Download Lecture Week 04

Shifts: Demand & Supply
Increase Demand With Supply Constant,
Equilibrium Price and Quantity Both Increase.
At price P3 quantity
S
demanded equals
quantity supplied--
E2
P3
E1
D1
Q3
D2
Minivan
Market
•
People Decide to Have More
Children
Consider the market
for minivans.
1. For each event
identify whether
demand or supply
is affected.
2. Determine the
direction of
change.
3. Draw a diagram
to illustrate how
equilibrium is
changed.
E2
S
P2
E1
P1
D1
Q1
Q2
D2
Minivan
Market
Steelworkers Strike Raises
Steel Prices
S2
E2
S1
P2
E1
P1
D
Q2 Q1
Minivan
Market
New Automated Machinery
Introduced
S1
E1
S2
P1
P2
E2
D
Q1 Q2
Minivan
Market
Price of Station Wagons
Rises
E2
S
P2
E1
P1
D1
Q1
Q2
D2
Minivan
Market
Stock Market Crash
Lowers Wealth
S
P1
P2
E1
E2
D2
Q2 Q1
D1
Simultaneous Shifts
Example of a double shift.
– 2 events
• 1.  supply
• 2.  demand
• only  supply P, Q.
• only  demand P, Q.
• Result: Q guaranteed
Shifts in Demand and in Supply
S1 S
2
E2
P2
P1
E1
D1
Q1
Q2
D2
Simultaneous Shifts
S1
P1
P2
S2
E1
E2
D1
Q1
Q2
D2
Simultaneous Shifts
Example of a double shift.
• second possibility
– 2 events
• 1.  supply
• 2.  demand
• only  supply P, Q.
• only  demand P, Q
• Result:  P guaranteed
Shifts in Demand and in Supply
S1
E1
P1
P2
E2
D2 D1
Q1Q2
S2
Shifts in Demand and in Supply
S1
S2
E
P1
P
1
E2
2
D1
D2
Q2 Q1
Markets and Government Policy
• Supply and demand together determine the
prices of the economy’s many different goods &
services.
• Prices guide the use of resources and the
allocation of final goods and services.
Price Controls
Price fixing is based on debatable reasoning:
• 1) Belief that one side of the market is to “blame”
for “undesirable” price changes.
• 2) Belief that governments can repeal the laws of
supply and demand.
• If you prevent prices from changing, you effectively suspend
the mechanism for economic coordination.
Price Controls
Surplus
Price Floor
Legal Min. P.
S
Price
P2
P2
Pe
E1
Equilibrium
price
P1
P1
Shortage
D
QdQs
Qe
QdQs
Quantity per Unit Time Period
Price Ceiling
Legal Max. P.
• Def’n: places a legal maximum
on the price at which the good
can be sold.
Price Ceiling
S
Price
Equilibrium
price
Pe
E1
P1
P
Shortage
1
D
Q Qs
Price Ceiling
d
Legal Max. P.
Qe
QQ
d s
Quantity per Unit of Time
– Below the equilibrium price,
creates a shortage in the
market.
– Alternative methods of
rationing must then be
found;
– E.G., First come, first
served, personal
biases, lottery,
bribes...
A Market with a Price Ceiling
• eg. Rent Control: goal,
make housing more
P3
affordable.
P2
• Effects: Housing
shortage, reduces quality
P1
of available housing,
alternate methods of
rationing available
apartments
S
Price
Ceiling
shortage
D
Quantity Q1
supplied
Q2
Q3 Quantity
demanded
Market for Organs
• The Canadian government has essentially placed
a price ceiling of $0 on organs
– to sell
human organs in this country is illegal.
• At the end of 2003, more than 3,700 Canadians
were waiting for an organ transplant and 147
died in 2003 waiting.
Market for Organs
• All of us have two kidneys, but can survive (in
fact live a normal life) with just one.
• It is therefore possible for anyone to decide to
offer one of his or her own kidneys, if the
proper incentive exists.
• For some this incentive would be a financial one,
and some people desperate for a kidney would
be willing to pay
 Black Market in Kidneys
Black Market / Illegal Market
Black Market
price will be
between P1
and P2.
S
Price
P2
Price
Ceiling
Pe
E1
Equilibrium
price
P1
Shortage
D
Qs
Qe
Qd
Quantity per Unit Time Period
Forces of demand and supply persists despite price controls
Price Floor
• Def ’n: legal minimum placed on the price,
above the equilibrium, resulting in a surplus.
• E.g., minimum wage, agricultural price supports.
– Alternative methods of dealing with the surplus will
emerge– Consequences include: waste, government purchase of
surplus, subsidize consumer to purchase, production
control.
The Effect of Minimum Wages
Wage Rate per Unit
S
A
B
C
Excess
quantity
supplied at
wage Wm
Wm
We
Reduction
in quantity
of labour
demanded
E
Increase in
quantity of
labour supplied
D
Qd
Qe
Qs
Quantity of Labour per Time Period
Agricultural Price Supports:
The Regulated Market for Eggs
Price per dozen
Pq
Sq
S
Pe
D
Qq
Qe
Quantity (dozens)
Price will rise
to Pq with
imposition of
a quota.
Price Controls
• Economists usually oppose price controls for everyday
kinds of commodities because
– They obscure the signals given by market prices that normally
guide the allocation of society’s scarce resources.
\Markets are prevented from performing their coordinating
and rationing activities.
• However, if all things are not equal, and a market is not
operating properly, price controls can be useful
– Ie: controls placed upon a monopoly
 The individual’s demand curve can be seen as the individual’s
willingness to pay curve.
 On the other hand, the individual must only actually pay the
market price for (all) the units consumed.
