Download changes in demand

Microeconomics
Chapters 4-7
Supply and Demand
Objectives
• Describe and illustrate the concept of
demand.
• Explain how demand and utility are
related.
• Explain what causes a change in quantity
demanded.
• Describe the factors that could cause a
change in demand.
Microeconomics
• The area of economics that deals with behavior
and decision making by small units.
• Individuals and firms
• Help explain how prices are determined and
how individual economic decisions are made.
• Must understand supply and demand to
understand how a market economy works.
• Firms and people act in their own best interests
• Successful Business understand supply and
demand;
• What steps to open a bicycle shop?
Demand
• The desire, ability, and willingness to buy a
product.
• Demand schedule: shows the quantities
demanded at all prices.
• Demand curve: graph showing the quantity
demanded at each price.
• Law of Demand: the quantity demanded
decreases as the price increases.
– inverse relationship.
• Market demand curve: shows the quantities
demanded by everyone who is interested in
purchasing the product.
Marginal Utility
• Marginal Utility: The satisfaction a person gets
from acquiring one more unit of a product.
• Diminishing marginal utility: the satisfaction we
get from using additional quantities of the
product begins to diminish.
– You get the most satisfaction out of the first unit
purchased.
– Not willing to pay as much for the next unit as we did
for the first.
– Pizza, cola
– When you reach the point where the marginal utility is
less than the price, you stop buying.
Changes in Quantity demanded
• a movement along the demand curve that shows
a change in the quantity of the product
purchased at each price level.
• Income effect: the change in quantity demanded
because of a change in price that alters
consumers’ real income.
– Decrease in price = increase in net income
– Increase in price = decrease in net income
• Substitution effect: the change in quantity
demanded because of the change in the relative
price of the product.
– Replace a costly item with a less costly item
Changes in Demand
• Shift in the entire demand curve; right shows an
increase in demand; left is a decrease in demand.
• Consumer income: as income rises, consumers
are able to buy more products at each price.
– Increase in income = shift to the right (increase)
– Decrease in income = shift to the left (decrease)
• Consumer tastes: advertising, news reports,
fashion trends, new products, and seasons
– Increase in taste = shift to the right (increase in demand)
– Decrease in taste = shift to the left (decrease in demand)
Change in Demand
• Substitutes: can be used in the place of
other products; butter/margarine.
– Price increase in butter = increase demand for
margarine.
– Price decrease in butter = decrease demand
for margarine.
• Complements: related goods used
together; hot dogs/buns and
computers/software.
– Increase in price for computers = decrease
demand for software.
– Decrease in price for computers = increase
demand for software.
Change in Demand
• Change in Expectations: future expectations;
new technology; CDs or weather forecasts
impact crops
– New technology = decrease in demand for current
product.
– Expect bad weather = stock up on some foods before
they become scarce.
• Number of Consumers: number of buyers
change demand curve.
– Increase number of consumers = increase in demand
– Decrease number of consumers = decrease in
demand
Review
• Area of economics that deals with behavior and
decision making of small units. Microeconomics
• Graph showing the quantity demanded at each
and every price at a given time. Demand curve
• The desire, ability, and willingness to buy a
product. Demand
• The extra usefulness or satisfaction a person
gets from acquiring or using one more unit of a
product. Marginal utility
• The decrease in satisfaction or usefulness
received from each additional unit of a product.
Diminishing marginal utility
Review
• More will be purchased at low prices than at high ones.
The Law of Demand
• How the demand curve always slopes.
Downward sloping
• Illustrated by movement along the demand curve.
Change in quantity demanded
• Change in quantity demanded due to a change in prices
that alters a consumer’s real income.
Income effect
• A change in the quantity demanded due to a change in
the relative price of a product.
Substitution effect
• Products that can be used in place of other products.
Substitutes
• Products that tend to be used together. Complements
Review
• What impact would increasing consumer income have on
quantity demanded?
