Chapter 3

Demand, Supply,
and Market
Equilibrium
McGraw-Hill/Irwin Copyright © 2009 by The McGraw-Hill Companies, Inc. All rights reserved.
 Chapter Objectives

• Demand and its determinants

• Supply and its determinants
• Supply, demand, & market
equilibrium
• Changes in supply and demand
• Government-set prices

3-2
 A Market
• Interaction between buyers
and sellers
• Buyers demand goods
• Sellers supply goods
• Assumptions
– Standardized good
– Competitive market
3-3
 Demand
• Schedule or curve
• Amount consumers willing
and able to purchase at a
given price
• Other things equal
• Individual demand
• Market demand
3-4
 Law of Demand
• Other things equal, as price
falls quantity demanded
rises
• Explanations:
– Diminishing marginal utility
– Income effect
– Substitution effect
3-5
 Individual Demand

P
6

Price (per bushel)

P Qd 4
$5 10
3
4 20
2
3 35

2 55 1 D

1 80 0 Q
10 20 30 40 50 60 70 80
Quantity Demanded (bushels per week)

3-6
 Determinants of Demand
• Factors that shift the demand
curve
• Cause more or less to be
bought at any possible price
• Increase or decrease in demand
• Tastes
• Number of buyers
3-7
 Determinants of Demand
• Income
– Normal goods
– Inferior goods
• Price of related goods
– Substitute good
– Complementary good
– Unrelated goods
• Consumer expectations
3-8
 Individual Demand

P
6

Price (per bushel)

P Qd 4
$5 10
3
4 20
2
3 35 D2

2 55 1 D1
D3
1 80 0
2 4 6 8 10 12 14 16 18 Q
Quantity Demanded (bushels per week)

3-9
 Individual Demand

P
6 Change in Demand

Price (per bushel)

P Qd 4 Change in Quantity
$5 10 Demanded
3
4 20
2
3 35 D2

2 55 1 D1
D3
1 80 0
2 4 6 8 10 12 14 16 18 Q
Quantity Demanded (bushels per week)

3-10
 Supply
• Schedule or curve
• Amount producers willing
and able to sell at a given
price
• Individual supply
• Market supply

3-11
 Law of Supply
• Other things equal, as price
rises the quantity supplied
rises
• Explanations:
– Revenue implications
– Marginal cost

3-12
 Individual Supply

P
6

S1
5

Price (per bushel)

P Qs 4
$5 60
3
4 50
2
3 35

2 20 1

1 5 0
10 20 30 40 50 60 70 Q
Quantity Supplied (bushels per week)

3-13
 Determinants of Supply
• Resource prices
• Technology
• Taxes and subsidies
• Prices of other goods
• Producer expectations
• Number of sellers

3-14
 Individual Supply

P
6
S3
S1
5
S2

Price (per bushel)

P Qs 4
$5 60
3
4 50
2
3 35

2 20 1

1 5 0
10 20 30 40 50 60 70 Q
Quantity Supplied (bushels per week)
3-15
 Individual Supply

P
6
S3
S1
5
Change in Quantity
Supplied S2

Price (per bushel)

P Qs 4
$5 60
3
4 50
2
3 35
Change in Supply
2 20 1

1 5 0
10 20 30 40 50 60 70 Q
Quantity Supplied (bushels per week)
3-16
 Market Equilibrium

• Equilibrium price and quantity

• Surplus and shortage
• Rationing function of price
• Efficient allocation
– Productive efficiency
– Allocative efficiency
3-17
 Market Equilibrium

6
6,000 Bushel S
5 Surplus
P Qd P Qs
Price (per bushel)
$4 Price Floor
$5 2,000 4
$5 12,000
4 4,000 4 10,000
3
3 7,000 $2 Price Ceiling 3 7,000
2 11,000 2
2 4,000
1 16,000 7,000 Bushel 1 1,000
1 D
Shortage

0 2 4 6 7 8 10 12 14 16 18
Bushels of Corn (thousands per week)

3-18
 Market Equilibrium
• Change in demand
– Shift of the demand curve
• Change in supply
– Shift of the supply curve
• Change in equilibrium price and
quantity

3-19
 Market Equilibrium
Price Quantity

• Supply increase; ?
Demand decrease
• Supply decrease;
Demand increase ?
• Supply increase;
Demand increase ?
• Supply decrease;
Demand decrease ?
3-20
 Government-Set Prices
• Price ceilings on gasoline
– Rationing problem
– Black markets
• Rent controls
• Price floors on wheat
– Optimal allocation of
resources
3-21
 A Market for Human Organs

• Waiting list for transplants

• Demand for organs
• Supply of organs—two
possibilities
• Market eliminates shortage
• Moral objections
• Legalize and regulate?
3-22
A Market for Human Organs
S1 S2
P
Supply of Organs

P1

At Price P1 the
Shortage is Reduced
By Q1 – Q2
Demand for Organs

D1
P0
Q1 Q2 Q3 Q
3-23
 Key Terms
• demand • supply
• demand schedule • supply schedule
• law of demand • law of supply
• diminishing marginal utility • supply curve
• income effect • determinants of supply
• substitution effect • change in supply
• demand curve • change in quantity
• determinants of demand supplied
• normal goods • equilibrium price
• inferior goods • equilibrium quantity
• substitute good • surplus
• complementary good • shortage
• change in demand • price ceiling
• change in quantity demanded • price floor
3-24
Next Chapter Preview…

The U.S. Economy:

Public and Private
Sectors

3-25