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Chapter
4
Demand and Supply
Applications
Prepared by:
Fernando & Yvonn Quijano
© 2007 Prentice Hall Business Publishing Principles of Economics 8e by Case and Fair
CHAPTER 4: Demand and Supply
Applications
4
Demand and Supply
Applications
Chapter Outline
The Price System: Rationing and
Allocating Resources
Price Rationing
Constraints on the Market and Alternative
Rationing Mechanisms
Prices and the Allocation of Resources
Price Floors
Supply and Demand Analysis:
An Oil Import Fee
Supply and Demand
and Market Efficiency
Consumer Surplus
Producer Surplus
Competitive Markets Maximize the Sum of
Producer and Consumer Surplus
Potential Causes of Deadweight
Loss from Under- and Overproduction
Looking Ahead
© 2007 Prentice Hall Business Publishing Principles of Economics 8e by Case and Fair
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CHAPTER 4: Demand and Supply
Applications
THE PRICE SYSTEM: RATIONING
AND ALLOCATING RESOURCES
price rationing The process by which
the market system allocates goods and
services to consumers when quantity
demanded exceeds quantity supplied.
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THE PRICE SYSTEM: RATIONING
AND ALLOCATING RESOURCES
CHAPTER 4: Demand and Supply
Applications
PRICE RATIONING
FIGURE 4.1 The Market for Lobsters
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CHAPTER 4: Demand and Supply
Applications
THE PRICE SYSTEM: RATIONING
AND ALLOCATING RESOURCES
When supply is fixed or
something for sale is unique, its
price is demand determined.
Price is what the highest bidder
is willing to pay. In 2004, the
highest bidder was willing to pay
$104.1 million for Picasso’s Boy
with a Pipe.
The adjustment of price is the rationing mechanism in free markets. Price rationing means
that whenever there is a need to ration a good—that is, when a shortage exists—in a free
market, the price of the good will rise until quantity supplied equals quantity demanded—
that is, until the market clears.
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CHAPTER 4: Demand and Supply
Applications
THE PRICE SYSTEM: RATIONING
AND ALLOCATING RESOURCES
FIGURE 4.2 Market for a Rare Painting
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CHAPTER 4: Demand and Supply
Applications
THE PRICE SYSTEM: RATIONING
AND ALLOCATING RESOURCES
CONSTRAINTS ON THE MARKET AND
ALTERNATIVE RATIONING MECHANISMS
On occasion, both governments and private firms decide
to use some mechanism other than the market system to
ration an item for which there is excess demand at the
current price.
Regardless of the rationale, two things are clear:
1. Attempts to bypass price rationing in the market and to
use alternative rationing devices are much more difficult
and costly than they would seem at first glance.
2. Very often, such attempts distribute costs and benefits
among households in unintended ways.
© 2007 Prentice Hall Business Publishing Principles of Economics 8e by Case and Fair
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THE PRICE SYSTEM: RATIONING
AND ALLOCATING RESOURCES
CHAPTER 4: Demand and Supply
Applications
Oil, Gasoline, and OPEC
price ceiling A maximum price that sellers may
charge for a good, usually set by government.
FIGURE 4.3 Excess Demand
(Shortage) Created
by a Price Ceiling
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CHAPTER 4: Demand and Supply
Applications
THE PRICE SYSTEM: RATIONING
AND ALLOCATING RESOURCES
queuing Waiting in line as a means of
distributing goods and services: a
nonprice rationing mechanism.
favored customers Those who
receive special treatment from dealers
during situations of excess demand.
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CHAPTER 4: Demand and Supply
Applications
THE PRICE SYSTEM: RATIONING
AND ALLOCATING RESOURCES
ration coupons Tickets or coupons
that entitle individuals to purchase a
certain amount of a given product per
month.
black market A market in which illegal
trading takes place at marketdetermined prices.
Even when trading coupons is declared illegal, it is virtually impossible to stop black
markets from developing. In a black market, illegal trading takes place at marketdetermined prices.
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THE PRICE SYSTEM: RATIONING
AND ALLOCATING RESOURCES
CHAPTER 4: Demand and Supply
Applications
NCAA March Madness: College Basketball’s
National Championship
FIGURE 4.4 Supply of and Demand for a
Pair of Final Four Tickets in
2003
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CHAPTER 4: Demand and Supply
Applications
THE PRICE SYSTEM: RATIONING
AND ALLOCATING RESOURCES
There are many ways to deal
with the excess demand to
premiere sporting events such as
the NCAA finals, but it is hard to
keep tickets from those who are
willing to pay high prices.
Syracuse played Kansas in the
NCAA championship game in
2003.
No matter how good the intentions of private organizations and governments, it is
very difficult to prevent the price system from operating and to stop willingness to
pay from asserting itself. Every time an alternative is tried, the price system seems to
sneak in the back door. With favored customers and black markets, the final distribution
may be even more unfair than that which would result from simple price rationing.
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CHAPTER 4: Demand and Supply
Applications
REVIEW TERMS AND CONCEPTS
black market
favored customers
price ceiling
price rationing
queuing
ration coupons
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