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chapter
three
Where Prices Come From:
The Interaction of Demand and Supply
Prepared by: Fernando & Yvonn Quijano
© 2007 Prentice Hall Business Publishing; Essentials of Economics R. Glenn Hubbard, Anthony Patrick O’Brien
Carly Fiorina
… Because of the
importance of printers to
Hewlett-Packard, the
company devotes
significant resources to
monitoring and forecasting
consumer demand.
LEARNING OBJECTIVES
CHAPTER 3: Where Prices Come From:
The Interaction of Demand and Supply
How Hewlett-Packard Manages
the Demand for Printers
After studying this
chapter, you should be
able to:
1
2
3
4
Discuss the variables
that influence demand.
Discuss the variables
that influence supply.
Use a graph to
illustrate market
equilibrium.
Use demand and
supply graphs to
predict changes in
prices and quantities.
© 2007 Prentice Hall Business Publishing; Essentials of Economics, R. Glenn Hubbard, Anthony Patrick O’Brien
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1 LEARNING OBJECTIVE
CHAPTER 3: Where Prices Come From:
The Interaction of Demand and Supply
The Demand Side of the Market
The Demand of an Individual Buyer
3-1
Plotting a Price-Quantity
Combination on a Graph
At a price of $125 per
printer, Kate, the purchasing
manager for the Prudential
Insurance Company, will be
willing to buy 5 printers in
the next month.
Quantity demanded The
quantity of a good or service
that a consumer is willing to
purchase at a given price.
© 2007 Prentice Hall Business Publishing; Essentials of Economics, R. Glenn Hubbard, Anthony Patrick O’Brien
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CHAPTER 3: Where Prices Come From:
The Interaction of Demand and Supply
The Demand Side of the Market
Demand Schedules and Demand Curves
3-2
Kate’s Demand Schedule and
Demand Curve
Demand schedule A table
showing the relationship
between the price of a product
and the quantity of the product
demanded.
Demand curve A curve that shows the
relationship between the price of a product
and the quantity of the product demanded.
© 2007 Prentice Hall Business Publishing; Essentials of Economics, R. Glenn Hubbard, Anthony Patrick O’Brien
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CHAPTER 3: Where Prices Come From:
The Interaction of Demand and Supply
The Demand Side of the Market
Individual Demand and Market Demand
3-3
Deriving the Market Demand Curve
from Individual Demand Curves
Market demand The
demand for a product by all
the consumers in a given
geographical area.
© 2007 Prentice Hall Business Publishing; Essentials of Economics, R. Glenn Hubbard, Anthony Patrick O’Brien
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CHAPTER 3: Where Prices Come From:
The Interaction of Demand and Supply
The Demand Side of the Market
The Law of Demand
The Law of Demand Holding everything else constant, when
the price of a product falls, the quantity demanded of the product
will increases, and when the price of a product rises, the quantity
demanded of the product will decrease.
What Explains the Law of Demand?
Substitution effect The change in the quantity demanded of a
good that results from a change in price making the good more or
less expensive relative to other goods that are substitutes.
Income effect The change in the quantity demanded of a good
that results from the effect of a change in the good’s price on
consumer purchasing power.
© 2007 Prentice Hall Business Publishing; Essentials of Economics, R. Glenn Hubbard, Anthony Patrick O’Brien
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CHAPTER 3: Where Prices Come From:
The Interaction of Demand and Supply
The Demand Side of the Market
Total
Effect
Substitution
Effect
Income
Effect
© 2007 Prentice Hall Business Publishing; Essentials of Economics, R. Glenn Hubbard, Anthony Patrick O’Brien
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The Demand Side of the Market
CHAPTER 3: Where Prices Come From:
The Interaction of Demand and Supply
Price of Good X increases
Type
Good
Substitution Income
Effect
Effect
Total
Effect
Normal
-
-
-
Inferior
-
+
-
Giffen
-
+
+
Giffen good is the only exception to the law of demand.
© 2007 Prentice Hall Business Publishing; Essentials of Economics, R. Glenn Hubbard, Anthony Patrick O’Brien
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CHAPTER 3: Where Prices Come From:
The Interaction of Demand and Supply
The Demand Side of the Market
Holding Everything Else Constant:
The Ceteris Paribus Condition
Ceteris paribus (“all else equal”) The
requirement that when analyzing the
relationship between two variables—such
as price and quantity demanded—other
variables must be held constant.
