Economics Chapter 3: Demand and Supply

Markets and Prices

• A market facilitates transactions between buyers and sellers and provides information.
• A competitive market contains numerous buyers and sellers, preventing any single entity from influencing prices.
• The money price of a good is the monetary cost required to purchase it.
• Relative price measures opportunity cost, calculated as the money price of a good compared to the next best alternative.

Demand

• Demand reflects consumer behavior, including the desire for a product, affordability, and a definitive purchasing plan.
• Quantity demanded indicates the amount consumers intend to purchase at a specified price in a given time period.

Law of Demand

• Higher prices lead to lower quantities demanded, while lower prices increase quantities demanded (ceteris paribus).
• Changes in price affect quantity demanded due to two phenomena:
  • Substitution Effect: Consumers shift to substitutes when a good’s relative price rises.
  • Income Effect: A price rise diminishes the purchasing power, decreasing quantity demanded.

Demand Curve and Schedule

• Demand illustrates the connection between a product's price and the quantity demanded.
• A demand curve visually represents this relationship, assuming other factors remain constant.
• Movements along the demand curve occur with price changes: rising prices reduce quantity demanded and moving up the curve, while falling prices increase quantity demanded and move down the curve.

Willingness and Ability to Pay

• The demand curve also functions as a willingness-and-ability-to-pay curve; as quantity decreases, the price consumers are willing to pay for additional units increases.
• Willingness to pay correlates with the marginal benefits consumers expect.

Change in Demand

• A shift in demand occurs when factors other than price influence buying plans, leading to a new demand curve.
• An increase in demand shifts the curve to the right, while a decrease shifts it to the left.

Factors Influencing Demand

• Six primary factors that can alter demand:
  • Prices of related goods (substitutes and complements)
  • Expected future prices
  • Income levels
  • Future income expectations and access to credit
  • Population changes
  • Consumer preferences

Prices of Related Goods

• Substitutes: Goods that can replace one another; an increase in the price of a substitute raises demand for the original good.
• Complements: Goods used together; a decrease in the price of a complement increases demand for the related good.

Expected Future Prices

• Anticipated price increases for goods lead to a current rise in demand, resulting in a rightward shift of the demand curve.

Income Effects

• An increase in consumer income generally leads to an increase in demand for most goods, shifting the demand curve rightward.
• Normal Goods: Demand rises with higher income.
• Inferior Goods: Demand decreases as income increases.