DEMAND, SUPPLY & MARKET EQUILIBRIUM

Lecturer: Jonada Tafa

• Supply and demand are the two words that
economists use most often.

• Supply and demand are the forces that make

market economies work.

• Modern microeconomics is about supply, demand,

and market equilibrium.
 Markets and Competition
• A market is a group of buyers and sellers of a
particular good or service.

• The terms supply and demand refer to the behavior

of people as they interact with one another in
markets.
 Markets and Competition
• Buyers determine demand.

• Sellers determine supply

 Competitive Markets

•A competitive market is a market in

which there are many buyers and
sellers so that each has a negligible
impact on the market price.
 DEMAND

• Quantity
demanded is the amount of a good
that buyers are willing and able to
purchase.

• Law of Demand
The law of demand states that, other things
equal, the quantity demanded of a good falls
when the price of the good rises.
 Demand Curve: relationship between
price and quantity demanded

• Demand Schedule
The demand schedule is a table that shows
the relationship between the price of the
good and the quantity demanded.
Catherine’s Demand Schedule
Demand Curve: relationship between
price and quantity demanded

• Demand Curve
The demand curve is a graph of the
relationship between the price of a good and
the quantity demanded.
Figure 1 Catherine’s Demand Schedule and Demand
Curve

Price of
Ice-Cream Cone
$3.00

2.50

1. A decrease
2.00
in price...

1.50

1.00

0.50

0 1 2 3 4 5 6 7 8 9 10 11 12 Quantity of
Ice-Cream Cones
2. ... increases quantity
of cones demanded.
Copyright © 2004 South-Western
Market Demand vs. Individual Demand

• Market demand refers to the sum of all

individual demands for a particular good or
service.
• Graphically, individual demand curves are
summed horizontally to obtain the market
demand curve.
 Shifts in the Demand Curve

§ Change in Quantity Demanded

–Movement along the demand curve
–Caused by a change in the price of the
product.
Changes in Quantity Demanded
Price of Ice-
Cream A tax that raises the price
Cones
of ice-cream cones results
B in a movement along the
$2.00 demand curve.

1.00 A

D
0
4 8 Quantity of Ice-Cream Cones
 Shifts in the Demand Curve

–Consumer income
–Prices of related goods
–Tastes
–Expectations
–Number of buyers
 Shifts in the Demand Curve

§ Change in Demand
–A shift in the demand curve, either to the
left or right.
–Caused by any change that alters the
quantity demanded at every price.
 Figure 3 Shifts in the Demand Curve

Price of
Ice-Cream
Cone

Increase
in demand

Decrease
in demand
Demand
curve, D2
Demand
curve, D1
Demand curve,D3
0 Quantity of
Ice-Cream Cones
Copyright©2003 Southwestern/Thomson Learning
 Shifts in the Demand Curve

• Consumer Income
–As income increases the demand for a
normal good will increase.
–As income increases the demand for an
inferior good will decrease.
Consumer Income - Normal Good
Price of Ice-
Cream Cone
$3.00 An increase in
income...
2.50
Increase
2.00 in demand

1.50

1.00

0.50
D2
D1 Quantity of
Ice-Cream
0 1 2 3 4 5 6 7 8 9 10 11 12 Cones
Consumer Income - Inferior Good
Price of Ice-
Cream Cone
$3.00

2.50 An increase in
income...
2.00
Decrease
1.50 in demand
1.00

0.50

D2 D1 Quantity
of Ice-
0 1 2 3 4 5 6 7 8 9 10 11 12 Cream
Cones
 Shifts in the Demand Curve

• Prices of Related Goods

– When a fall in the price of one good reduces the
demand for another good, the two goods are
called substitutes.
– When a fall in the price of one good increases
the demand for another good, the two goods are
called complements.
Variables That Influence Buyers

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 SUPPLY

• Quantitysupplied is the amount of a good

that sellers are willing and able to sell.
• Law of Supply
– The law of supply states that, other things
equal, the quantity supplied of a good rises
when the price of the good rises.
 The Supply Curve: the relationship between price
and quantity supplied

• Supply Schedule
–The supply schedule is a table that shows
the relationship between the price of the
good and the quantity supplied.
Ben’s Supply Schedule
 The Supply Curve: the relationship between price
and quantity supplied

• Supply Curve
– The supply curve is the graph of the
relationship between the price of a good and the
quantity supplied.
Ben’s Supply Schedule and Supply Curve

Price of
Ice-Cream
Cone
$3.00

2.50
1. An
increase
in price... 2.00

1.50

1.00

0.50

0 1 2 3 4 5 6 7 8 9 10 11 12 Quantity of
Ice-Cream Cones
2. ... increases quantity of cones supplied.
Copyright©2003 Southwestern/Thomson Learning
 Market Supply vs. Individual Supply

• Market supply refers to the sum of all

individual supplies for all sellers of a
particular good or service.
• Graphically, individual supply curves are
summed horizontally to obtain the market
supply curve.
 Shifts in the Supply Curve

• Input prices
• Technology

• Expectations

• Number of sellers
Shifts in the Supply Curve

• Change in Quantity Supplied

– Movement along the supply curve.
– Caused by a change in anything that alters the
quantity supplied at each price.
Change in Quantity Supplied
Price of
Ice-Cream S
Cone
C
$3.00
A rise in the
price of ice cream
cones results in a
movement along
A the supply curve.
1.00

Quantity
of Ice-
0 1 5 Cream
Cones
 Shifts in the Supply Curve

• Change in Supply
– A shift in the supply curve, either to the left or
right.
– Caused by a change in a determinant other
than price.
 Shifts in the Supply Curve

