Download 2nd Ed Chapter 2

Chapter 2
Microeconomic Principles
2.1 The Difference between
Macroeconomics and Microeconomics
2.2 Supply and Demand
2.3 Price Elasticity
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The Difference Between
Macroeconomics and Microeconomics
Macroeconomics is the study of
economy-wide factors such as
inflation, unemployment and
economic growth.
Microeconomics deals with
specific economic agents, such as
particular firms and particular
consumers, and investigates how
they behave in specific industries.
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Demand
Amount of a good a
consumer or market is
willing to buy at a
specific price.
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The quantity of a good
demanded will change
due to:
• A change in price.
• A change in conditions
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Demand Schedule
The demand schedule shows how much an individual is
willing and able to purchase as price changes.
Price of mangoes
($)
0.20
0.40
0.60
0.80
1.00
1.20
1.40
1.60
1.80
Quantity of
mangoes
Demanded
9
8
7
6
5
4
3
2
1
• Notice that as price rises demand falls. This is the law
of demand
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Demand Curve
The demand curve is a graphical
representation of the demand schedule.
Price is always on the vertical axis and
Quantity is always on the horizontal axis.
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Demand Curve
Shows the relationship between the quantity of a good
demanded and the price of that good.
• Typically downward sloping.
• As price rises the quantity demanded decreases.
• As price falls the quantity demanded increases.
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Determinants of Demand
Determinants of
Demand
• Price of
substitute goods
• Income
• Advertising
• Tastes
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The Supply Curve
Supply is the number of units of a particular good or service a
producer or the market will choose to supply at a given price.
The quantity supplied will change for two reasons:
– A change in price.
– A change in conditions.
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The Supply Curve
The supply curve is upward-sloping.
• As price rises, the quantity supplied also rises as it is more
profitable to supply more units
• As price falls, the quantity supplied decreases, as it is less
profitable to produce.
This is the law of supply.
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The Supply Curve
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Factors that Determine Supply
Input Prices
Technology
Expectations
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Shifts vs. Movements Along the Curve
• A change in conditions such as income, tastes, or advertising will shift the
curve to the left or right.
• A change in price will result in a movement along the demand curve.
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Shifts vs. Movements along the
Supply Curve
Any change in conditions such as input prices, technology
or expectations of sales will cause the supply curve to shift
to the right or left.
A change in price will cause a movement along the curve.
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Supply and Demand Together
When consumers and producers come together in a market,
supply and demand interact to create an equilibrium price and
quantity sold.
The market equilibrium is where the demand curve and the
supply curve intersect.
Equilibrium price is often referred to as the market clearing
price, as everything that producers are willing to supply is sold
and everything that consumers are willing to buy is bought.
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Demand and Supply Together
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Equilibrium is Efficient
Equilibrium is what economists refer to as an efficient
outcome.
An efficient outcome it is the best possible total outcome
that can be achieved for society or the market as a whole.
In an efficient outcome no-one can be made better off
without making someone else worse off.
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Price Elasticity
Measures how much the quantity of a good demanded
changes in response to a change in price.
Demand for a good is price elastic if the quantity demanded
responds significantly to a change in price.
Demand for a good is inelastic if the quantity demanded
does not respond significantly to a change in price.
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Determinants of Price Elasticity of
Demand
Availability of substitute goods.
Necessity vs. Luxury. Necessities will be more price inelastic
than luxury items. Luxury items tend to be highly price
elastic.
Duration. Over time goods will become more price elastic
as consumers find ways to substitute away from more
expensive options.
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Calculation of Price Elasticity
Price Elasticity of Demand =
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Percentage change in quantity demanded
__________________________________
Percentage change in Price
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How Elasticity Affects the Demand Curve
• The more inelastic demand is for a good the steeper the
demand curve will be.
• The more elastic the demand for a good the flatter the
demand curve will be.
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Price Elasticity of Supply
Price elasticity of supply measures the extent to which a change
in price causes a change in the quantity supplied.
• Depends on how easy it is for firms or producers to change
their level of production after there is change in price.
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Determinants of the Price Elasticity of
Supply
Supply is more price elastic over the long-term as over
long periods of time it becomes easier to change levels
of production.
Rare items such as precious stones, famous artworks or
premium land may be more supply inelastic to price as it
is difficult to produce more of these goods.
Complex goods or goods that take time to produce such as
cars or crops will be more supply inelastic as it is difficult
to change production volume in a short period of time.
Goods that are easy to produce such as books, will be
more supply elastic as extra units can be produced
quickly and easily to adjust to changes in price.
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Calculating the Price Elasticity of Supply
Price Elasticity of Supply = Percentage change in quantity supplied
Percentage change in price
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Price Elasticity and the Slope of the
Supply Curve
• The lower the elasticity (the more price inelastic supply is), the
steeper the slope of the supply curve.
• The higher the elasticity (the more price elastic supply is), the
flatter the supply curve.
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