C h a p t e r three © 2006 Prentice Hall Business Publishing Economics R. Glenn Hubbard, Anthony Patrick O’Brien—1 st ed. Prepared by: Fernando & Yvonn

c h a p t e rc h a p t e r

threethree

© 2006 Prentice Hall Business Publishing Economics R. Glenn Hubbard, Anthony Patrick O’Brien—1 st ed.

Prepared by: Fernando & Yvonn Quijano

Where Prices Come From:The Interaction of Demand and Supply

2 of 34© 2006 Prentice Hall Business Publishing Economics R. Glenn Hubbard, Anthony Patrick O’Brien—1 st ed.

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After studying this chapter, you should be able to:

Discuss the variables that influence demand.

Discuss the variables that influence supply.

Use a graph to illustrate market equilibrium.

Use demand and supply graphs to predict changes in prices and quantities.

Carly Fiorina

How Hewlett-Packard Managesthe Demand for Printers

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… Because of the importance of printers to Hewlett-Packard, the company devotes significant resources to monitoring and forecasting consumer demand.

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The Demand Side of the Market

The Demand of an Individual Buyer

LEARNING OBJECTIVE1

Quantity demanded The quantity of a good or service that a consumer is willing to purchase at a given price.

3 - 1Plotting a Price-Quantity Combination on a Graph

At a price of $125 per printer, Kate, the purchasing manager for the Prudential Insurance Company, will be willing to buy 5 printers in the next month.


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Demand schedule A table showing the relationship between the price of a product and the quantity of the product demanded.

Demand curve A curve that shows the relationship between the price of a product and the quantity of the product demanded.

Demand Schedules and Demand Curves3 - 2

Kate’s Demand Schedule and Demand Curve


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Individual Demand and Market Demand

Market demand The demand for a product by all the consumers in a given geographical area.

3 - 3Deriving the Market Demand Curve from Individual Demand Curves


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The Law of Demand

The Law of Demand Holding everything else constant, when the price of a product falls, the quantity demanded of the product will increase, and when the price of a product rises, the quantity demanded of the product will decrease.

What Explains the Law of Demand?

Substitution effect The change in the quantity demanded of a good that results from a change in price making the good more or less expensive relative to other goods that are substitutes.

Income effect The change in the quantity demanded of a good that results from the effect of a change in the good’s price on consumer purchasing power.


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Holding Everything Else Constant:The Ceteris Paribus Condition

Ceteris paribus (“all else equal”) The requirement that when analyzing the relationship between two variables—such as price and quantity demanded—other variables must be held constant.


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Price of related goodsSubstitutes Goods and services that can be used for the same purpose.Complements Goods that are used together.

IncomeNormal good A good for which the demand increases as income rises and decreases as income falls.Inferior good A good for which the demand increases as income falls, and decreases as income rises.

Tastes Population and demographics

Demographics The characteristics of a population with respect to age, race, and gender.

Expected future prices

Variables That Shift Market Demand

3 - 4Shifting the Demand Curve


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Why Supermarkets Need to Understand Substitutes and Complements

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A supermarket shouldn’t remove a slow-selling soup from its shelves without researching whether shoppers use that soup as a substitute or a complement for another soup.

COFFEE

FROZENPIZZA

HOTDOGS

ICECREAM

POTATOCHIPS

REGULARCEREAL

SPAGHETTISAUCE YOGURT

Varieties in FiveChicagoSupermarkets

391 337 128 421 285 242 194 288

VarietiesIntroducedin a 2-Year Period

113 109 47 129 93 114 70 107

Varieties Removedin a 2-Year Period

135 86 32 118 77 75 36 51


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Companies Respond to a Growing Hispanic Population

3 - 2

Firms are responding to the tastes of a growing Hispanic population. Some Home Depot stores, for example, include signs in both English and Spanish.


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Variables That Shift MarketDemand Curves

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Variables That Shift MarketDemand Curves

3 - 1 (continued)


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A Change in Demand versus a Change in Quantity Demanded

3 - 5A Change in Demand versus a Change in the Quantity Demanded


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Estimating the Demand for Printers at Hewlett-Packard

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Inaccurate forecasts in 2001 caused Hewlett-Packard to produce more printers than they could sell.


