Market Forces: Demand and Supply

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Supply and demand

Demand
the market survey does not ask consumers how much they would buy at alternative
levels of income or advertising; it simply seeks to determine how much would be
purchased at alternative prices
law of demand: Price and quantity demanded are inversely related.
as the price of a good rises (falls) and all other things remain constant, the quantity
demanded of the good falls (rises).
market demand curve - A curve indicating the total quantity of a good all consumers are
willing and able to purchase at each possible price, holding the prices of related goods,
income, advertising, and other variables constant.
Demand shifters
Variables other than the price of a good that influence demand
Change in quantity demanded - Changes in the price of a good lead to a change
in the quantity demanded of that good. This corresponds to a movement along a
given demand curve.
Change in demand - Changes in variables other than the price of a good, such as
income or the price of another good, lead to a change in demand. This
corresponds to a shift of the entire demand curve.
Increase in demand - A rightward shift in the demand curve
Decrease in demand - A leftward shift in the demand curve

Income
Normal good - A good for which an increase (decrease) in income leads to an
increase (decrease) in the demand for that good.
Inferior good - A good for which an increase (decrease) in income leads to a
decrease (increase) in the demand for that good.
Prices of Related Goods
 Changes in the prices of related goods generally shift the demand curve for a
good.
Substitutes - Goods for which an increase (decrease) in the price of one good
leads to an increase (decrease) in the demand for the other good.
Complements - Goods for which an increase (decrease) in the price of one
good leads to a decrease (increase) in the demand for the other good.
Advertising and Consumer Tastes
An increase in advertising shifts the demand curve to the right
Informative Advertising - often provides consumers with information about
the existence or quality of a product, which in turn induces more consumers to
buy the product.
Persuasive Advertising - influence demand by altering the underlying tastes
of consumers.
Population
The demand for a product is also influenced by changes in the size and
composition of the population
as the population rises, more and more individuals wish to buy a given
product, and this has the effect of shifting the demand curve to the right
changes in the composition of the population can also affect the demand for a
product.
Consumer Expectations
Stockpiling - If consumers expect future prices to be higher, they will
substitute current purchases for future purchases.
Other Factors
any variable that affects the willingness or ability of consumers to purchase a
particular good is a potential demand shifter.
The Demand Function
A function that describes how much of a good will be purchased at alternative
prices of that good and related goods, alternative income levels, and alternative
values of other variables affecting demand.
explicitly recognizes that the quantity of a good consumed depends on its price and
on demand shifters.
Linear Demand Function - A representation of the demand function in which the
demand for a given good is a linear function of prices, income levels, and other
variables influencing demand.
Consumer Surplus
The value consumers get from a good but do not have to pay for.
is the area above the price paid for a good but below the demand curve.
Managers can use the notion of consumer surplus to determine the total amount
consumers would be willing to pay for a package of goods.
Supply
Market Supply Curve - A curve indicating the total quantity of a good that all producers
in a competitive market would produce at each price, holding input prices, technology,
and other variables affecting supply constant.
Change in Quantity Supplied - Changes in the price of a good lead to a change in the
quantity supplied of that good. This corresponds to a movement along a given supply
curve.
Law of Supply: As the price of a good rises (falls) and other things remain constant, the
quantity supplied of the good rises (falls).
Producers are willing to produce more output when the price is high than when it is low

Supply Shifters
Variables that affect the position of the supply curve are called supply shifters, and
they include the prices of inputs, the level of technology, the number of firms in the
market, taxes, and producer expectations.
Change in Supply - Changes in variables other than the price of a good, such as
input prices or technological advances, lead to a change in supply. This
corresponds to a shift of the entire supply curve.
Input Prices
The supply curve reveals how much producers are willing to produce at
alternative prices.
As production costs change, the willingness of producers to produce output at
a given price changes.
as the price of an input rises, producers are willing to produce less output at
each given price.
This decrease in supply is depicted as a leftward shift in the supply curve.
Technology or Government Regulations
Changes that make it possible to produce a given output at a lower cost
natural disasters that destroy existing technology and government regulations

Number of Firms
As additional firms enter an industry, more and more output is available at
each given price.
This is reflected by a rightward shift in the supply curve.

Substitutes in Production
Many firms have technologies that are readily adaptable to several different
products.
Taxes
Excise Tax - a tax on each unit of output sold, where the tax revenue is
collected from the supplier
Ad valorem Tax - Another form of tax often used by a government agency. .
Ad valorem literally means “according to the value.”
 It is a percentage tax

Producer Expectations
Producer expectations about future prices also affect the position of the supply
curve
In effect, selling a unit of output today and selling a unit of output tomorrow are
substitutes in production
The Supply Function
A function that describes how much of a good will be produced at alternative prices
of that good, alternative input prices, and alternative values of other variables
affecting supply
explicitly recognizes that the quantity produced in a market depends not only on
the price of the good but also on all the factors that are potential supply shifters.
Linear Supply Function - A representation of the supply function in which the
supply of a given good is a linear function of prices and other variables affecting
supply.
Producer Surplus
The amount producers receive in excess of the amount necessary to induce them
to produce the good.
the producer analogue to consumer surplus.

Market Equilibrium
Equilibrium in a competitive market is determined by the intersection of the market
demand and supply curves.
The concepts of market supply and market demand: The price of a good in a
competitive market is determined by the interaction of market supply and market
demand for the good.
The equilibrium price is the price that equates quantity demanded with quantity
supplied
Price Restrictions and Market Equilibrium
Price Ceilings - The maximum legal price that can be charged in a market
the term ceiling refers to that price being the highest permissible price in the
market. It does not refer to a price set above the equilibrium price.
Full Economic Price - The dollar amount paid to a firm under a price ceiling,
plus the nonpecuniary price.
Nonpecuniary Price - The latter price is paid not in dollars but through
opportunity cost
Price Floors - The minimum legal price that can be charged in a market.
sometimes the equilibrium competitive price may be considered too low for
producers