Economics Chapter 3 : Supply and Demand

Differentiate between a change in supply/demand, and a change in the quantity supplied/demanded

- Change in supply/demand = entire shift of the curve - Change in quantity supplier/demanded = a movement along the curve which that occurs in response to a change in price

What are alternative to helping the poor, rather than reducing the prices of goods?

- Give the poor additional income and let them decide for themselves how to spend it - Government could afford generous subsidies to the wages of the working poor, or sponsor public-service employment

What is horizontal and vertical interpretation?

- Horizontal interpretation is reading from the y-axis to the x-axis - Vertical interpretation is reading from the x-axis to the y-axis

Name the six factors that cause an increase in demand? (Rightward shift)

1) A decrease in the price of complement goods or services 2) An increase in the price of substitutes 3) An increase in income (for a normal good) 4) An increase in preference by demanders for the good 5) An increase in the population of potential buyers 6) An expectation of higher prices

What are the five reasons that cause an increase in supply (rightward shift)?

1) Decrease in cost of production 2) Improvement in technology 3) Improvement in weather (for agricultural products) 4) Increase in number of suppliers 5) Expectation of lower prices in the future

What will shift the supply curve?

A change in production costs

Supply curve

A graph showing the quantity of a good and the price at which a seller is willing to sell that quantity of good at

Demand Curve

A graph showing the quantity of a good and the price at which buyers are willings to pay at that quantity

Price ceiling

A maximum allowable price, specified by law

What is an ordinary good?

As price decreases, demand increases

What is a giffen good?

As the price rises, quantity consumed rises because the income effect outweighs the substitution effect. An example is meat. As the price increases you consume more because it is of higher quality than say something like rice.

What are the two approaches economic decisions can be made?

Centrally by an individual on behalf of a group, or by the so-called capitalist market (free-market) where people decide for themselves what careers to pursue and which products to produce or buy.

What are some reasons for goods being inferior?

Consumer preferences and tastes, and expectations about future products

How do you graphically work out consumer, producer, and total surplus?

Consumer surplus = Area under demand curve but above the price (below quantity too) Producer surplus = Area above supply curve but below price (below quantity too) Total surplus = Consumer surplus + Producer surplus

Cash on the table

Economic metaphor for the unexploited gains from exchange. When the price in a market is below the equilibrium price, there is cash on the table because the reservation price of sellers will always be lower that the reservation price of buyers.

What happens if the minimum wage is set below or above the equilibrium wage (competitive market wage)?

If minimum wage is set below equilibrium wage, it will have no effect on the number of employees because their work will be valued at the equilibrium wage and if their wage is below the competitive market wage, they will go and find employment elsewhere. If the minimum wage is set above the equilibrium wage, a firm will hire workers as long as the marginal benefit of having an additional workers is greater or equal to the marginal cost of hiring an extra worker.

Market equilibrium

Occurs in a market when all buyers and sellers are satisfied with their respective quantities at the market price

Economic efficiency

Occurs when all goods and services are produced and consumed at their respective socially optimal levels

What happens the suppliers and buyers when price decreases? How does the system tend toward equilibrium?

Price decreases so buyers demand more, and sellers are willing to sell less. This leads to an excess in demand, and frustrates buyers. Due to the incentive principle, some buyers offer higher prices until the price reaches price equilibrium.

What happens to suppliers and buyers when price increases? How does the system tend towards equilibrium?

Price increases so buyers demand less, and suppliers want to see more. This leads to an excess in demand and frustrates suppliers. This leads to suppliers reducing their prices, due to the incentive principle, in order to compete and gain customers, until price eventually falls to equilibrium.

What are rent controls and what are their consequences?

Rent controls are when the government prevents the price of renting to rising to the price equilibrium level so that the poor can essentially afford to rent apartments. Consequences: - Price decreases below equilibrium, so demand from buyers increases, but suppliers want to sell less, so there is an excess demand - housing shortage - Landlords don't have the incentive to regulate the apartments - Some buyers willing to pay more for the apartments, so landlords could convert apartment into condominiums in order to get around the price ceiling - With excess demand landlords can discriminate against buyers - Someone living by them self in a 4 bedroom apartment has no economic incentive to move because the price of the apartment is so low, therefore, space cannot be made for a larger famaily to move in

Relate opportunity cost to the supply curve

Suppliers should be willing to sell additional units as long as the price they receive is sufficient to cover their opportunity costs of supplying the units.

Which way does the demand curve slope? Why does it slope that way?

The curve slope downwards. The reason it does this is because of two reasons: - The substitution effect = As the price increases, quantity demanded decreases because buyers switch to substitute products - The Income effect = An increase in the price changes the buyer's purchasing power because they can't afford it so quantity demanded decreases

Total surplus

The difference between the buyer's reservation price and seller's reservation price

Buyer's surplus

The difference between the buyer's reservation price and the price he/she actually pays

Seller's surplus

The difference between the seller's reservation price and the price he/she actually receives

Buyer's reservation price

The largest dollar amount the buyer would be willing to pay for the good. This is the benefit of buying the good. Therefore, the buyer will only buy the product if the reservation price is above the price the product is sold at

Market

The market for any good consists of all buyers or sellers of that good

What happens to the supply curve if there is an increase in the marginal cost of producing that product?

The number of potential sellers who can profitably sell that product at any given price will fall and the supply curve will shift to the left

Socially optimal quantity

The quantity of a good that results in the maximum possible economic surplus from producing and consuming the good. The marginal cost and marginal benefit are exactly the same

Seller's reservation price

The smallest dollar amount that a seller would be willing to sell an additional unit, generally equal to marginal cost

Which way does the supply curve slope? Why does it slope this way?

The supply curve is upward sloping. It slopes this way because at higher prices, sellers are usually going to offer more units of that good. It also slopes this way because of the "Low-Hanging-Fruit Principle". As you expand the production of a product, you will turn first to those whose opportunity cost of producing that product is the lowest, and then to those whose opportunity cost is the highest.

Substitute goods

Two good are substitutes if the increase in the price of one good cause a rightward shift in the demand curve of the other good, or an decrease in the price of one good causes a leftward shift in the demand curve of the other good. E.g. Airfares and inter-state bus fares

Complement goods

Two goods are complement if the increase in price of one good causes the demand curve to shift left, or a decrease in the price causes the demand curve to shift right. E.g. tennis courts and tennis balls

Inferior good

When in the income of buyers increases, the demand curve shifts left, and vice versa. E.g. the fat content in meat

Normal good

When the income of buyers increases, the demand curve of the good shifts right, and vice versa.