MBA 505 ECONOMICS AND PUBLIC POLICY
Chapter 3 BASIC ELEMENTS
OF SUPPLY AND DEMAND
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Key Words
| market |
substitute goods |
disequilibrium |
sole proprietorship |
| barter |
complementary goods |
surplus |
partnership |
| double coincidence of wants |
exchange rate |
shortage |
corporation |
| transaction costs |
supply |
price floor |
multinational business |
| relative price |
quantity supplied |
price ceiling |
investment |
| demand |
law of supply |
consumer sovereignty |
imports |
| quantity demanded |
determinants of supply |
private sector |
exports |
| law of demand |
supply schedule |
public sector |
trade surplus |
| determinants of demand |
supply curve |
household |
trade deficit |
| demand schedule |
productivity |
consumption |
net exports |
| demand curve |
equilibrium |
business firm |
financial intermediaries |
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1. Markets
Markets are places where buyers and sellers meet and decide
on prices and quantities for exchanging goods and services.
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2. Demand
The Law of Demand - for a given, well-defined good or service,
the quantity demanded, that is, the quantity consumers are willing and
able to buy, decreases as the price is increased, ceteris paribus.
The Demand Schedule - a table of the quantities demanded at different
prices.
The Demand Curve - a graph of the demand schedule. Price is always
on the vertical axis, quantity is on the horizontal axis. Price and quantity
have an inverse relationship along the demand curve, thus the demand curve
is downward sloping.
| Geoffrey
Gerdes's Consumer Choice JAVA Applet Indifference curves illustrate
constant levels of utility. Given a certain budget, the amount of
two goods we can buy is limited and changes whenever one or both of the
prices change. This affects the level of utility we can achieve.
Utility is maximized by chosing the combination of the two goods that reaches
the highest indifference curve, representing the highest level of utility. |
Geoffrey
Gerdes's Demand Curve Derivation JAVA Applet
If we change the price of one of the two goods, holding the other price
constant (ceteris paribus assumption) then we can see what quantity
we will buy to maximize our utility. Given the way individuals maximize
utility or satisfaction, as the price of a good rises, the quantity demanded
by the individual must fall. This provides a downward-sloping demand
curve at the individual level. |
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Changes in demand v. changes in the quantity demanded: A
change
in demand is a shift of the demand curve to the left or right, which
requires a change in one of
the determinants of demand:
income,
tastes, prices of related goods,
expectations, and
the number of buyers.
A change in the quantity demanded is a movement along the horizontal
axis.
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Market v. individual demand curves: The market demand curve
is arrived at from the horizontal addition of the individual consumers'
demand curves.
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3. Supply
The Law of Supply - The quantity of goods and services producers
sell increases as the price increases, ceteris paribus.
The Supply Schedule - a table of the quantities supplied at different
prices.
The Supply Curve - a graph of the supply schedule. Just like the
demand curve, price is always on the vertical axis, quantity is on the
horizontal axis. Price and quantity have a direct relationship along the
supply curve, thus the supply curve is upward sloping.
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Changes in supply v. changes in the quantity supplied: A
change
in supply is a shift of the supply curve to the left or right, which
requires a change in one of the
determinants of supply:
resource prices,
technology,
producer expectations,
the number of producers, or
prices of related goods.
A change in the quantity supplied is a movement along the horizontal
axis.
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Market v. individual supply curves: The market supply curve
is arrived at from the horizontal addition of the individual producers'
supply curves.
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4. Equilibrium
Equilibrium occurs when the quantity supplied equals the
quantity demanded at a set price.
Disequilibrium can occur naturally for short periods of time. Shortage
occurs when the quantity demanded exceeds the quantity supplied at a certain
price. Equilibrium can be achieved by raising the price. Surplus occurs
when the quantity supplied exceeds the quantity demanded at a certain price.
Equilibrium can be achieved by lowering the price. Price ceilings and floors,
if they are effective, succeed in moving a market out of equilibrium and
create either shortages or surpluses. An ineffective price ceiling would
be one set higher than the current price. The price ceiling would only
become effective if the equilibrium price rose above the ceiling. Then
a shortage would occur.
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5. The Market System
Consumer sovereignty - consumers decide what is produced
because if producers provide
something consumers don't want, producers lose money and resources
are wasted.
Profit and the allocation of resources - resources tend to flow to
the activities which provide the greatest income.
The flow of resources - households own resources and sell resource
services to firms.
The determination of income - households' income is determined by
the returns received for resources.
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6. Households
A household is one of the basic units in economics and consists
of one or more people of any relationship who share a unit of housing.
Household spending or consumption spending accounts for about two-thirds
of total spending in the U.S. economy.
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7. Business firms
Three kinds:
1. Sole proprietorship - one owner with unlimited liability for
the obligations of the business.
2. Partnership - two or more owners, normally with unlimited liability
for each other’s actions.
3. Corporation - many owners or shareholders with limited liability
for the corporation’s actions and obligations.
Investment is business firms’ spending on plant and equipment. |
| 8. The International Sector
Types of countries
Formerly -
Industrial (the first world)
Communist (the second world)
Developing or undeveloped (the third world)
Today-
Industrial (post-industrial?)
Developing
Some countries transitioning from developing to industrial are described
as Newly Industrialized Countries (NICs). Mexico is an example of a NIC. |
| 9. Linking the Sectors
Households own resources or factors of production. They sell resource
services to business firms. This provides the households with income,
which is used to purchase the goods and services produced by the
firms. The relationship between households and firms, including the flows
of resources, goods and services, and payments, is shown by a circular
flow of payments diagram. |
