government imposes a price floor in the cheese market.
Draw a supply-and-demand diagram to show the effect of this policy on
the price of cheese and the quantity of cheese sold. Is there a shortage
or surplus of cheese?
o Farmers now complain that the price floor has reduced their total
revenue. Explain how this is possible.
o In response to farmer’s complaints, the government agrees to purchase
all the surplus cheese at the price floor and donate it to poor countries
overseas. Show the impact of this decision on the domestic cheese
market. What might happen to the cheese market overseas?
30. The U.S. government administers two programs that affect the market for
cigarettes. Media campaigns and labeling requirements are aimed at making
the public aware of the dangers of cigarette smoking. At the same time, the
Department of Agriculture maintains a price-support program for tobacco
farmers, which raises the price of tobacco above the equilibrium price.
o How do these two programs affect cigarette consumption? Use a graph
of the cigarette market in your answer.
o What is the combined effect of these two programs on the price of
cigarettes?
o Cigarettes are also heavily taxed. How would this impact the graph you
drew above? What affect does this tax have on the price and quantity of
cigarettes?