Increase in quantity demanded
• What does a shift to the right in the demand curve signify?
Increase in demand
• What does a shift to the left in the demand curve signify?
Decrease in demand
• Decrease in consumer income.
Decrease in demand; shift to the left.
• Changing consumer tastes.
Increase or decrease in demand
• Increase in the price of related products.
decrease in demand; shift to the left
• Change in the number of consumers.
Market demand curve to shift
Examples
• Increase price of Pepsi.
– Demand for Coke?
Demand for Coke increases
• South Carolina wins college world series.
– Demand for USC tickets?
Demand for tickets increase
• Price of hotdogs decrease
Demand for rolls increase
– demand for rolls?
• New I-phone coming out Demand will decrease for old phones
– Demand for current phone?
• Wrangler jeans go on sale.
Decrease demand for Levis
– Demand for Levis?
• Increase in price of Papa Johns.
– Demand for Pizza Hut?
Demand for Pizza Hut increases
• 3D big screen TV’s are coming out.
– Demand for plasma televisions?
Demand for plasma decreases
• Hurricane predicted to hit Myrtle Beach?
– Demand for gas generators? Demand for generators increases
Elasticity of Demand
• What effect does change in price have on
demand for a product? How do businesses set
prices?
• Elasticity: measure of responsiveness a product
is to price; is demand of product effected by an
increase/decrease of price (rubber band).
• Elastic - change in price causes change in
quantity demanded; luxury goods, fruits or
vegetables (buy in summer vs. less in winter).
• Inelastic - change in price causes little or no
change in quantity demanded; milk, gas, eggs,
salt (still going to demand even if price changes)
• Unit elastic: percentage change in quantity
equals the percent change in price.
– 5% drop in price = 5% increase in quantity
demanded.
• Total Expenditures Test: multiply the price of the
product by the quantity demanded.
– Used to test for elasticity
– Elastic = price goes down, total expenditures goes up
– Inelastic = total expenditures decrease when price
decrease.
– Unit elastic = no change in expenditures
• If you raise prices for elastic goods, your
revenue will decrease
• Decrease prices to increase revenues (elastic
only)
Determinants of Demand Elasticity
• Can the purchase be delayed?
– Inelastic if product is needed or urgent (insulin,
tobacco, gasoline) - you have to have it!
• Are adequate substitutes available?
– Elastic if consumers can switch back and forth
between products; take advantage of best price
(beef or chicken)
• Does the purchase use a large portion of
income?
– If yes, then usually product is elastic
– If no, then usually product is inelastic
• Graph the demand
schedule for crude
oil.
• Is the demand for
crude oil elastic or
inelastic? Why?
• At what price ranges
is demand more
elastic? Why?
Price per barrel
Quantity
Demanded
$5
72
$10
67
$15
62
$20
58
$25
56
$30
54
$35
52
$40
49
$45
48
$50
48
$55
47
$60
47
• Mindy is trying to estimate the elasticity of
demand for a product she wants to sell at a craft
fair. She has been told that she can expect to
sell 10 items if she charges $10, six items if she
charges $20, and 18 items at $5.
– Make a demand schedule to show the quantities
demanded at each price.
– Create a demand curve and graph the results.
– At which price would the total expenditures be the
greatest for the product?
– At which price would the expenditures be the
smallest.
– Based on this information, what price should Mindy
charge?
1. According to this demand curve, how many movie videos will be
demanded at a price of $10?
2. According to this demand curve, if the price of movie videos
increases from $14 to $16, what is the the quantity demanded?
1. What is being shown in the graph?
2. Which of the following would cause this to occur?
an increase in the price of a complement?
decrease in the price of a substitute ?
increase in population?
decrease in income?
Demand Activity
• Create an example (graph and explain) for
each of the following changes in demand:
– Increase in price of a complement
– Decrease in price of a complement
– Increase in price of a substitute
– Decrease in price of a substitute
– Increase in income
– Decrease in income
– Increase in consumers
– Decrease in consumers
– Change in expectations
SUPPLY
• Objectives:
– Understand the difference between the supply
schedule and the supply curve.
