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Lecture 9:
SHIFTS IN SUPPLY AND DEMAND
UNDERSTANDING INDUSTRY
CHANGES
– Summary of main points
• A market has a product, geographic, and time
dimension. Define the market before using supply–
demand analysis.
• Market demand describes buyer behavior; market
supply describes seller behavior in a competitive
market.
• If price changes, quantity demanded increases or
decreases (represented by a movement along the
demand curve).
• If a factor other than price (like income) changes, we
say that demand curve increases or decreases (a shift
of demand curve).
Lecture 8 – Summary (cont.)
• Supply curves describe the behavior of sellers and tell you how
much will be sold at a given price.
• Market equilibrium is the price at which quantity supplied
equals quantity demanded. If price is above the equilibrium
price, there are too many sellers, forcing price down, and vice
versa.
• Currency depreciation in a country increases demand for exports
(supply to another country) and decreases demand for imports
(demand for another country’s products).
• Prices are a primary way that market participants
communicate with one another.
• Making a market is costly, and competition between market
makers forces the bid–ask spread down to the costs of making a
market. If the costs of making a market are large, then the
equilibrium price may be better viewed as a spread rather than a
single price.
Anecdote: Y2K and generator sales
• From 1990-98, sales of portable generators grew 2%
yearly.
• In 1999, public anticipation of Y2K power outages
increased demand for generators.
• Walters, Rosenberg and Matthews invested to increase
capacity in anticipation of this demand growth – they
vertically integrated their company to increase capacity
and reduce variable costs.
• Demand grew as expected - Industry shipments
increased by 87%. Prices also increased by an average
of 21%.
Which industry or market?
• Every industry or market has a time, product, and
geographic dimension.
• For example: The yearly market for portable generators
in the U.S.
• Time: annual
• Product: portable generators
• Geography: US
• When analyzing a problem, or investment opportunity, it
helps to first define the time, product and geographic
dimensions of the market in question.
Shifts in the demand curve
• Movement along the demand curve indicates the
“quantity demanded” increased.
• Shifts in demand curve can occur for multiple reasons
• Uncontrollable factor – affects demand and is out of a
company’s control.
• Income, weather, interest rates, and prices of substitute and
complementary products owned by other companies.
• Controllable factor – affects demand but can be controlled
by a company
• Advertising, warranties, product quality, distribution speed,
service quality, and prices of substitute or complementary
products also owned by the company
Anecdote: Microsoft
• In the late 1970s, Microsoft developed DOS, an
operating system to control IBM computers.
• The price for DOS depended on the price and availability of
computers that could run it and the applications that ran
under it as well as the price of DOS itself.
• To increase demand for DOS Microsoft:
• Licensed its operating system to other computer manufacturers
• Developed its own versions of complimentary products
• To affect the quantity demanded, they also kept the
price of DOS low.
Demand increase
• At a given price, more quantity demanded
Supply curves
• Definition: Supply curves are functions that relate
the price of a product to the quantity supplied by
sellers.
• Discussion: Why do supply curves slope upwards?
Market equilibrium
• Definition: Market equilibrium is the price at
which quantity supplied equals quantity demanded.
• At the equilibrium price, there is no pressure for
the price to change given the equality of quantity
demanded and supplied.
Market equilibrium (cont.)
• Proposition: In a competitive
equilibrium there are no
unconsummated wealth-creating
transactions.
KEY POINT #1
• The market equilibrium is the
single price at which the quantity
demanded equals the quantity
supplied.
Review question
 Consider a competitive market where tupperware is
bought and sold. Suppose there are five sellers, each
willing to sell tupperware at the following prices
{$30,$29,$20,$16,$12}. Five buyers are willing to buy
one tupperware at the following prices:
{$10,$12,$20,$24, and $29}. Construct the supply and
demand curves and determine the equilibrium quantity
and equilibrium price.
Using supply and demand
• Supply and demand curves can be used to describe changes
that occur at the industry level
Using supply and demand (cont.)
• Discussion: “over the past decade, the price of
computers has fallen, while quantity has risen.” How?
Why?
Key point number 2
 Changes in supply and demand can be used to
understand why equilibrium quantities and prices
change.



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Demand rises: Prices and quantities increase
Demand falls: Prices and quantities fall
Supply rises: Prices fall, quantities rise
Supply falls: Prices rise, quantities fall
Review question #2
 In the 1990s, many people had rising incomes. At the same
time, there was a rise in cost of wood. Holding other factors
constant,
 What happens to the supply of houses?
 What happens to the demand for houses?
 If demand effect dominates, what happens to
the equilibrium price and quantity of houses
sold?
Prices convey information
• Prices are a primary way that market participants
communicate with one another
• Buyers signal their willingness to pay, and sellers
signal their willingness to sell with prices
• Price information especially important in financial
markets
Anecdote
• Discussion: Gas pipeline burst between Tucson
and Phoenix
• What happened to gas prices in Phoenix, in Tucson
and in Los Angeles?