© 2007 Prentice Hall Business Publishing; Essentials of Economics, R. Glenn Hubbard, Anthony Patrick O’Brien
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CHAPTER 3: Where Prices Come From:
The Interaction of Demand and Supply
The Demand Side of the Market
Variables That Shift Market Demand
 Price of related goods
Substitutes Goods and services that can
be used for the same purpose.
Complements Goods that are used
together.
3-4
Shifting the Demand Curve
 Income
Normal good A good for which the
demand increases as income rises and
decreases as income falls.
Inferior good A good for which the
demand increases as income falls, and
decreases as income rises.
 Tastes
 Population and demographics
Demographics The characteristics of a
population with respect to age, race, and
gender.
 Expected future prices
© 2007 Prentice Hall Business Publishing; Essentials of Economics, R. Glenn Hubbard, Anthony Patrick O’Brien
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CHAPTER 3: Where Prices Come From:
The Interaction of Demand and Supply
The Demand Side of the Market
Variables That Shift Market Demand
3-1
Variables That Shift Market
Demand Curves
© 2007 Prentice Hall Business Publishing; Essentials of Economics, R. Glenn Hubbard, Anthony Patrick O’Brien
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CHAPTER 3: Where Prices Come From:
The Interaction of Demand and Supply
The Demand Side of the Market
Variables That Shift Market Demand
3 - 1 (continued)
Variables That Shift Market
Demand Curves
© 2007 Prentice Hall Business Publishing; Essentials of Economics, R. Glenn Hubbard, Anthony Patrick O’Brien
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CHAPTER 3: Where Prices Come From:
The Interaction of Demand and Supply
The Demand Side of the Market
A Change in Demand versus a Change in Quantity
Demanded
3-5
A Change in Demand versus a
Change in the Quantity Demanded
© 2007 Prentice Hall Business Publishing; Essentials of Economics, R. Glenn Hubbard, Anthony Patrick O’Brien
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2 LEARNING OBJECTIVE
CHAPTER 3: Where Prices Come From:
The Interaction of Demand and Supply
The Supply Side of the Market
Quantity supplied The quantity of a good or
service that a firm is willing to supply at a given
price.
Supply Schedules and Supply Curves
Supply schedule A table that shows the
relationship between the price of a product and the
quantity of the product supplied.
Supply curve A curve that shows the relationship
between the price of a product and the quantity of the
product demanded.
© 2007 Prentice Hall Business Publishing; Essentials of Economics, R. Glenn Hubbard, Anthony Patrick O’Brien
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CHAPTER 3: Where Prices Come From:
The Interaction of Demand and Supply
The Supply Side of the Market
3-6
Hewlett-Packard’s Supply
Schedule and Supply Curve
© 2007 Prentice Hall Business Publishing; Essentials of Economics, R. Glenn Hubbard, Anthony Patrick O’Brien
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CHAPTER 3: Where Prices Come From:
The Interaction of Demand and Supply
The Supply Side of the Market
Individual Supply and Market Supply
3-7
Deriving the Market Supply Curve
from the Individual Supply Curves
© 2007 Prentice Hall Business Publishing; Essentials of Economics, R. Glenn Hubbard, Anthony Patrick O’Brien
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CHAPTER 3: Where Prices Come From:
The Interaction of Demand and Supply
The Supply Side of the Market
The Law of Supply
Law of supply Holding everything
else constant, increases in price
cause increases in the quantity
supplied, and decreases in price
cause decreases in the quantity
supplied.
© 2007 Prentice Hall Business Publishing; Essentials of Economics, R. Glenn Hubbard, Anthony Patrick O’Brien
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CHAPTER 3: Where Prices Come From:
The Interaction of Demand and Supply
The Supply Side of the Market
Variables That Shift Supply
 Price of inputs
 Technological change
3-8
Shifting the Supply Curve
A positive or negative change
in the ability of a firm to
produce a given level of
output with a given amount of
inputs.