– Explain how market supply curves are derived
– Specify the reasons for a change in supply.
Supply
• The amount of a product that would be
offered for sale at all possible prices.
• Law of Supply – supply increases as
prices increase; decrease at lower
prices.
• supply curve – direct relationship between
price and quantity supplied.
• Supply and demand determine the final
price of the product; what consumers are
willing to pay and how much producers are
willing to produce.
Supply
• The market supply curve shows the quantities
offered at various prices by all firms that offer the
product for sale in a given market.
• The quantity supplied is the amount that producers
bring to the market at any given price.
• A change in quantity supplied is the change in
amount offered for sale in response to a change in
price.
– A change along the supply curve
– If the price of oil falls, the producer may offer less for
sale, or even leave the market altogether if the price
goes too low.
– If the price rises, the oil producers may offer more units
for sale to take advantage of the better prices.
Change in Supply
• Cost of Inputs: labor, packaging; if cost drops
producers are able to produce more and supply
increases.
• Productivity: workers are more productive, more
is produced and supply increases.
• Technology: new technology increases supply;
new machines, chemical, or process.
• Taxes and Subsides: taxes increase the costs
of production;
– subsidy – government payment to encourage or
protect an economic activity.
Change in Supply
• Expectations: if producers think prices will
increase will withhold some supply.
• Government Regulation: new laws, safety
features increase the cost of production;
restrict supply (shift to the left).
• Number of Sellers: more firms enter market
= increase in supply; entering and exiting all
of the time in capitalism.
Elasticity of Supply
• The way in which quantity supplied
responds to a change in price.
– If a small increase in price leads to a large
change in supply = elastic.
– If the quantity supplied changes very little,
supply is inelastic.
• If a firm can adjust to the new prices quickly
= elastic; adjustments take longer =
inelastic.
Objectives
1. Explain the theory of production
2. Describe the three stages of production
3. Define four key measures of cost
4. Identify two key measures of revenue
5. Analyze business decisions
Theory of Production
• Theory of Production deals with the relationship
between the factors of production and the output of
goods and services.
– Short run – producers can only change labor; all others
held constant
– Long run – producers can change all of their resources;
capital and equipment.
• Law of Variable Proportions – in the short run,
output will change as one input is varied while the
others are held constant (illustrated by using a
production function).
– How many workers should be added?
Marginal Product
• The EXTRA output of change in total
product caused by the addition of one
more unit of variable input (labor).
Stages of Production
• Stage I: increasing returns
– Adding worker = increased production; more
products being produced
– Job specialization
• Stage II: diminishing returns
– Adding worker = more output, but slower rate
– Cannot grow any further
• Stage III: negative returns
– Adding worker = decrease in output
The Law of Variable Proportions
number of workers
Total product
Marginal product
0
0
0
1
7
7
2
20
13
3
38
18
4
62
24
5
90
28
6
110
20
7
129
19
8
138
9
9
144
6
10
148
4
11
145
-3
12
135
-10
Costs
• Fixed cost: the cost that business incurs even if
output is zero
– Overhead: total fixed costs
– Salaries for executives, rent, interest payments,
property taxes.
• Variable costs: change when business rate of
operation or output changes.
– Labor and raw materials
• Total Costs = variable + fixed costs
• Marginal Cost: the extra cost incurred when a
business produces one additional unit.
– The per-unit increase in variable costs (overtime pay)
Revenue
• Many stores are using the internet
because overhead costs are low.
– No rent, less inventory
• Total revenue: units sold X price of each
unit.
– 7 units sold at $15 each = $105 total revenue
• Marginal revenue: the extra revenue by
selling one additional unit of output.
