ECON 224

Perfectly Competitive Market

All goods exactly the same, buyers & sellers so numerous that no one can affect market price - each is a "price taker"

Elasticity

Allows us to analyze supply and demand with greater precision, is a measure of how much buyers and sellers respond to changes in market conditions

Total Revenue

Amount paid by buyers and received by sellers of a good. TR=P x Q

How number of buyers shifts the demand curve

An increase in the number of buyers causes an increase in quantity demanded at each price, which shifts the demand curve to the right.

How number of sellers shift the supply curve

An increase in the number of sellers increases the quantity supplied at each price, shifts the S curve to the right.

Complements

An increase in the price of one of the two goods leads to a decrease in the quantity demanded for the other good, and vice versa; Cross-Price Elasticity for complements is Negative

Substitutes

An increase in the price of one of the two goods leads to an increase in quantity demanded for the other good, and vice versa. Cross-Price Elasticity for substitutes is Positive

Law of Demand

Assuming all other things remain the unchanged, the quantity demanded of a good decreases when the price of the good increases, and vice versa

Law of Supply

Assuming everything else remains the same, the quantity supplied of a good rises when the price of the good rises, and vice versa.

Determinants of Price Elasticity of Demand

Availability of Close Substitutes, Necessities versus Luxuries, Definition of the Market, Time Horizon

Market

Group of buyers and sellers of a particular product

How expectations shift the demand curve

If people expect their incomes to rise, their demand for meals at expensive restaurants may increase now. If the economy turns bad and people worry about their future job security, demand for new autos may fall now.

The price ceiling is not binding

If set above the equilibrium price.

The price floor is not binding

If set below the equilibrium price.

Facing shortage

Sellers raise the price, causing quantity demanded to fall and quantity supplied to rise

Facing surplus

Sellers try to increase sales by cutting the price. This causes quantity demanded to rise and quantity supplied to fall.

How tastes shift the demand curve

Shift in tastes toward a good will increase demand for that good and shift its D curve to the right.

"Changes in demand"

Shift in the D curve

"Changes in supply"

Shift in the S curve

Quantity Demanded

The amount of the good that buyers are willing and able to purchase

Quantity Supplied

The amount that sellers are willing and able to sell.

If macaroni and cheese is an inferior good, what would happen to the equilibrium price and quantity of macaroni and cheese if consumers' incomes rise?

a. Both the equilibrium price and quantity would increase. b. Both the equilibrium price and quantity would decrease. c. The equilibrium price would increase, and the equilibrium quantity would decrease. d. The equilibrium price would decrease, and the equilibrium quantity would increase.

New oak tables are normal goods. What would happen to the equilibrium price and quantity in the market for oak tables if the price of maple tables rises, the price of oak wood rises, more buyers enter the market for oak tables, and the price of the glue used in the production of the new oak tables increased?

a. Price will fall, and the effect on quantity is ambiguous. b. Price will rise, and the effect on quantity is ambiguous. c. Quantity will fall, and the effect on price is ambiguous. d. Quantity will rise, and the effect on price is ambiguous.

New cars are normal goods. What will happen to the equilibrium price of new cars if the price of gasoline rises, the price of steel falls, public transportation becomes cheaper and more comfortable, auto-workers accept lower wages, and automobile insurance becomes more expensive?

a. Price will rise. b. Price will fall. c. Price will stay exactly the same. d. The price change will be ambiguous

Suppose the government imposes a 20-cent tax on the sellers of artificially-sweetened beverages. The tax would shift a. demand, raising both the equilibrium price and quantity in the market for artificiallysweetened beverages. b. demand, lowering the equilibrium price and raising the equilibrium quantity in the market for artificially-sweetened beverages. c. supply, raising the equilibrium price and lowering the equilibrium quantity in the market for artificially-sweetened beverages. d. supply, lowering the equilibrium price and raising the equilibrium quantity in the market for artificially-sweetened beverages.

c. supply, raising the equilibrium price and lowering the equilibrium quantity in the market