 For example, you may be willing to pay $40 for a haircut, but
upon arriving at the stylist, discover that the price is only $20
 The difference between willingness to pay and the amount
you pay is the Consumer Surplus
Definition: The net economic benefit to the
consumer due to a purchase (i.e. the willingness to
pay of the consumer net of the actual expenditure
on the good) is called consumer surplus.
The area under an ordinary demand curve and
above the market price provides a measure of
consumer surplus.
Note that a consumer will receive more surplus
from the first good than from the last good.
Consumer Surplus
Price
P*
Consumer Surplus: The difference
between what a consumer is willing to
pay and what they pay for each item
Consumer
Surplus
Equilibrium
Or market
Price
D
Q*
Quantity
Efficiency of the Equilibrium Quantity
Price
$16
Consumer
Surplus
Consumer Surplus = area of triangle
=1/2bh
=1/2(16-8)(10)
=40
This calculation
Only works for
A linear demand
curve
$8
D
10
Quantity
-a firm’s supply curve shows how much it is
willing to sell a good for
-the firm receives, however, the market price,
which is often above their willingness to sell
Definition: Producer Surplus is the area above
the supply curve and below the price. It is a
monetary measure of the benefit that producers
derive from producing a good at a particular
price.
Producer Surplus
Price
Producer Surplus: The difference between
what a producer is willing to accept and
what they receive for each item
S
P*
Producer
Equilibrium
Or market
Price
Surplus
Q*
Quantity
Producer Surplus
Price
Producer Surplus = (1/2)BH
PS=(1/2)10(5)
PS=25
S
$8
Producer
Equilibrium
Or market
Price
Surplus
$3
10
Quantity
 When the government (or other agency, such as a
union) imposes price floors and price ceilings,
consumer and producer surplus is generally decreased
(except in very rare and unique cases)
Generally, the consumers with the greatest willingness
to pay or the producers with the greatest efficiency will
consume and provide the good
The alternate situation is provided graphically
for interest sake only
Without price controls, efficiency was maximized.
After the price control is imposed, some surplus
is transferred between producers and
consumers
BUT SOME SURPLUS IS LOST!
After the price control, production decreases, and
a small triangle of producer and consumer
surplus is lost – this triangle is the deadweight
loss
Deadweight loss – reduction in net economic
benefit due to inefficient allocation of
resources
Price controls create
inefficiencies!!
Price Ceiling
P
A
P* B
Old
Consumer Surplus
Supply
C
Price Ceiling
D
Old
Producer Surplus
Q*
Demand
Q
The impact of a price ceiling depends on
which consumer receive the available good.
We will examine the 2 extreme cases:
•Consumers with greatest willingness to pay
receive good (maximize consumer surplus)
•Consumers with least willingness to pay
receive good (minimize consumer surplus)
Price Ceiling: Maximize Consumer Surplus
P
A
New
Consumer Surplus
Supply
Deadweight Loss
C
P* B
Price Ceiling
D
Excess
Demand
Qs
Qs
Demand
Qd
New
Producer Surplus
Q
Price Ceiling: Minimize Consumer Surplus
P
Supply
A
New
Consumer Surplus
C
P* B
Price Ceiling
Qs
D
Excess
Demand
Qs
Demand
Qd
New
Producer Surplus
Q
Price Ceiling: Minimize Consumer Surplus
P
Supply
Deadweight Loss=A-B
A
P*
B
Qs
Price Ceiling
Excess
Demand
Qs
Demand
Qd
Q
•It is generally assumed that the consumers
with the greatest willingness to pay receive
the good, but this does not always occur
•Price ceilings are only effective if resale
(black market) is prevented
•Price ceilings can also cause a reliance on
imports to meet excess demand
A
•
•
•
•
price floor always has the following effects:
Excess supply will exist
The market will underconsume
Consumer surplus will decrease
Some consumer surplus is transferred to the
producer
• Producer surplus may increase or decrease
• There will be a deadweight loss
Price Floor
P (W)
A
P* B
D
Old
Consumer Surplus
Supply
Price Ceiling
(min. wage)
C
Old
Producer Surplus
Q*
Demand
Q (L)
The impact of a price floor depends on which
producer will sell the good (which worker
works). We will examine the 2 extreme
cases:
•Producers with greatest efficiency supply
good (maximize producer surplus)
•Producers with least efficiency supply good
(minimize producer surplus)
Price Floor: Maximize Producer Surplus
P (W)
A
New
Consumer Surplus
Supply
Price Floor
Ie: Min. Wage
C
P* B
Deadweight Loss
D
Excess
Supply
Qd
Qs
Qd
Demand
New
Producer Surplus
Q (L)
Price Floor: Minimize Producer Surplus
P
A
New
Consumer Surplus
Supply
Price Floor
Ie: Min. Wage
C
P* B
Qs
D
Excess
Supply
Qs
Qd
Demand
New
Producer Surplus
Q
Price Floor: Minimize Producer Surplus
P
Supply
Price Floor
Ie: Min. Wage
X
P*
Y
Deadweight Loss=Y-X
Qs
Excess
Supply
Qs
Qd
Demand
Q
• Therefore the attempt of a union to increase
wages (create a price floor) has two effects:
1)Some workers receive a higher wage
2)Some workers lose their jobs
• Note that there is a difference between
negotiating a higher wage (a union’s publicized
goal) and ensuring wages keep up with
inflation (often a union’s achieved goal)
Midterm 1
•
•
•
•
1 hour
50 multiple choice questions
Includes all material previously covered
Some questions will be quickly answered, others
may take time
• Students should average 1 min per question
• Feel free to skip over troublesome questions
until later