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The Supply Side of the Market

Quantity supplied The quantity of a good or service that a firm is willing to supply at a given price.

LEARNING OBJECTIVE2

Supply schedule A table that shows the relationship between the price of a product and the quantity of the product supplied.

Supply curve A curve that shows the relationship between the price of a product and the quantity of the product demanded.

Supply Schedules and Supply Curves


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3 - 6Hewlett-Packard’s SupplySchedule and Supply Curve


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Individual Supply and Market Supply3 - 7

Deriving the Market Supply Curve from the Individual Supply Curves


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The Law of Supply

Law of supply Holding everything else constant, increases in price cause increases in the quantity supplied, and decreases in price cause decreases in the quantity supplied.


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Price of inputs Technological change

A positive or negative change in the ability of a firm to produce a given level of output with a given amount of inputs.

Prices of substitutes in production

Expected future prices Number of firms in the

market

Variables That Shift Supply

3 - 8Shifting the Supply Curve


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Variables That Shift MarketSupply Curves

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Variables That Shift MarketSupply Curves

3 - 2 (continued)


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The Difference between a Change in Supply versus a Change in the Quantity Supplied


A Change in Supply versus a Change in Quantity Supplied

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Market Equilibrium: Putting Demand and Supply Together

LEARNING OBJECTIVE3

Market equilibrium A situation where quantity demanded equals quantity supplied.

Competitive market equilibrium A market equilibrium with many buyers and many sellers.

3 - 10Market Equilibrium


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Market Equilibrium: Putting Demand and Supply Together

How Markets Eliminate Surpluses and Shortages

Surplus A situation in which the quantity supplied is greater than the quantity demanded.

Shortage A situation in which the quantity demanded is greater than the quantity supplied.

3 - 11The Effect of Surpluses and Shortages on the Market Price


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Demand and Supply Both Count: A Tale of Two Letters

3 - 1

LEARNING OBJECTIVE3

Although the demand for Lincoln’s letters is greater than Booth’s, the supply of Booth’s letters is much smaller, which explains why the equilibrium price for Booth’s letters is higher.


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LEARNING OBJECTIVE4

The Effect of Shifts in Supply on Equilibrium3 - 12

The Effect of a Decrease in Supply on Equilibrium

The Effect of Demand and Supply Shifts on Equilibrium


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The Falling Price of LargeFlat-Screen Televisions

Corning’s breakthrough spurred the manufacture of LCD televisions in Taiwan, South Korea, and Japan, and an eventual decline in price.

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The Effect of Shifts in Demand on Equilibrium3 - 13

The Effect of an Increase in Demand on Equilibrium



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The Effect of Shifts in Both Demand and Supply

3 - 14Shifts in Demand and Supply over Time



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The Effect of Shifts in Both Demand and Supply

3 - 13The Demand for Chicken Has Increased MoreThan the Supply



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High Demand and Low Prices in the Lobster Market?

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LEARNING OBJECTIVE4

Supply and demand for lobster both increase during the summer, but the increase in supply is greater than the increase in demand, therefore, equilibrium price falls.


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Remember: A Change in a Good’s Price Does Not Cause the Demand or Supply Curve to Shift.

The second shift, from D2 to D3, does not occur. After an increase in demand, from D1 to D2, the higher resulting price does not lead to a leftward shift of the demand curve to D3.


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Picking a Big Fight with Dell, H-P Cuts PC Profits Razor-Thin


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Ceteris paribus (“all else equal”)

Competitive marketequilibrium

Complements

Demand curve

Demand schedule

Demographics

Income effect

Inferior good

Law of demand

Law of supply

Market demand

Market equilibrium

Normal good

Quantity demanded

Quantity supplied

Shortage

Substitutes

Substitution effect

Supply curve

Supply schedule

Surplus

Technological change

Documents

C h a p t e r three © 2006 Prentice Hall Business Publishing Economics R. Glenn Hubbard, Anthony Patrick O’Brien—1 st ed. Prepared by: Fernando & Yvonn