If the government passes a law requiring sellers of mopeds to send $200 to the government for every moped they sell, then a. the supply curve for mopeds shifts downward by $200. b. sellers of mopeds receive $200 less per mopeds than they were receiving before the tax. c. buyers of mopeds are unaffected by the tax. d. None of the above is correct.

d. none

Suppose that Juan Carlos is filling out a survey that he received in the mail. The survey asks him what he would do if the price of his favorite toothpaste increased. Juan Carlos reports that he would switch to a different brand. The survey then asks what he would do if the price of all toothpastes increased. Juan Carlos reports that he must use toothpaste, so he would have to adjust his spending elsewhere. These examples illustrate the importance of a. changes in total revenue in determining the price elasticity of demand. b. a necessity versus a luxury in determining the price elasticity of demand. c. the definition of a market in determining the price elasticity of demand. d. the time horizon in determining the price elasticity of demand.

definition of a market in determining the price elasticity of demand

In a free, unregulated market system, market forces establish

equilibrium prices

Milk has an inelastic demand, and beef has an elastic demand. Suppose that a mysterious increase in bovine infertility decreases both the population of dairy cows and the population of beef cattle by 50 percent. The change in equilibrium price will be a. greater in the milk market than in the beef market. b. greater in the beef market than in the milk market. c. the same in the milk and beef markets. d. Any of the above could be correct.

greater in the milk market than in the beef market.

The price floor is binding

if set above the equilibrium price, leading to a surplus.

The price ceiling is binding

if set below the equilibrium price, leading to a shortage.

The burden of a tax falls more heavily on the side of the market that is

More inelastic

"Change in quantity demanded"

Movement along fixed D curve (when price changes)

"Change in quantity supplied"

Movement along fixed S curve (when price changes)

Non binding price floor effect

No affect on the market

What causes a shift in a demand curve?

Number of buyers, income, prices of related goods, tastes, and expectations

Price Ceiling

A legal maximum on the price at which a good can be sold.

Price Floor

A legal minimum on the price at which a good can be bought.

Demand Schedule

A table that shows the relationship between the price of a good and the quantity demanded.

Supply Schedule

A table that shows the relationship between the price of a good and the quantity supplied.

Determinants of Elasticity of Supply

Ability of sellers to change the amount of the good they produce, Time period.

Matthew bakes apple pies that he sells at the local farmer's market. If the price of apples increases, the a. supply curve for Matthew's pies will increase. b. supply curve for Matthew's pies will decrease. c. demand curve for Matthew's pies will increase. d. demand curve for Matthew's pies will decrease.

B. supply curve will decrease

Changes in price (demand)

Cause movement ALONG the demand curve

Change in price (supply)

Causes movement ALONG the supply curve

How technology shifts the supply curve

Cost-saving technological improvement has same effect as a fall in input prices, shifts the S curve to the right

How price of related goods shift the demand curve

For substitutes: an increase in the price of one causes an increase in demand for the other For complements: an increase in the price of one causes a fall in demand for the other

How input prices shift the supply curve

Ex. wages and prices of raw materials A fall in input prices makes production more profitable at each output price, so firms supply a larger quantity at each price, and the S curve shifts to the right.

How expectations shift the supply curve

Firm expects the price of the good it sells to rise in the future, reduce supply now to save some of its inventory to sell later at the higher price. This would shift the S curve leftward

How income shifts the demand curve

For a normal good: (positively related) increase in income causes increase in quantity demanded at each price, shifting the D curve to the right. For inferior goods: (negatively related) An increase in income shifts D curves for inferior goods to the left.

How prices allocate resources

In market economies, prices adjust to balance supply and demand. These equilibrium prices are the signals that guide economic decisions and thereby allocate scarce resources.

Luxuries

Income elastic, quantity demanded of luxuries change substantially (more than) the change in income.

Necessities

Income inelastic, quantity demanded of necessities change only slightly in response to a change (increase/decrease) in income.