Price of
Ice-Cream Supply curve,S3
Supply
Cone
curve, S1
Supply
Decrease curve, S2
in supply

Increase
in supply

0 Quantity of
Ice-Cream Cones
Copyright©2003 Southwestern/Thomson Learning
Variables That Influence Sellers

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SUPPLY AND DEMAND TOGETHER

• Equilibriumrefers to a situation in which

the price has reached the level where
quantity supplied equals quantity
demanded.
SUPPLY AND DEMAND TOGETHER
• Equilibrium Price
– The price that balances quantity supplied and quantity
demanded.
– On a graph, it is the price at which the supply and
demand curves intersect.
• Equilibrium Quantity
– The quantity supplied and the quantity demanded at
the equilibrium price.
– On a graph it is the quantity at which the supply and
demand curves intersect.
SUPPLY AND DEMAND TOGETHER
Demand Schedule Supply Schedule

At $2.00, the quantity demanded

is equal to the quantity supplied!
 The Equilibrium of Supply and Demand

Price of
Ice-Cream
Cone Supply

Equilibrium price Equilibrium

$2.00

Equilibrium Demand
quantity

0 1 2 3 4 5 6 7 8 9 10 11 12 13
Quantity of Ice-Cream Cones
Copyright©2003 Southwestern/Thomson Learning
 Markets Not in Equilibrium

(a) Excess Supply

Price of
Ice-Cream Supply
Cone Surplus
$2.50

2.00

Demand

0 4 7 10 Quantity of
Quantity Quantity Ice-Cream
demanded supplied Cones

Copyright©2003 Southwestern/Thomson Learning

Equilibrium

• Surplus
–When price > equilibrium price, then
quantity supplied > quantity demanded.
– There is excess supply or a surplus.
– Suppliers will lower the price to increase
sales, thereby moving toward equilibrium.
 Equilibrium
• Shortage
– When price < equilibrium price, then quantity
demanded > the quantity supplied.
– There is excess demand or a shortage.
– Suppliers will raise the price due to too many buyers
chasing too few goods, thereby moving toward
equilibrium.
Markets Not in Equilibrium

(b) Excess Demand

Price of
Ice-Cream Supply
Cone

$2.00

1.50
Shortage

Demand

0 4 7 10 Quantity of
Quantity Quantity Ice-Cream
supplied demanded Cones

Copyright©2003 Southwestern/Thomson Learning

Equilibrium

• Law of supply and demand

– The claim that the price of any good adjusts to
bring the quantity supplied and the quantity
demanded for that good into balance.
Three Steps to Analyzing Changes in Equilibrium

• Decide whether the event shifts the supply or

demand curve (or both).
• Decide whether the curve(s) shift(s) to the left or
to the right.
• Use the supply-and-demand diagram to see how
the shift affects equilibrium price and quantity.
 How an Increase in Demand Affects Equilibrium
Price of
Ice-Cream 1. Hot weather increases
Cone the demand for ice cream . . .

Supply

$2.50 New equilibrium

2.00
2. . . . resulting Initial
in a higher
equilibrium
price . . .
D

0 7 10 Quantity of
3. . . . and a higher Ice-Cream Cones
quantity sold.
Copyright©2003 Southwestern/Thomson Learning
Three Steps to Analyzing Changes in Equilibrium

Shifts in Curves vs. Movements along Curves

– A shift in the supply curve is called a change in supply.

– A movement along a fixed supply curve is called a change in
quantity supplied.
– A shift in the demand curve is called a change in demand.
– A movement along a fixed demand curve is called a change in
quantity demanded.
 How a Decrease in Supply Affects Equilibrium
Price of
Ice-Cream 1. An increase in the
Cone price of sugar reduces
the supply of ice cream. . .
S2
S1

New
$2.50 equilibrium

2.00 Initial equilibrium

2. . . . resulting
in a higher
price of ice
cream . . . Demand

0 4 7 Quantity of
3. . . . and a lower Ice-Cream Cones
quantity sold.
Copyright©2003 Southwestern/Thomson Learning
What Happens to Price and Quantity When Supply or Demand Shifts?

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 Summary

• Economists use the model of supply and demand to analyze competitive

markets.

• In a competitive market, there are many buyers and sellers, each of whom
has little or no influence on the market price.
 Summary
• The demand curve shows how the quantity of a good
depends upon the price.
– According to the law of demand, as the price of a good falls, the
quantity demanded rises. Therefore, the demand curve slopes
downward.
– In addition to price, other determinants of how much consumers
want to buy include income, the prices of complements and
substitutes, tastes, expectations, and the number of buyers.
– If one of these factors changes, the demand curve shifts.
 Summary

• The supply curve shows how the quantity of a good supplied depends
upon the price.
– According to the law of supply, as the price of a good rises, the quantity supplied
rises. Therefore, the supply curve slopes upward.
– In addition to price, other determinants of how much producers want to sell
include input prices, technology, expectations, and the number of sellers.
– If one of these factors changes, the supply curve shifts.
 Summary

• Market equilibrium is determined by the intersection of the supply

and demand curves.
• At the equilibrium price, the quantity demanded equals the quantity
supplied.
• The behavior of buyers and sellers naturally drives markets toward
their equilibrium.
 Summary

• To analyze how any event influences a market, we use the

supply-and-demand diagram to examine how the even
affects the equilibrium price and quantity.
• In market economies, prices are the signals that guide
economic decisions and thereby allocate resources.