– Divide change in total revenue by the
marginal product
Review
• The amount of a product that would be offered
for sale at all possible prices that could prevail in
the market. Supply
• Amount that producers bring to the market at
any given price. Quantity supplied
• A graph showing the various quantities supplied
at each and every price that might prevail in the
market. Supply curve
• Measure of the way in which quantity supplied
responds to a change in price. Supply elasticity
• A government payment to an individual,
business, or other group to encourage or protect
a certain type of economic activity. Subsidy
Review
• States that in the short run, output will change as
one input is varied while the others are held
constant. Law of Variable Proportions
• Concept that describes the relationship between
changes in output to different amounts of a
single input while other inputs are held constant.
Production function
• Unprocessed natural products used in
production. Raw materials
• The extra output or change in total product
caused by the addition of one more unit of
variable input. Marginal product
• Total output produced by a firm. Total product
Review
• The quantity supplied varies directly with
its price. The Law of Supply
• What will cause an increase in Supply?
Decrease in cost of inputs, decrease in taxes, increase in productivity
• Which type of products are the most
inelastic? Non-Luxury items, hard to get out of business
• How does the supply curve slope? Upward sloping
• How will increased government regulation
affect the supply curve? Decrease; shift to the left
• 3 stages of production include what?
Increasing, diminishing, negative returns
The Law of Variable Proportions
number of workers
Total product
Marginal product
0
0
0
1
7
7
2
20
13
3
38
18
4
62
24
5
90
28
6
110
20
7
129
19
8
138
9
9
144
6
10
148
4
11
145
-3
12
135
-10
Total fixed
costs
Total variable
costs
Total costs
Marginal
costs
$50
$0
$50
--
50
90
140
$13
50
180
230
6.92
50
270
320
5.00
50
360
410
3.75
50
450
500
3.21
50
540
590
4.50
50
630
680
4.74
50
720
770
10
50
810
860
15.00
50
900
950
22.50
50
990
1,040
--
50
1,080
1130
--
Addition of 1st worker increased total product by 7 units; variable costs increased
by $90, each of the additional 7 units cost $12.86 ($90/7). Next worker adds 13
more units; variable costs increase by $90 ($90/13=6.92).
Total Revenue
Marginal
Revenue
Total Profit
$0
--
-$50
105
$15
-35
300
15
70
570
15
250
930
15
520
1,350
15
850
1,650
15
1,060
1,935
15
1,210
2,070
15
1,300
2,160
15
1,300
2,220
15
1,270
2,175
15
1,135
2,025
15
895
Total Revenue is # of units X price; Marginal Revenue divide the change in total
revenue by the total product; first worker, total output increases 7 units and $105
of total revenue ($105/7=15).
Marginal Analysis
• Cost-benefit decision – compares the
extra benefits to the extra costs.
• Break-even point: the total output or total
product the business needs to sell in order
to cover its total costs.
• The profit-maximizing quantity of output is
reached when Marginal Costs and
Marginal Revenue are equal.
– MC = MR
• As long as the marginal cost is less than the
marginal revenue, the business will keep hiring
workers.
• Would hire the 6th worker; extra output would
only cost $4.50 to produce, and would generate
$15 in revenues.
• Would probably hire the 7th and 8th workers.
• If it hired the 9th worker, the cost of the additional
output would equal the additional revenue
earned when the product was sold.
• Would not hire 10th worker because that would
decrease profits.
• When marginal cost is less than marginal
revenue, more variable inputs should be hired to
expand output.
Review
• A production cost that does not change as
total business output changes. Fixed cost
• Decision making that compares the
additional costs with the additional benefits
of an action. Marginal analysis
• Associated with Stage II of production.
Diminishing returns
• A production cost that changes when
output changes. Variable cost
• A graphical representation of the theory of
production. Production function
• The additional output produced when one
additional unit of input is added. Marginal product
Review
• Change in total revenue form the sale of one
additional unit of output. Marginal revenue
• The gradual wearing out of capital goods.depreciation
• The sum of variable and fixed costs. Total costs
• When marginal revenue equals marginal cost
Profit maximizing
• Total output produced by a firm.