Inferior Goods

Increase in income leads to a decrease in quantity demanded, and vice versa; Income Elasticity of Demand for inferior goods is Negative

Normal Goods

Increase in income leads to an increase in quantity demanded, and vice versa; Income Elasticity of Demand for normal goods is Positive. Broken down into luxuries and necessities

What factors cause a shift in the supply curve?

Input prices, technology, number of sellers, and expectations.

Competitive Market

Many buyers and sellers, each has a negligible effect on price

Price Elasticity of Demand

Measure of how much the quantity demanded (QD) of a good responds to a change in the price (P) of that good.

Price elasticity of supply

Measure of how much the quantity supplied (QS) of a good responds to a change in the price (P) of that good

Income elasticity of demand

Measures how much the quantity demanded of a good responds to a change in consumers' income.

Cross-Price Elasticity of Demand

Measures how much the quantity demanded of one good responds to a change in the price of another good. Substitutes and complements

Total Revenue and Elasticity: When a Good is Elastic

Price and Total Revenue move in OPPOSITE directions

Total Revenue and Elasticity: When the Good is Inelastic

Price and Total Revenue move in the SAME direction

Price Elasticity and Luxuries

Price elasticity is higher for luxuries than for necessities.

Price Elasticity and Definition of Market

Price elasticity is higher for narrowly defined goods than broadly defined ones.

Price Elasticity and Time

Price elasticity is higher in the long run than the short run.

Price Elasticity and Substitutes

Price elasticity is higher when close substitutes are available.

Equilibrium

Price has reached the level where quantity supplied equals quantity demanded

Decrease in Demand and Decrease in Supply

Price-ambiguous, Quantity-down

Increase in Demand and Increase in Supply

Price-ambiguous, Quantity-up

Decrease in Demand and Increase in Supply

Price-down, Quantity-ambiguous

Decrease in Demand and No Change in Supply

Price-down, Quantity-down

No Change in Demand and an Increase in Supply

Price-down, Quantity-up

No Change in Demand and No Change in Supply

Price-same, Quantity-same

Increase in Demand and Decrease in Supply

Price-up, Quantity-ambiguous

No Change in Demand and a Decrease in Supply

Price-up, Quantity-down

Increase in Demand and No Change in Supply

Price-up, Quantity-up

Elastic Demand curve

Quantity demanded changes by a margin GREATER than the change in price.* ∆ QD > ∆ P

Inelastic Demand

Quantity demanded changes by a margin LESS than the change in price.* ∆ QD < ∆ P

Unit Elastic Demand

Quantity demanded changes by exactly the same margin as the change in price.* ∆ QD = ∆ P

Perfectly Elastic Demand

Quantity demanded changes infinitely in response to even the smallest change in price.

Perfectly Inelastic Demand

Quantity demanded does not change at all in response to any change in price

Elastic Supply

Quantity supplied changes by a margin GREATER than the change in price.* ∆ QS > ∆ P

Inelastic Supply

Quantity supplied changes by a margin LESS than the change in price.* ∆ QS < ∆ P

Unit Elastic Supply

Quantity supplied changes by exactly the same margin as the change in price.* ∆ QS = ∆ P

Perfectly Elastic Supply

Quantity supplied changes infinitely in response to even the smallest change in price

Perfectly Inelastic Supply

Quantity supplied does not change at all in response to any change in price.

The Steeper the Demand Curve

The less change there is in QD as P changes, ∆ QD < ∆ P, inelastic demand

The Steeper the Supply Curve

The less change there is in QS as P changes, ∆ QS < ∆ P Inelastic Demand

The Flatter the Demand Curve

The more change there is in QD as P changes, ∆ QD > ∆ P, elastic demand

The Flatter the Supply Curve

The more change there is in QS as P changes, ∆ QS > ∆ P Elastic Demand.

Shortage

When quantity demanded is greater than quantity supplied

Surplus

When quantity supplied is greater than quantity demanded

A non binding price ceiling has what effect

no affect on the market

A control on prices is usually introduced when

policymakers believe the market/equilibrium price is unfair to either buyers or sellers.