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Chapter 4 Markets in Action • Key Concepts • Summary • Practice Quiz • Internet Exercises ©2002 South-Western College Publishing 1 What can cause a shift in a demand curve? • Number of buyers in the market • Tastes and preferences • Income • Expectations of consumers • Prices of related goods 2 P The Effects of Shift in Demand on Market Equilibrium $1200 S $900 Shortage $600 $300 D1 4 8 12 16 D2 Q 3 The Effects of Shift in Demand on Market Equilibrium $40 S $30 Surplus $20 $10 D1 D2 10 20 30 40 4 Increase in Quantity Supplied Increase in Equilibrium Price Increase in Demand 5 Decrease in Quantity Supplied Decrease in Equilibrium Price Decrease in Demand 6 What can cause a shift in a supply curve? • Technology • Number of sellers in the market • Resource prices • Taxes and subsidies • Expectations of producers 7 The Effects of Shift in Supply on Market Equilibrium $4 S1 $3 Surplus S2 $2 $1 D 20 40 60 80 8 The Effects of Shift in Supply on Market Equilibrium $800 S2 $600 S1 Shortage $400 $200 D 2 4 6 8 9 Increase in Quantity Demanded Decrease in Equilibrium Price Increase in Supply 10 Decrease in Quantity Demanded Increase in Equilibrium Price Decrease in Supply 11 Can the laws of demand and supply be repealed? In some markets, the objective of politicians is to prevent prices from reaching the equilibrium price 12 What are the two types of price controls? Price ceilings Price floors 13 What is a price ceiling? A legally established maximum price a seller can charge 14 P Rent Control Results in a Shortage of Rental Units S $800 $600 $400 Rent ceiling Shortage D $200 2 4 6 8 Q 15 Shortage Quantity Demanded exceeds the quantity supplied Rent Ceiling 16 What is the purpose of price ceilings on rent? So needy people will pay lower rent than the equilibrium rent 17 Why may rent controls be counterproductive? • Shortages • Illegal markets • Less maintenance • Discrimination 18 What are other examples of price ceilings? Wage and price controls Usury laws 19 What is a price floor? A legally established minimum price a seller can be paid 20 A Minimum Wage Results in a Surplus of Labor Wm S Minimum wage Unemployment We D QD QE QS 21 Unemployment Minimum wage 22 What are examples of price floors? Minimum wage law Agricultural price supports 23 Why do we have price ceilings and floors? Because of failures in the free market 24 What is market failure? A situation in which the price system creates a problem for society or fails to achieve society’s goals 25 Who was Adam Smith? The father of modern economics who wrote The Wealth of Nations, published in 1776 26 What did Adam Smith say about competition? There must be competition for markets to function properly 27 What happens when competition is lacking? Market failure results 28 Rigging the Personal Computer Market $2500 Inefficient equilibrium $2000 S2 S 1 $1500 $1000 $500 Efficient equilibrium D 50 100 150 200 250 300 29 What is an example of another market failure? Externalities 30 What is an externality? A cost or benefit imposed on people other than the consumers and producers of a good or service 31 What is a negative externality? An externality that is detrimental to third parties 32 What is an example of a negative externality? Pollution 33 External Cost of Pollution Includes external costs of pollution S2 S 1 P2 P1 D Excludes external costs of pollution Q2 Q1 34 What is a positive externality? An externality that is beneficial to third parties 35 What is an example of a positive externality? Vaccinations 36 External Benefits of AIDS Vaccinations Includes Vaccination benefits S P2 P1 D2 $10 Excludes Vaccination benefits Q1 Q2 D1 37 Inefficient equilibrium External costs 38 Inefficient equilibrium External benefits 39 What is another example of a positive externality? Public goods 40 What is a public good? A good that, once produced, has two properties: (1) users collectively consume benefits (2) no one can be excluded 41 What are examples of public goods? • National defense • Public education • Roads 42 What is another example of market failure? Income inequality 43 Key Concepts 44 Key Concepts • • • • • • • What can cause a shift in a demand curve? What can cause a shift in a supply curve? What are the two types of price controls? What is a price ceiling? What is a price floor? Why do we have price ceilings and floors? What is market failure? 45 Key Concepts cont. • • • • • • What happens when competition is lacking? What is an externality? What is a negative externality? What is a positive externality? What is a public good? What is another example of market failure? 46 Summary 47 Price ceilings and price floors are maximum and minimum prices enacted by law, rather than allowing the forces of supply and demand to determine prices. A price ceiling is a maximum price mandated by government, and a price floor is a minimum legal price. 48 If a price ceiling is set below the equilibrium price, a shortage will persist P S $800 $600 $400 Rent ceiling Shortage D $200 2 4 6 8 Q 49 If a price floor is set above the equilibrium price, a surplus will persist Wm S Minimum wage Unemployment We D QD QE QS 50 Market failure means that the market mechanism does not achieve desirable results. Sources of market failure include lack of competition, externalities, public goods, and income inequality. Although controversial, government intervention is a possible way to correct market failure. 51 An externality is a cost or benefit of a good imposed on people who are not buyers or sellers of that good. Pollution is an example of an external cost, which means too many resources are used to produce the product responsible for the pollution. Two basic approaches to solve this market failure are taxes (like in pollution taxes) and regulation (like in vaccinations). 52 External Cost of Pollution Includes external costs of pollution S2 S 1 P2 P1 D Excludes external costs of pollution Q2 Q1 53 External Benefits of AIDS Vaccinations Includes Vaccination benefits S P2 P1 D2 Excludes Vaccination benefits Q1 Q2 D1 54 Public goods are goods that are consumed by everyone regardless of whether they pay or not. National defense, air traffic control, and other public goods can benefit many individuals simultaneously and are provided by the government. 55 END 56