Total product
• Total fixed costs overhead
True or False
1. A desire to buy a product is the only requirement
needed for demand to exist. False
2. Marginal utility describes the decreasing
satisfaction a consumer receives with the purchase
of each additional unit. False
3. A demand curve illustrates the quantity demanded
at all possible prices at a given time. True
4. A demand schedule is created from a demand
curve. False
5. The Law of Demand states that more of a product
will be purchased at low prices than at high ones.
True
True or False
6. Productivity will decrease if workers are
unmotivated. True
7. If producers expect lower prices in the future, they
may withhold some of the supply. False
8. The theory of production deals with the relationship
between the factors of production and the output of
goods and services. True
9. The Law of Variable Proportions states that in the
short run, output will not change as one production
input is varied while the others remain constant. False
10. An increase in output as each new input is added,
as in the addition of a worker, describes Stage I of
the stages of production. True
True or False
11. Fixed cost is the cost that a business incurs even
if there are no employees and no production takes
place. True
12.The Law of Supply states that suppliers will
normally offer less for sale at higher prices and
more for sale at lower prices. False
13.The market supply curve shows the quantities
offered at various prices by all firms that offer the
product for sale in a given market. True
14. An increase in the cost of inputs can cause the
supply curve to shift to the left. True
15. The supply curve is likely to be elastic for
products that can be made quickly without huge
amounts of capital and skilled labor. True
True or False
16. The introduction of technology usually has no
effect on supply. False
17. Marginal cost is the change in total revenue
when one more unit of output is sold. False
18. The four important measures of cost are: total True
cost, fixed cost, variable cost, and marginal cost.
19. The profit-maximizing quantity of output occurs
when marginal cost is exactly equal to total
revenue. False
20. Marginal analysis compares the additional
benefits of an action to its additional costs. True
Prices
• Objectives:
– Explain how prices act as signals
– Describe the advantages of using prices as a way to
allocate economic products.
– Understand the difficulty of allocating scarce goods
and services without using prices.
• Price – the monetary value of a product as
established by supply and demand.
– helps make economic decisions; communicates
information and provides incentives to buyers and
sellers.
• Low prices are signals for producers to produce
less and for buyers to buy more.
Advantages of Prices
• Prices are neutral; don’t favor business or
consumers; competition between buyers and
sellers; Determined by Supply and Demand.
– Without prices the economy would not run as
smoothly; favored by economists
• Flexible – adjust according to supply and
demand; can accommodate to change.
• No cost of administration – competitive
markets find their own prices without
interference.
Allocations without prices
• Without prices how are scarce resources
allocated?
• Rationing: government decides
• Problems:
– Fairness
– High costs
– Diminishing incentives
Market Equilibrium
• Buyers and sellers have to compromise; neither
can get exactly what they want.
• The quantity of goods supplied is equal to the
quantity demanded.
• If we produce 11 units at $25, but only 1 unit is
demanded = surplus of 10 units.
• If we produce 3 units at $10 and 10 units are
demanded = shortage of -7.
• Over time, a compromise or equilibrium is
reached; no shortage or surplus
Changes in Supply/Demand
• Increase in supply (shift to the right) = decrease in
equilibrium price.
• Decrease in supply (left) = increase in equilibrium
price.
• Increase in demand (right) = increase in equilibrium
price.
• Decrease in demand (left) = decrease in equilibrium
price.
• Increase in supply and demand = no change in price.
• Increase in supply and decrease in demand = lower
price
• Decrease in supply and increase in demand =
increase price
Supply/Demand
• Markets are not perfectly competitive; as
sellers compete to meet consumer
demands, they are forced to lower the
prices of their goods.
• Competition among buyers helps prevent
prices from falling too far.
