CH3 Microeconomics

LO3.1 Characterize and give examples of markets.

Markets bring buyers and sellers together. Some markets are local, others international. Some have physical locations, while others are online. In highly competitive markets, large numbers of buyers and sellers come together to buy and sell standardized products. All such markets involve demand, supply, price, and quantity, with price being “discovered” through the interacting decisions of buyers and sellers.

LO3.2 Describe demand and explain how it can change.

Demand is a schedule or curve representing buyers’ willingness and ability to purchase a particular product at each of various prices in a specific period. The law of demand states that consumers will buy more of a product at a low price than at a high price. So, other things equal, the relationship between price and quantity demanded is negative or inverse; it graphs as a downward sloping curve.

Market demand curves are found by adding horizontally the demand curves of the many individual consumers in the market.

A change in demand is different from a change in quantity demanded.

A change in demand occurs when there is a change in one or more of the determinants of demand: consumer tastes; the number of buyers in the market; the money incomes of consumers; the prices of related goods; and consumer expectations. A change in demand will shift the market demand curve either right or left. A shift to the right is an increase in demand; a shift to the left is a decrease in demand.

A change in quantity demanded is a movement from one point to another point on a fixed demand curve caused by a change in a product’s price, holding all other factors constant.

LO3.3 Describe supply and explain how it can change.

Supply is a schedule or curve showing the amounts of a product that producers are willing to offer in the market at each possible price during a specific period of time. The law of supply states that, other things equal, producers will offer more of a product at a high price than at a low price. Thus, the relationship between price and quantity supplied is positive or direct; it graphs as an upward sloping curve.

The market supply curve is the horizontal summation of the supply curves of the individual producers of the product.

A change in supply occurs when there is a change in one or more of the determinants of supply (resource prices, production techniques, taxes or subsidies, the prices of other goods, producer expectations, or the number of sellers in the market). A change in supply shifts a product’s supply curve. A shift to the right is an increase in supply; a shift to the left is a decrease in supply.

In contrast, a change in the price of the product being considered causes a change in the quantity supplied, which is shown as a movement from one point to another point along a fixed supply curve.

LO3.4 Explain how supply and demand interact to determine market equilibrium.

The equilibrium price and quantity are established at the intersection of the supply and demand curves. The interaction of market demand and market supply adjusts the price to the point at which the quantities demanded and supplied are equal. This is the equilibrium price. The corresponding quantity is the equilibrium quantity.

The ability of market forces to synchronize selling and buying decisions to eliminate potential surpluses and shortages is known as the rationing function of prices. The equilibrium quantity in competitive markets reflects both productive efficiency (least-cost production) and allocative efficiency (producing the right amount of the product relative to other products).

LO3.5 Explain how changes in supply and demand affect equilibrium prices and quantities.

A change in either demand or supply changes the equilibrium price and quantity. Increases in demand raise both equilibrium price and equilibrium quantity; decreases in demand lower both equilibrium price and equilibrium quantity. Increases in supply lower equilibrium price and raise equilibrium quantity. Decreases in supply raise equilibrium price and lower equilibrium quantity.

Simultaneous changes in demand and supply affect equilibrium price and quantity in various ways, depending on their direction and relative magnitudes (see Table 3.3).

LO3.6 Define government-set prices and explain how they can cause surpluses and shortages.

A price ceiling is a maximum price set by government and is designed to help consumers. Effective price ceilings produce persistent product shortages, and if an equitable distribution of the product is sought, government must ration the product to consumers.

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A price floor is a minimum price set by government and is designed to aid producers. Effective price floors lead to persistent product surpluses; the government must either purchase the product or eliminate the surplus by imposing restrictions on production or increasing private demand.

Legally fixed prices stifle the rationing function of prices and distort the allocation of resources.

LO3.7 Use supply-and-demand analysis to analyze specific real-world situations.

A decrease in the supply of a product increases its equilibrium price and reduces its equilibrium quantity. In contrast, an increase in the demand for a product boosts both its equilibrium price and its equilibrium quantity.

Simultaneous changes in supply and demand affect equilibrium price and quantity in various ways, depending on the relative magnitudes of the changes in supply and demand. Equal increases in supply and demand, for example, leave equilibrium price unchanged.

Products (such as land) whose quantities supplied do not vary with price have vertical supply curves. For these products, any shift in demand will lead to a change in the equilibrium price but no change in the equilibrium quantity.

Sellers set prices of some items such as tickets in advance of the event. These items are sold in a primary market that involves the original sellers and buyers. If preset prices turn out to be below the equilibrium prices, shortages occur, and scalping in legal or illegal secondary markets arises. The prices in the secondary market then rise above the preset prices. In contrast, surpluses occur when the preset prices end up exceeding the equilibrium prices.