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Understanding Supply and Demand: Economic Principles in Action

Explore the fundamentals of supply and demand in the marketplace. Learn how buyers and sellers interact based on price, tastes, related products, income, and demographics. Understand how the market equilibrium is reached through shifts in supply and demand curves.

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Understanding Supply and Demand: Economic Principles in Action

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  1. EWMBA201a: Introduction to Supply and Demand

  2. Buyers Consumers: finished goods and services. Firms: raw materials, labor, intermediate goods. Sellers Firms: finished goods. Workers: skilled and unskilled labor. Resource owners: land, raw materials. Economic units come in two classes. MARKET: A collection of economic units resulting in the possibility of exchange. - Can be a physical location: NYSE floor, Fulton Street Fish market. - Can be a related set of transaction that are not in the same geographical location: Berkeley housing market, labor market for IT professionals. EWMBA201a - Fall 2006

  3. Demand, the buyer side of the market • Demand: the quantities of a good or service that people are willing to buy at various prices within some given time period, other factors besides price held constant. • Willing to buy: a consumer would both like to (i.e., has the taste for it) and is able to (i.e., have sufficient income to pay for it) buy the good. • Time period: especially for non-durables, the amount I’m willing to buy depends on the time period. • Other factors: the focus of demand is on the relationship between price and quantity. • A demand curve describes the relationship between the price and the quantity customers are ready to purchase at that price. EWMBA201a - Fall 2006

  4. A demand curve example • How do buyers respond to a change in price? • Lower price buyers willing to purchase more. • Higher price  buyers willing to purchase less. The daily demand for pizza in Berkeley: EWMBA201a - Fall 2006

  5. The demand for pizza in Berkeley graphically $6 $4.5 Price $3 $1.5 0 1000 5000 6000 7000 Quantity EWMBA201a - Fall 2006

  6. Demand versus quantity demanded Demand “Demand” describes the entire curve. Price 0 Quantity Quantity demanded “Quantity demanded” describes a particular point, corresponding to a particular price. Price $1.5 0 6000 Quantity EWMBA201a - Fall 2006

  7. P Demand Curve B Demand Curve A Q What, other than price, drives demand? • - TASTES (e.g. advertising) • - PRICES OF RELATED • PRODUCTS (substitutes and • complements) • INCOME • DEMOGRAPHICS EWMBA201a - Fall 2006

  8. A supply curve summarizes the supply side of the market. • Supply: the quantities of a good or service that firms are willing to sell at various prices within some given time period, other factors besides price held constant. • This definition is identical to the definition of demand, except that we’ve substituted the word “sell” for the word “buy.” • A supply curve describes the relationship between the price and the quantity firms are willing to supply at that price. EWMBA201a - Fall 2006

  9. A supply curve example • How do firms respond to a change in price? • Lower price firms willing to supply less. • Higher price  firms willing to supply more. The daily supply of pizza in Berkeley: EWMBA201a - Fall 2006

  10. The supply of pizza in Berkeley graphically $6 $4.5 Price $3 $1.5 0 1000 5000 6000 7000 Quantity EWMBA201a - Fall 2006

  11. Demand and supply on the same graph S $6 $4.5 Price $3 $1.5 D 0 1000 5000 6000 7000 Quantity EWMBA201a - Fall 2006

  12. What happens if the price is $4.50? S $6 $4.5 Price $3 $1.5 D 0 1000 5000 6000 7000 Quantity EWMBA201a - Fall 2006

  13. What happens if the price is $4.50? S $6 $4.5 Price $3 $1.5 D 0 1000 5000 6000 7000 Quantity QS QD EWMBA201a - Fall 2006

  14. What happens if the price is $4.50? S $6 Surplus $4.5 Price $3 $1.5 D 0 1000 5000 6000 7000 Quantity QS QD EWMBA201a - Fall 2006

  15. What happens if the price is $4.50? S $6 Surplus $4.5 Price $3 $1.5 D 0 1000 5000 6000 7000 Quantity QS QD EWMBA201a - Fall 2006

  16. What happens if the price is $1.50? S $6 $4.5 Price $3 $1.5 D 0 1000 5000 6000 7000 Quantity EWMBA201a - Fall 2006

  17. What happens if the price is $1.50? S $6 $4.5 Price $3 $1.5 Shortage D 0 1000 5000 6000 7000 QS Quantity QD EWMBA201a - Fall 2006

  18. What happens if the price is $1.50? S $6 $4.5 Price $3 $1.5 Shortage D 0 1000 5000 6000 7000 QS Quantity QD EWMBA201a - Fall 2006

  19. What happens if the price is $3.00? S $6 $4.5 Price $3 $1.5 D 0 1000 5000 6000 7000 Quantity EWMBA201a - Fall 2006

  20. The market mechanism • If the market price is above the equilibrium price (P>P*), there will be a surplus until: • producers tend to lower their prices, and • quantity demanded tends to expand. • If the market price is below the equilibrium price (P<P*), there will be a shortage until: • producers tend to raise their prices, and • quantity demanded tends to contract. • At the market clearing price (P = P*),, there is no tendency for the price to change and the market is in equilibrium. • Consumers can buy all they want, given the price. • Firms can sell all they want, given the price. EWMBA201a - Fall 2006

  21. Supply versus quantity supplied Supply “Supply” describes the entire curve. Price 0 Quantity “Quantity supplied” describes a particular point, corresponding to a particular price. Quantity supplied Price $1.5 0 6000 Quantity EWMBA201a - Fall 2006

  22. What, other than price, drives supply? P • PRICE OF INPUTS (both • substitutes and complements) • - TECHNOLOGY Supply Curve B Supply Curve A Q EWMBA201a - Fall 2006

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