• Is there a situation in which you would pay
a higher price?
Price Floors/Ceilings
• Setting prices at “socially desirable levels”;
prices are not determined through supply and
demand.
• Price ceilings – maximum legal price that can be
charged for a product; favor consumers.
– Creates shortages because producers will not
produce at lower prices.
– Rent controls – less apartments available
• Price floors – the lowest legal price that can be
paid for a good or service.
– Creates surplus because producers produce at the
higher prices.
– Minimum wages – a surplus of 4 million workers.
Review
• The monetary value of a product as
established by supply and demand. Price
• Allows the market economy to Price flexibility
accommodate change.
• System under which an agency allocated
products. Rationing
• A partial refund of the original price of the
product. Rebate
• A set of assumptions that can be used to
help analyze behavior and predict
outcomes. Economic model
• A ticket or receipt that entitles the holder to
obtain a certain amount of a product.
Ration coupon
• What are the advantages of using prices to
allocate limited resources?
Neutral, flexible, consumers to make decisions
• What are the characteristics of rationing?
Unfair, decreases incentives, high costs
• What do high prices signal?
Producers to produce more; buyers to buy less = surplus
• What do low prices signal?
Producers to produce less; buyers to buy more = shortage
• Why do economist think of prices as a “system?”
They help buyers and sellers allocate resources between markets.
• A situation in which prices are relatively stable
and the quantity supplied is equal to the quantity
demanded.
Market equilibrium
• A situation in which the quantity supplied is
greater than the quantity demanded at a given
price. surplus
• The price at which neither a surplus or shortage
of a product exists. Equilibrium price
• A situation in which the quantity supplied is less
than the quantity demanded at a given price. shortage
• What happens to price if there is a shortage?
Price increases
• What happens to price if there is a surplus?
Price decreases
• A maximum legal price that can be charged for a
product. Price ceiling
• The lowest legal price that can be paid to most
workers. Price floor
• Floor price for farm products. Target price
• Carries neither a penalty nor further obligations
to repay if not paid back. Nonrecourse loan
• A check sent to producers that makes up the
difference between the actual market price and
the target price. Deficiency payment
• Rent control is an example of what? Price ceiling
• What do price ceilings create? shortage
Review
• Explain when a surplus occurs.
The quantity supplied is greater than the quantity demanded
• Give an example of price floor.
Federal minimum wage
• Explain how prices effectively perform the
allocation function.
Competitive markets find own prices, easy to understand, don’t favor
consumer or producer
• Describe how prices enable a market
economy to adjust to unexpected events.
Adjust consumption and production
Review
• Explain the characteristics of allocation of
resources without using prices.
Unfair, lack of incentive, high costs
• What will occur if there is a sudden increase in
demand?
Temporary shortage will occur and price will increase
• What is a high price a signal for?
Producers to supply more and consumers to buy less
• A monetary value of a product.
Price
• maximum legal price that can be charged for a
product
price ceiling
Review
How do the
quantity
supplied and
quantity
demanded
change at the
new equilibrium
price?
Both quantity supplied and quantity demanded increase.
Review
• prices are relatively stable, and quantity
supplied is equal to quantity demanded
Market equilibrium
• quantity demanded is greater than quantity
supplied
Shortage
• quantity supplied is greater than quantity
demanded at a given price
Surplus
• price that produces neither a surplus nor a
shortage Equilibrium price
Review
• What is the theory of competitive pricing?
is a set of ideal conditions and outcomes
• What are deficiency payments?
makes up the difference between the actual market price and the target price.
• Give an example of who these payments are designed to
assist.
Farmers
• system under which the government or another agency
decides everyone's fair share of a product.
Rationing
• partial refund of the original price of a product.
Rebate
• loan that has neither a penalty nor an obligation to repay
if not paid back
Nonrecourse loan
Market Structures
Perfect Competition
Monopolistic competition
Oligopoly
Monopoly
Market Structures
• Laissez-faire: the government should not
interfere with the economy.
