Transcript Chapter 3 Circular Flow Model Supply and Demand

Chapter 3 Circular Flow Model
Supply and Demand
What Determines a Person’s Income in the Market?
This means… what is the value of the human being?
Determined by:
a) value of their product…. Rock singer, athlete, Shaq,
Oprah, department store clerk, insurance salesman,
teacher
b) supply and demand…. If lot of people doing same
things you are… not likely to be paid
much.(underwater welders) (dangerous- coal mining)
(oil rigs) ……. As demand for product decreases,
reduces number of available jobs… gas station jobs!
c) if demand for product lacking- rewards minimal
and number of competing workers is few, demand
high, wages high. 20 years ago… heart surgeons
Who Determines the value of a product?
The value of the product is the worth that
society puts on it….
What worth does society put on sports?
What worth does society put on music
industry?
What worth does society put on sport
cars, SUVs, large houses, motorcycles,
eating out, designer clothes,
entertainment. Etc, etc. etc.
Education?
Characteristics of Recession/Inflation
Recession:
Businesses not selling what it produces
Inventories accumulate
Businesses then cut down on employment (hence
unemployment/layoffs)
Inflation:
Government and investors spending more
Inventories begin to be depleted
Prices increase
Production increases
More workers are hired
What is a Market?
Any Place Where Goods and Services are Voluntarily
Exchanged (brings together buyers and sellers)
Price is a primary influence in determining
allocation of resources in our free enterprise
economy.
Difference between Price, Value, Utility
Price= value of product in terms of money
Value= has to do with relative scarcity = exchange
value
Utility = satisfaction that good or service can
provide
Law of Supply
As the price of the product increases,
the quantity that the supplier tends to
supply also increases.
****Ceteris Paribus
Law of Supply= positive relationship between
the quantity of a good supplied and price.
PRICE IS THE INDEPENDENT VARIABLE
Determinants of Supply
1. Technique of production (technology)
(ovens, organic farming)
2. Resource Prices (Factor Costs)– cost of inputs
3. Taxes and Subsidies
4. Prices of Other Goods – (decline in wheat will
cause farmer to shift to corn)
5. Expectations- (farmers expect price to rise..
Hold back production)
6. Number of sellers in market – more sellers,
greater supply….
Important Concepts
Change in Supply (shifting of curve)
Or
Change in Quantity Supplied (movement along
curve)
Ability to Respond to Price varies
Often the ability of an individual firm to
respond to an increase in price is limited or
constrained by its existing scale of
operations, or capacity, or ability to obtain
resources….. IN SHORT RUN
Examples:
IN LONG RUN… can adjust. The greater the
amount of time producers have to adjust,
the greater their output response.
Law of Demand
AS THE PRICE OF A GOOD DECREASES THE
QUANTITY DEMANDED TENDS TO
INCREASE….
***Ceteris Paribus
Price once again is the independent variable!
Wishing for a new boat does not constitute
demand… one must be WILLING AND ABLE to
purchase a boat.
Generally speaking…. The higher the price obstacle,
the less of a product a consumers will buy.
Bargain days are based on law of demand.
Two prices- Absolute and Relative.
Absolute = price in $ terms
Relative = price in terms of another good.
Price of a car relative to an airplane.
The greater the want satisfaction…. The
greater the utility…
Marginal Utility… How much more utility do
you get adding or subtracting units (more
doughnuts… more cars… more steak in one
day)
DIMINISHING MARGINAL UTILITY.
As the number of units of a product a
consumer has increases, the satisfying
power for each extra unit decreases.
Utility
Purpose of Utility analysis is to study how
people behave not how they think.
Theory of consumer choice is based on the
idea that each consumer spends his/her
income in a way that yields the greatest
satisfaction.
Determinants of Demand
Preferences
Prices of Related Goods
Number of Buyers
Expectations of future price
Income
Determinants of Demand
1. Tastes and preferences
Taste changes throughout our lifetime.
Prices of Related Goods
Your preference is Coke… price skyrockets….