 Prices of substitutes in
production
 Expected future prices
 Number of firms in the
market
© 2007 Prentice Hall Business Publishing; Essentials of Economics, R. Glenn Hubbard, Anthony Patrick O’Brien
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CHAPTER 3: Where Prices Come From:
The Interaction of Demand and Supply
The Supply Side of the Market
Variables That Shift Supply
3-2
Variables That Shift Market
Supply Curves
© 2007 Prentice Hall Business Publishing; Essentials of Economics, R. Glenn Hubbard, Anthony Patrick O’Brien
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CHAPTER 3: Where Prices Come From:
The Interaction of Demand and Supply
The Supply Side of the Market
Variables That Shift Supply
3 - 2 (continued)
Variables That Shift Market
Supply Curves
© 2007 Prentice Hall Business Publishing; Essentials of Economics, R. Glenn Hubbard, Anthony Patrick O’Brien
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The Supply Side of the Market
CHAPTER 3: Where Prices Come From:
The Interaction of Demand and Supply
A Change in Supply versus a Change in Quantity Supplied
3-9
The Difference between a Change
in Supply versus a Change in the
Quantity Supplied
© 2007 Prentice Hall Business Publishing; Essentials of Economics, R. Glenn Hubbard, Anthony Patrick O’Brien
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3 LEARNING OBJECTIVE
CHAPTER 3: Where Prices Come From:
The Interaction of Demand and Supply
Market Equilibrium: Putting Demand and Supply Together
3 - 10
Market Equilibrium
Market equilibrium A
situation where quantity
demanded equals
quantity supplied.
Competitive market
equilibrium A market
equilibrium with many
buyers and many sellers.
© 2007 Prentice Hall Business Publishing; Essentials of Economics, R. Glenn Hubbard, Anthony Patrick O’Brien
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CHAPTER 3: Where Prices Come From:
The Interaction of Demand and Supply
Market Equilibrium: Putting Demand and Supply Together
How Markets Eliminate Surpluses and Shortages
3 - 11
Surplus A situation in
which the quantity supplied is
greater than the quantity
demanded.
The Effect of Surpluses and
Shortages on the Market Price
Shortage A situation in
which the quantity demanded
is greater than the quantity
supplied.
© 2007 Prentice Hall Business Publishing; Essentials of Economics, R. Glenn Hubbard, Anthony Patrick O’Brien
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4 LEARNING OBJECTIVE
CHAPTER 3: Where Prices Come From:
The Interaction of Demand and Supply
The Effect of Demand and Supply Shifts on Equilibrium
The Effect of Shifts in Supply on Equilibrium
3 - 12
The Effect of a Decrease in Supply
on Equilibrium
© 2007 Prentice Hall Business Publishing; Essentials of Economics, R. Glenn Hubbard, Anthony Patrick O’Brien
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CHAPTER 3: Where Prices Come From:
The Interaction of Demand and Supply
3-4
The Falling Price of Large
Flat-Screen Televisions
Corning’s breakthrough
spurred the manufacture of
LCD televisions in Taiwan,
South Korea, and Japan,
and an eventual decline in
price.
© 2007 Prentice Hall Business Publishing; Essentials of Economics, R. Glenn Hubbard, Anthony Patrick O’Brien
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CHAPTER 3: Where Prices Come From:
The Interaction of Demand and Supply
The Effect of Demand and Supply Shifts on Equilibrium
The Effect of Shifts in Demand on Equilibrium
3 - 13
The Effect of an Increase in
Demand on Equilibrium
© 2007 Prentice Hall Business Publishing; Essentials of Economics, R. Glenn Hubbard, Anthony Patrick O’Brien
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CHAPTER 3: Where Prices Come From:
The Interaction of Demand and Supply
The Effect of Demand and Supply Shifts on Equilibrium
The Effect of Shifts in Demand and Supply over Time
3 - 14
Shifts in Demand and Supply over Time
© 2007 Prentice Hall Business Publishing; Essentials of Economics, R. Glenn Hubbard, Anthony Patrick O’Brien
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CHAPTER 3: Where Prices Come From:
The Interaction of Demand and Supply
The Effect of Demand and Supply Shifts on Equilibrium
The Effect of Shifts in Demand and Supply over Time
3 - 15
The Demand for Chicken
Has Increased More
Than the Supply
© 2007 Prentice Hall Business Publishing; Essentials of Economics, R. Glenn Hubbard, Anthony Patrick O’Brien
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