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Managerial Economics
eighth edition
Thomas
Maurice
Chapter 2
Demand, Supply, &
Market Equilibrium
McGraw-Hill/Irwin
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Managerial Economics
Demand
• Quantity demanded (Qd)
• Amount of a good or service
consumers are willing & able to
purchase during a given period of time
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Demand
• Six variables that influence Qd
• Price of good or service (P)
• Incomes of consumers (M)
• Prices of related goods & services (PR)
• Taste patterns of consumers (  )
• Expected future price of product (Pe)
• Number of consumers in market (N)
• Generalized demand function
•
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Qd  f ( P, M , PR , , Pe , N )
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Generalized Demand Function
Qd  a  bP  cM  dPR  e  fPe  gN
• b, c, d, e, f, & g are slope parameters
• Measure effect on Qd of changing one of the
variables while holding the others constant
• Sign of parameter shows how variable
is related to Qd
• Positive sign indicates direct relationship
• Negative sign indicates inverse relationship
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Generalized Demand Function
Relation to Qd
Variable
P
Inverse
b = Qd/P is negative
M
Direct for normal goods
Inverse for inferior goods
c = Qd/M is positive
c = Qd/M is negative
Inverse for complements
d = Qd/PR is positive
d = Qd/PR is negative

Direct
e = Qd/  is positive
Pe
Direct
f = Qd/Pe is positive
N
Direct
g = Qd/N is positive
PR
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Sign of Slope Parameter
Direct for substitutes
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Demand Function
• Demand function, or demand, shows
relation between P & Qd when all other
variables are held constant
• Qd = f(P)
• Law of Demand
• Qd increases when P falls & Qd decreases
when P rises, all else constant
• Qd/P must be negative
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Graphing Demand Curves
• Traditionally price (P) is plotted on
the vertical axis & quantity
demanded (Qd) is plotted on the
horizontal axis
• The equation plotted is the inverse
demand function
• P = f(Qd)
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Graphing Demand Curves
• A point on a demand curve shows
either:
• Maximum amount of a good that will be
purchased for a given price
• Maximum price consumers will pay for
a specific amount of the good
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Graphing Demand Curves
• Change in quantity demanded
• Occurs when price changes
• Movement along demand curve
• Change in demand
• Occurs when one of the other
variables, or determinants of demand,
changes
• Demand curve shifts rightward or
leftward
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Shifts in Demand
(Figure 2.2)
P
80
70
Price (dollars)
60
D1
Demand
increase
D0
$50, 300
40
• $50, 600
•
50
D2
• $40, 500
•
$40, 200
30
Demand
decrease
20
10
Qd
0
100
300
500
700
900
Quantity
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1,100
1,300
1,500
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Supply
• Quantity supplied (Qs)
• Amount of a good or service offered
for sale during a given period of time
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Supply
• Six variables that influence Qs
•
•
•
•
•
•
Price of good or service (P)
Input prices (PI )
Prices of goods related in production (Pr)
Technological advances (T)
Expected future price of product (Pe)
Number of firms producing product (F)
• Generalized supply function
•
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Qs  f ( P, PI , Pr , T , Pe , F )
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Managerial Economics
Generalized Supply Function
Qs  h  kP  lPI  mPr  nT  rPe  sF
• k, l, m, n, r, & s are slope parameters
• Measure effect on Qs of changing one of the
variables while holding the others constant
• Sign of parameter shows how variable
is related to Qs
• Positive sign indicates direct relationship
• Negative sign indicates inverse relationship
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Generalized Supply Function
Relation to Qs
Variable
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Sign of Slope Parameter
P
Direct
k = Qs/P is positive
PI
Inverse
l = Qs/PI is negative
Pr
Inverse for substitutes
Direct for complements
m = Qs/Pr is negative
m = Qs/Pr is positive
T
Direct
n = Qs/T is positive
Pe
Inverse
r = Qs/Pe is negative
F
Direct
s = Qs/F is positive
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Supply Function
• Supply function, or supply, shows
relation between P & Qs when all
other variables are held constant
• Qs = g(P)
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Managerial Economics
Graphing Supply Curves
• A point on a supply curve shows
either:
• Maximum amount of a good that will be
offered for sale at a given price
• Minimum price necessary to induce
producers to voluntarily offer a
particular quantity for sale
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Managerial Economics
Graphing Supply Curves
• Change in quantity supplied
• Occurs when price changes
• Movement along supply curve
• Change in supply
• Occurs when one of the other
variables, or determinants of supply,
changes
• Supply curve shifts rightward or
leftward
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Shifts in Supply
(Figure 2.4)
P
S2
80
S0
70
$60, 400
Price (dollars)
60
50
$60, 700
Supply
decrease
•
•
$40, 500
40
S1
• $40, 650
•
30
Supply
increase
20
10
Qs
0
100
300
500
700
Quantity
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900
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Market Equilibrium
• Equilibrium price & quantity are
determined by the intersection of
demand & supply curves
• At the point of intersection, Qd = Qs
• Consumers can purchase all they want
& producers can sell all they want at
the “market-clearing” price
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Market Equilibrium
(Figure 2.5)
P
80
S0
70
Price (dollars)
60
•
50
•
•
40
30
•
•
20
10
D0
Qd , Qs
0
100
300
500
700
900
Quantity
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1,100
1,300
1,500
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Demand Shifts (Supply Constant)
(Figure 2.6)
P
80
S0
70
Price (dollars)
60
B
50
A
•
40
C
•
•
•
•
30
20
10
0
100
300
500
700
900
Quantity
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D0
D2
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D1
Qd , Qs
1,100
1,300
1,500
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Supply Shifts (Demand Constant)
(Figure 2.7)
P
S2
S0
80
S1
70
Price (dollars)
60
T
•
50
•
•
40
R
30
•
•S
20
10
D0
Qd , Qs
0
100
300
500
700
900
Quantity
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1,100
1,300
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Simultaneous Shifts
• When demand & supply shift
simultaneously
• Can predict either the direction in
which price changes or the direction in
which quantity changes, but not both
• The change in equilibrium price or
quantity is said to be indeterminate
when the direction of change depends
on the relative magnitudes by which
demand & supply shift
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Simultaneous Shifts: (D, S)
P
S
S’
S’’
B
P’
P
P’’
A
•
•
•C
D’
D
Q
Q
Q’
Q’’
Price may rise or fall; Quantity rises
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Managerial Economics
Simultaneous Shifts: (D, S)
P
S
S’
S’’
A
•
P
B
P’
•
•C
P’’
D
D’
Q
Q’ Q
Q’’
Price falls; Quantity may rise or fall
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Managerial Economics
Simultaneous Shifts: (D, S)
P
S’’
S’
P’’
•
S
C
B
•
P’
A
•
P
D’
D
Q
Q’’
Q Q’
Price rises; Quantity may rise or fall
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Managerial Economics
Simultaneous Shifts: (D, S)
P
S’’
S’
S
P’’
P
P’
•C
A
•
B
•
D
D’
Q’’
Q
Q’
Q
Price may rise or fall; Quantity falls
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Ceiling & Floor Prices
• Ceiling price
• Maximum price government permits
sellers to charge for a good
• When ceiling price is below
equilibrium, a shortage occurs
• Floor price
• Minimum price government permits
sellers to charge for a good
• When floor price is above equilibrium,
a surplus occurs
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Ceiling & Floor Prices (Figure 2.11)
Px
Sx
2
1
Price (dollars)
Price (dollars)
Px
Sx
3
2
Dx
Dx
22
50 62
Quantity
Panel A – Ceiling price
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Qx
32 50
84
Quantity
Panel B – Floor price
Qx