• To determine type of market:
– How many buyers and sellers are there?
– How large are they?
– Does either have any influence over price?
– How much competition exists between firms?
– What kind of product is involved?
– Is it easy or difficult for new firms to enter the
market?
Perfect Competition
• Many businesses
• No single buyer or seller has any control over
price.
• Produce identical products
• Each buyer and seller acts independently
• Buyers and sellers are well-informed
• Easy to exit and enter the market
• Price is set by supply and demand
• A price higher than equilibrium price has no
demand.
• VERY RARE
Monopolistic competition
• Everything is the same as in perfect
competition except the products are
slightly different.
• Use advertisement and promotions to
differentiate products from competition.
• Can influence price slightly, but still very
competitive.
• More common than perfect competition
• Examples???
Oligopoly
•
•
•
•
•
•
Few producers dominate the industry.
More influence or control over price.
Some product differentiation.
Some advertisement.
Entry to the market is difficult.
Businesses follow each other; one has
sale or special promotion others have to
follow.
• Collusion/profit-fixing – formal agreements
to set prices; no competition.
Monopoly
•
•
•
•
Only one seller
Extensive control over price
No product differentiation; Little or no advertising
Entry to the market is almost impossible;
government regulation for some monopolies.
• Rare in the United States; favor competition.
• Types:
– Natural Monopolies: can provide services cheaper than
several could
– Geographic monopolies: no other producers in that area
– Technological monopolies: control the manufacturing
process; they are the only ones that can produce the
product or service
Characteristics of Market Structures
Market
Structure
Number of Firms
in Industry
Influence over Price
Entry into
Market
Perfect
Competition
Many
2._____
3. _____
4._____
Many
5. _____
Easy
Oligopoly
6._____
7. _____
Difficult
8._____
One
9._____
10._____
Type of Market
Product
Differentiation
Advertising
Example
Perfect
Competition
11._____
None
Farming
products
Monopolistic
Competition
12. _____
13. _____
14. _____
Oligopoly
Fair amount
15. _____
16. _____
Pure Monopoly
17.______
None
18. _____
Free-Enterprise system
– Adequate competition must exist in all
markets.
– Buyers and sellers are well-informed
– Resources can move from one industry to
another.
– Prices must reasonably reflect the costs of
production.
Market Failure
• Inadequate competition:
– Inefficient resource allocation: resources not used
efficiently (bonuses, salaries, luxury items)
– Higher prices and reduced output: artificial shortages that
cause higher prices than other market structures.
– Economic and political power: powerful businesses can
influence politics.
– Less competition in supply and demand.
• Inadequate information:
– Some information is easy to find, but other information is
more difficult to obtain causing market failure
• Resources immobility:
– Land, labor, capital, and entrepreneurs do not move to
new markets; factory shuts down and stay in town.
Externalities:
• An unintended side effect that benefits or harms a
third party not involved.
• Negative: harm, cost, or incontinence suffered by a
third party because of actions by others; living next
to an airport
• Positive: benefit received by someone who had
nothing to do with the activity; airport expansion
creates jobs, new restaurant.
• The costs and benefits are not reflected in the
market prices that buyers and sellers pay for the
original product.
– The price that travelers pay for air travel does not reflect
the costs or benefits that the airport expansion generates.
Public good
• Products that are collectively consumed by
everyone; used by all people:
– highways, flood control, national defense, fire and
police.
• The Market will not naturally provide these
goods.
– Private markets cannot efficiently produce them and
will produce other things; no profit.
– Cannot deny one person the benefits of national
defense while supplying it to others.
– Can’t provide for one person and not another
– Provided by the government rather than by private
markets.
Role of Government
• Antitrust: provide fair competition
• End price discrimination
• Regulate money supply, stock market,
food and drugs, trade, labor laws, and job
discrimination.
• Protects the environment, consumer
safety, oversees the airline industry.