Affected in the market by substitute goods and
complimentary goods.
*Substitute goods… anything that can be substituted for
the product or service desired…
(Coke/Pepsi,
Millers/Coors,
potato chips/popcorn).
If price of Coke rises… and consumer doesn’t feel strongly
about brand preference… will buy Pepsi until Coke price
declines)
When two products are substitutes, the price of one good
and the demand for the other are DIRECTLY RELATED.
*Complementary Goods… Goods that “go
along with other goods consumer’s buy”
peanut butter/jelly, beer/pretzels,
milk/cookies, golf balls/golf tees,
When two goods are complements, an
increase in the price of one good adversely
affects the demand for the other and
creates an inverse relationship.
Independent Goods… No connection between
price and demand (golf clubs/bread)
Determinants Continued
2. Number of buyers
The number of buyers will increase demand
for the product which (if supply is fixed) will
drive up the price.)
3. Income- RATHER OBVIOUS HERE.
Show shifts…
Superior or Normal goods= commodities
whose demand varies DIRECTLY with
money income.
INFERIOR OR “POOR MAN’S” GOODS.
Goods whose demand varies inversely with a
change in money income.
4. Expectations…
If you are in medical school or law school, the
expectation of you getting a larger income when
you get out of school will affect your demand for
goods… Inheriting money, winning the lottery!
IMPORTANT CONCEPTS OF DEMAND
Change in Demand
OR
Change in Quantity Demanded
Terms to Remember
Profit:
TR-TC
Total Revenue
PxQ
Marginal Utility
To maximize utility, consumers should choose
that good which delivers the most marginal utility
per dollar. Optimal utility is then achieved.
Optimal consumption= mix of output that
maximizes total utility for the limited amount of
income you have to spend.
Equilibrium
Equilibrium = market clearing price… supply
and demand are “in balance.”
Does not occur often if ever with the
constantly changing “invisible hand” and
the consumer fickleness.
 In our U.S. economy we have consumer
sovereignty… which tends to shift both
curves or move along the curve almost
continuously.
Ceilings and Floors
Price Ceilinga legally established maximum price that
sellers may charge (rent control)
 Direct effect of a price ceiling is a shortage
Secondary effect- reduction in the quality
of the good, inefficient use, lower future
supply, black markets,
Price Floors
Price floor is a legally established minimum
price that buyers must pay. (minimum
wage)
Direct effect= reduces employment of lowskilled labor
Indirect effects – reduction in nonwage
component of compensation (perks),
lesson-the-job training.
Recap Ceilings and Floors
P
P
S
S
D
D
Q
Q
Black Markets
 Markets that operate outside the legal
system
 Have a higher incidence of defective
products, higher profit rates, greater
violence (cigarettes, drugs {both
prescription and illegal}, Levis during cold
war)
Equilibrium Tutorial
Equilibrium
Supply and Demand for Cowboy Tickets
http://www.tickco.com/football/cowboys_ticket
s.htm
http://www.tickco.com/schedule/new-englandpatriots/
Activities for Check-point
1. Price of gasoline goes up, what happens to S & D
if you keep your demand at the same level.
2. You lose your job, what happens to demand?
3. Government subsidizes your pizza business.
What happens to your supply?
4. Government sets a ceiling on price of hammers.
Draw that graph. What can you tell me about
the outcome?
More practice
Suppose that short skirts that were fashionable in the 1990s became
unfashionable in the late 2000s. If other factors were held constant, then
there would be:
a. a rightward movement along the supply curve
b. a rightward shift of the demand curve
c. a leftward shift in the demand curve
d. a leftward movement along the supply curve
Assuming that turkey, chicken, pork and beef are substitutes, suppose that
the price of turkey has fallen. This will, other things being equal:
a. reduce demand for chicken, pork and beef
b. Leave demand for chicken, pork and beef unchanged
c. Increase demand for chicken, pork, and beef
d. Increase quantity demanded of beef
Kiley is my best friend… She
Supplies a lot of love! 