Understanding Demand and Supply in Economics

Quantity Demanded

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

Law of Demand

The claim that the quantity demanded of a good falls when the price of the good rises, other things equal.

Demand Schedule

A table that shows the relationship between the price of a good and the quantity demanded (e.g., Helen's demand for lattes).

Demand Curve

A graph that illustrates the demand schedule. It is typically downward-sloping, reflecting the law of demand.

Market Demand vs. Individual Demand

The quantity demanded in the market is the sum of the quantities demanded by all buyers at each price (e.g., sum of Helen's and Ken's latte demand).

Demand Curve Shifters (Non-Price Determinants of Demand)

These factors cause the entire demand curve to shift.

Price (Demand)

Causes a movement along the demand curve, not a shift.

Number of Buyers

An increase in the number of buyers increases quantity demanded at each price, shifting the demand curve to the right.

Income

The level of income affects demand for goods.

Normal Good

Demand is positively related to income; an increase in income shifts the demand curve to the right.

Inferior Good

Demand is negatively related to income; an increase in income shifts the demand curve to the left.

Prices of Related Goods

The relationship between the prices of goods and their demand.

Substitutes

an increase in the price of one causes an increase in demand for the other (e.g., pizza and hamburgers, Coke and Pepsi).

Complements

an increase in the price of one causes a fall in demand for the other (e.g., computers and software, college tuition and textbooks).

Tastes

Anything that causes a shift in tastes toward a good will increase demand for that good, shifting its demand curve to the right (e.g., Atkins diet and eggs).

Expectations

Consumers' buying decisions are affected by their expectations of future prices or income (e.g., expecting higher income increases demand for expensive restaurant meals now; worrying about job security decreases demand for new autos now).

Quantity Supplied

The amount of a good that sellers are willing and able to sell.

Law of Supply

The claim that the quantity supplied of a good rises when the price of the good rises, other things equal.

Supply Schedule

A table that shows the relationship between the price of a good and the quantity supplied (e.g., Starbucks' supply of lattes).

Supply Curve

A graph that illustrates the supply schedule. It is typically upward-sloping, reflecting the law of supply.

Market Supply vs. Individual Supply

The quantity supplied in the market is the sum of the quantities supplied by all sellers at each price (e.g., sum of Starbucks' and Jitters' latte supply).

Supply Curve Shifters (Non-Price Determinants of Supply)

These factors cause the entire supply curve to shift.

Price (Supply)

Causes a movement along the supply curve, not a shift.

Input Prices

A fall in input prices (e.g., wages, raw materials) makes production more profitable, causing firms to supply a larger quantity at each price, shifting the supply curve to the right.

Technology

A cost-saving technological improvement has the same effect as a fall in input prices, shifting the supply curve to the right.

Number of Sellers

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

Equilibrium

The point where the price has reached the level where quantity supplied equals quantity demanded.

Equilibrium Price

The price that equates quantity supplied with quantity demanded.

Equilibrium Quantity

The quantity supplied and quantity demanded at the equilibrium price.

Surplus (Excess Supply)

Occurs when quantity supplied is greater than quantity demanded (i.e., market price is above equilibrium price).

Shortage

Occurs when quantity demanded is greater than quantity supplied (i.e., market price is below equilibrium price).

Three Steps to Analyzing Changes in Equilibrium

To determine the effects of any event on a market: 1. Decide whether the event shifts the Supply curve, Demand curve, or both. 2. Decide in which direction the curve(s) shift(s). 3. Use the supply-demand diagram to see how the shift(s) change the equilibrium price (P) and quantity (Q).

Change in Supply

A shift in the S curve, occurring when a non-price determinant of supply changes (e.g., technology, input costs).

Change in Quantity Supplied

A movement along a fixed S curve, occurring when the price (P) changes.

Change in Demand

A shift in the D curve, occurring when a non-price determinant of demand changes (e.g., income, number of buyers).

Change in Quantity Demanded

A movement along a fixed D curve, occurring when the price (P) changes.

Markets

Markets are usually a good way to organize economic activity.

Price Adjustments

In market economies, prices adjust to balance supply and demand.

Equilibrium Prices

These equilibrium prices serve as signals that guide economic decisions and thereby allocate scarce resources.