• Limiting externalities: uses tax money to
pay for programs and services to improve
the quality of life for Americans and protect
citizens.
Government Regulation
• Pollution tax = increases costs of
production; increase in price of products.
– Tax passed on to the consumer
– $1 pollution tax
– Causes decrease in supply and a higher
equilibrium price
– Internalizing an externality – forces the
polluting firm and its customers to pay for the
cost of pollution.
Federal Regulatory Agencies
Agency
Function
1.
Regulates television, radio, telegraph, and telephone; grants licenses, creates and
enforces rules of behavior for broadcasting. Federal Communications Commission
2.
Regulates the workplace environment; makes sure that businesses provide workers
with safe and healthful working conditions.Occupational Safety and Health Administration
3.
Regulates the nuclear power industry; licenses and oversees the design, construction,
and operation of nuclear power plants.
Nuclear Regulatory Commission
4.
Responsible for working to reduce discrimination based on religion, gender, race,
national origin, or age.
Equal Employment Opportunity Commission
5.
Regulates product warranties, unfair methods of competition in interstate commerce,
Federal Trade Commission
and fraud in advertising.
6.
Develops and enforces environmental standards for air, water, and toxic waste.
Environmental Protection Agency
7.
Regulates purity and safety of food, drugs, and cosmetics. Food and Drug Administration
8.
Regulates the sale of stocks, bonds, and other investments.
Securities and Exchange Commission
Truth in advertising laws are one way the
government tries to improve the quality of information
in the economy.
True or False
1. Economists often use an academic model to
False
help analyze behavior and predict outcomes.
2. Market equilibrium is the situation in which the
quantity of output supplied is equal to the
True
quantity demanded.
3. The amount of a price change is affected by the
elasticity of both the supply and demand curves. True
4. If the price of an item is too high in a competitive
market, a shortage appears until the price goes
down.
False
5. Perfect competition is not necessary for the
True
theory of competitive pricing to be practical.
True or False
6. Market situations lacking one or more of the
characteristics of perfect competition are called True
imperfect competition.
7. Perfect competition requires a market structure
True
with freedom for firms to enter or leave the
market.
8. Oligopoly is a market structure with one very
False
large firm.
9. The monopolist does not use an equilibrium
True
price to determine prices.
10. A private agency usually approves prices for
water and electric utilities.
False
True or False
11. The U.S. government intervenes in the
True
economy to reduce the costs of imperfect
competition.
12. The Clayton Antitrust Act was the first
False
significant law against monopolies in the United
States.
13. A condition of perfect competition is
False
characterized by product differentiation.
14. The monopolistic competitor operates in a
True
market with many well-informed buyers and
sellers.
15. Market failure can occur when resources do True
not move freely from one industry to another.
16. An example of a public good is a home
False
computer.
17. The Sherman Antitrust Act prohibits
False
monopolistic competition.
18. The United States government uses taxes to
True
reduce the effects of negative externalities.
Short Answer:
19. List the characteristics of Perfect competition.
Identical products, easy to enter/exit market, many sellers, no control over price
20. Define: technological monopoly
Control the method, process, or other scientific advance (patent).
21. What is the result of a decrease in competition
within an industry?
One or a few firms having an increase of economic and political power
Market Demand and Supply Schedules
Price
Quantity
Demanded
Quantity
Supplied
Surplus/
Shortage
$20
0
20
20
18
2
16
14
16
4
10
6
14
7
7
0
12
11
5
?
10
13
0
–13
At what price does market equilibrium occur?
$14 – quantity demanded = quantity supplied (no surplus or shortage
Suppose that demand for gold stands at D1. Then the opening of a
new gold mine shifts the supply curve from S1 to S2. How does this
shift affect price?
Price decreases from $400 to $280
What is the equilibrium price on this graph? Explain
what that means.
$14 – Quantity demanded = quantity supplied (no surplus or shortage