Chapter 4 – Applications of Demand and Supply.

Chapter 4 – Applications of Demand and Supply. Read pages 84 – 99. I Illustration 1 – The Personal Computer Market. • Observations • More producers. 2) Prices have fallen over time. B) Graphical depiction.

II Illustration 2 – The Market for stock on Intel. • Terminology on ownership categories • A firm owned by one individual is a sole proprietorship. 2) A firm owned by several individuals is a partnership. 3) A firm owned by many individuals who own stock in the firm is called a corporation.

4) The stock market is the set of institutions in which shares of a stock are bought and sold. B) The market for Intel stock. • Suppose that Intel announces a new generation of computer chips that will lead to faster computers with larger memories. What will happen to its stock price?

C) Other possibilities • A competitor of Intel offers a more advanced processor which is likely to steal market share from Intel. • The economy appears headed into a recession and consequently there are forecasts for declining revenues at Intel.

III Government Intervention In Market Prices: Price Floors • Terminology • A minimum allowable price is a price floor. B) Examples • Agricultural price supports. 2) Minimum wage laws. C) Impact on the market. • Price is above equilibrium. 2) There is a surplus of goods.

D) Graphical depiction of the price support for the wheat industry.

E) Two ways to implement it. • Government buys the surplus. (Pre 1973) This tends to push up consumer prices. It also leaves the government with unwanted surplus product. 2) Government pays the difference between the target price and the market price (Post 1973). This keeps consumer prices low and reduces the surplus. However, it still forces the government to pay substantial amounts to support the program.

IV Government Intervention In Market Prices : Price Ceilings • Terminology • A price ceiling is a maximum allowable price. B) Examples • Rent control. 2) Utility prices. C) Impact on the Market • Prices are below equilibrium. 2) There is a shortage of goods.

D) Graphical depiction of the price ceiling in the rental apartment market.

V The Market for Health-Care Services. • Basics of this market • Has experienced a steady rise in its percentage of GDP from about 5% in 1960 to 13.5% in 1997. • One feature of the market is the presence of insurance companies and government programs which pay part of the price of the service. These institutions are called third party payers.

B) What the market for health care would look like if there were no third party payers. • The equilibrium price would occur where the demand curve (reflecting peoples willingness and ability to purchase the good) cross the supply curve (reflecting providers willingness to sell the good). 2) Total expenditures on health care will be price times quantity which in the diagram is $30.00 x 1,000,000 = $30,000,000.

C) What the market for health care looks like when there are third party payers. • Because third party payers effectively reduce the price to the consumer, consumers will purchase more of the good. 2) This means that providers (suppliers) of health care get a higher price for each unit of health care (since the quantity is further up the supply curve).

3) It also means that the total expenditures in the economy on health care go up. In the diagram the total is now $50.00 x 1,500,000 = $75,000,000 which is more than double. Also note that consumers now only pay $10.00 x 1,500,000 = $15,000,000 while the third part payers pay ($50.00-$10.00) x 1,500,000 = $60,000,000.

VI Some concluding thoughts • Government intervention into markets typically result in equilibrium prices and allocations that are different than when there is no intervention. 2) Statements about the price and quantity outcomes of a government intervention are positive economic statements. 3) Statements about whether one supports a government intervention are normative economic statements. Although most programs appear undesirable because they lead to improper allocations of resources, they can be defended on normative grounds.

IV Sample problems • In the market for health care: • Equilibrium occurs at the intersection of supply and demand, just as it does with most goods. b) The effect of third-party payers decreases the price that consumers pay. c) Providers are encouraged to supply a greater quantity than they would without third party payers. d) B and D are true.

2) A cost that farm subsidies and price floors imposes on the rest of the economy is: • Excessively mobile farm resources. • Higher consumer commodity prices. • Less government-funded agricultural research. d) Efficient farmers that leave the farming industry.

Read the “Case in Point” on page 91.

3) The unusually heavy rainfall in southern California in 1997 caused: • An increase in the quantity demanded for roof repairs. b) An increase in the quantity supplied of roof repairs. c) An increase in both the demand for and supply of roof repairs. d) An increase in the supply of roof repairs that was greater than the increase in demand for roof repairs.

Read the “Case in Point” on page 77.

ABC corporation reluctantly announces that its latest product development has failed and that revenue projections are being revised downward. When this first reaches the public, what would likely happen in the market for ABD stock? • The demand and supply would fall, causing the price to decline. b) The demand would fall and the supply would rise, causing price to fall with an indeterminate number of shares traded. c) The demand would fall and supply would rise, causing price to fall with fewer shares traded. d) The demand would fall and supply would rise, causing price to fall with more shares traded.

b) Is the correct answer.

Chapter 4 – Applications of Demand and Supply.