Economics Chapter 3: Demand and Supply

Markets and Prices

• A market is an arrangement that enables buyers and sellers to get information and do business with each other.
• A competitive market has many buyers and sellers, so no single buyer or seller can influence the price.
• The money price of a good is the amount of money needed to buy it.
• The relative price of a good, or its opportunity cost, is the ratio of its money price to the money price of the next best alternative good.

Demand

• Demand refers to the entire relationship between the price of a good and the quantity demanded.
• The law of demand states that, other things remaining the same, the higher the price of a good, the smaller is the quantity demanded, and the lower the price of a good, the larger is the quantity demanded.
• Two reasons for the law of demand:
  • Substitution effect: When the relative price of a good or service rises, people seek substitutes, so the quantity demanded decreases.
  • Income effect: When the price of a good or service rises relative to income, people cannot afford all the things they previously bought, so the quantity demanded decreases.

Demand Curve and Demand Schedule

• A demand curve shows the relationship between the quantity demanded of a good and its price when all other influences on consumers' planned purchases remain the same.
• A rise in the price of a good, other things remaining the same, brings a decrease in the quantity demanded and a movement up along the demand curve.
• A demand curve is also a willingness-and-ability-to-pay curve, where the smaller the quantity available, the higher is the price that someone is willing to pay for another unit.

A Change in Demand

• When some influence on buying plans other than the price of the good changes, there is a change in demand for that good.
• The six main factors that change demand are:
  • Prices of related goods
  • Expected future prices
  • Income
  • Expected future income and credit
  • Population
  • Preferences

Supply

• Supply refers to the entire relationship between the quantity supplied and the price of a good.
• The law of supply states that, other things remaining the same, the higher the price of a good, the greater is the quantity supplied, and the lower the price of a good, the smaller is the quantity supplied.
• The law of supply results from the general tendency for the marginal cost of producing a good or service to increase as the quantity produced increases.

Supply Curve and Supply Schedule

• A supply curve shows the relationship between the quantity supplied of a good and its price when all other influences on producers' planned sales remain the same.
• A rise in the price of a good, other things remaining the same, brings an increase in the quantity supplied.
• A supply curve is also a minimum-supply-price curve, where the lowest price at which someone is willing to sell an additional unit rises as the quantity produced increases.

A Change in Supply

• When some influence on selling plans other than the price of the good changes, there is a change in supply of that good.
• The six main factors that change supply are:
  • Prices of factors of production
  • Prices of related goods produced
  • Expected future prices
  • The number of suppliers
  • Technology
  • State of nature

Market Equilibrium

• Equilibrium is a situation in which opposing forces balance each other.
• Equilibrium in a market occurs when the price balances the plans of buyers and sellers.
• The equilibrium price is the price at which the quantity demanded equals the quantity supplied.
• Price regulates buying and selling plans, and price adjusts when plans don't match.

Predicting Changes in Price and Quantity

• An increase in demand shifts the demand curve rightward, leading to a higher equilibrium price and a higher equilibrium quantity.
• A decrease in demand shifts the demand curve leftward, leading to a lower equilibrium price and a lower equilibrium quantity.
• An increase in supply shifts the supply curve rightward, leading to a lower equilibrium price and a higher equilibrium quantity.
• A decrease in supply shifts the supply curve leftward, leading to a higher equilibrium price and a lower equilibrium quantity.
• Changes in both demand and supply can lead to uncertain changes in equilibrium price and quantity.