Introduction to Macroeconomics

Chapter 3.
Microeconomic Laws of
Demand and Supply
Chapter 3. Laws of Demand & Supply

1. Markets and the Role of Prices

2. Microeconomic Demand and Supply
– Demand
– Supply
3. Demand - Supply Equilibrium
– Equilibrium
– Disequilibrium
4. Shifts in Demand and Supply Curves
5. Case Studies

Introduction to Macroeconomics
1. Markets and the Role of Prices

• Competitive Free Market - many

suppliers and many consumers
(competitive) engaged in trade without
government interference (free).

• Prices - provide a means of

communication between suppliers and
consumers regarding scarcity and wants.

Introduction to Macroeconomics
2. Micro Demand and Supply

• Demand
– Law of Demand
– Demand curve
– Ceteris paribus assumption

• Supply
– Law of Supply
– Supply curve
– Ceteris paribus assumption

Introduction to Macroeconomics
2. Micro Demand and Supply
Law of Demand

• As the price of a product declines

relative to the price of all other goods,
the quantity demanded will increase,
ceteris paribus.

• The demand curve, a graphic

representation of the Law of Demand,
slopes downward to the right

Introduction to Macroeconomics
2. Micro Demand and Supply
Demand Curve

50
As price declines
40 the quantity demanded increases
Product Price

30

20

10 Demand

0
0 10 20 30 40 50 60

Quantity Demanded

Introduction to Macroeconomics
2. Micro Demand and Supply
Demand Curve Ceteris Paribus Assumption

All other non-price factors that can

affect demand are unchanged:

• Prices of all other goods

• Income
• Tastes

Introduction to Macroeconomics
2. Micro Demand and Supply
Law of Supply

• As the price of a product declines

relative to the price of all other goods,
the quantity supplied will decline,
ceteris paribus.

• The supply curve, a graphic

representation of the Law of Supply,
slopes upward to the right

Introduction to Macroeconomics
2. Micro Demand and Supply
Supply Curve

50 As price increases
the quantity supplied increases Supply
40
Product Price

30

20

10

0
0 10 20 30 40 50 60

Quantity Supplied

Introduction to Macroeconomics
2. Micro Demand and Supply
Supply Curve Ceteris Paribus Assumption

All other non-price factors that

can affect supply are unchanged:
• Prices of all inputs
– labor, raw materials, cost of capital

• Prices of all other goods

• Technology
• Environment (e.g., weather)
Introduction to Macroeconomics
3. Demand - Supply Equilibrium

• Equilibrium
• Disequilibrium
– Price floor
– Price ceiling

Introduction to Macroeconomics
3. Demand - Supply Equilibrium
Equilibrium
Price at which quantity supplied equals the quantity demanded
50

40 Supply
Product Price

30
Equilibrium
20

10 Demand

0
0 10 20 30 40 50 60

Quantity

Introduction to Macroeconomics
3. Demand - Supply Equilibrium
Disequilibrium
• Price above the equilibrium level
– quantity demanded < quantity supplied
– surplus (inventory build)
– price floor: price prevented from
dropping to equilibrium level

• Price below the equilibrium level

– quantity demanded > quantity supplied
– shortage (inventory declines)
– price ceiling: price prevented from
Introduction to Macroeconomics
rising to equilibrium level
3. Demand - Supply Equilibrium
Price Floor
50
Demand Supply
40
Product Price

Price
30 Floor

20

10

0
0 10 20 30 40 50 60

Quantity

Quantity Demanded < Quantity Supplied

Introduction to Macroeconomics = Surplus
3. Demand - Supply Equilibrium
Price Ceiling
50
Demand Supply
40
Product Price

30

20
Price
Ceiling
10

0
0 10 20 30 40 50 60

Quantity

Quantity Supplied < Quantity Demanded

Introduction to Macroeconomics = Shortage
4. Shifts in Demand and Supply Curves

• Demand Curve
– Demand vs quantity demanded
– Demand curve shifters

• Supply Curve
– Supply vs quantity supplied
– Supply curve shifters

• Change in equilibrium

Introduction to Macroeconomics
4. Shifts in Demand and Supply Curves
Demand vs Quantity Demanded

• “Quantity Demanded” refers to a

point on the demand curve. A
“Change in Quantity Demanded”
refers to a movement along a stable
demand curve

• “Demand” refers to the entire curve. A

“Change in Demand” refers to a shift
in the demand curve.

Introduction to Macroeconomics
4. Shifts in Demand and Supply Curves
Change in Quantity Demanded
A change in price
results in a movement along a demand curve
50
As price declines
40 the quantity demanded increases
Product Price

30

20

10 Demand

0
0 10 20 30 40 50 60

Quantity Demanded

Introduction to Macroeconomics
4. Shifts in Demand and Supply Curves
Change in Demand
A change in anything except price
that affects the quantity demanded
results in a shift of the demand curvve
50

40 Increase in Demand:
Product Price

Demand Curve Shifts Right

30

20

10

0
0 10 20 30 40 50 60

Quantity
Introduction to Macroeconomics
4. Shifts in Demand and Supply Curves
Demand Curve Shifters

A change in any variable listed under

the Ceteris Paribus assumptions
Change in Demand Curve
Variable Shift

See following slide on

Income
Normal and Inferior Goods

Increase in
Tastes Right
Preference

Prices of See following slide on

Related Goods Complements and Substitutes

Introduction to Macroeconomics
4. Shifts in Demand and Supply Curves
Income: Normal and Inferior Goods

Demand curve will shift with change

in income

• Normal Good - as income increases,

demand for the good also increases
(demand curve shifts right)

• Inferior Good - as income increases,

demand for the good decreases
(demand curve shifts left)

Introduction to Macroeconomics
4. Shifts in Demand and Supply Curves
Price of Related Goods

Demand curve will shift with change in

price of related goods
• Complements in Demand - demand
decreases as price of complement increases
– big cars and gasoline

• Substitutes in Demand- demand increases

as price of substitute increases
– butter and margerine

Introduction to Macroeconomics
4. Shifts in Demand and Supply Curves
Supply vs Quantity Supplied

• “Quantity Supplied” refers to a point

on the supply curve. A “Change in
Quantity Supplied” refers to a
movement along a stable supply
curve.
• “Supply” refers to the entire curve. A
“Change in Supply” refers to a shift in
the supply curve.

Introduction to Macroeconomics
4. Shifts in Demand and Supply Curves
Change in Quantity Supplied
A change in price
results in a movement along a supply curve
50

40 As price declines the quantity Supply

Product Price

supplied decreases
30

20

10

0
0 10 20 30 40 50 60

Quantity
Introduction to Macroeconomics
4. Shifts in Demand and Supply Curves
Change in Supply
A change in anything except price
that affects the quantity supplied
50 results in a shift of the supply curvve

40 Increase in Supply:
Product Price

Supply Curve Shifts Right

30

20

10

0
0 10 20 30 40 50 60

Quantity
Introduction to Macroeconomics
4. Shifts in Demand and Supply Curves
Supply Curve Shifters
A change in any variable listed under the
Ceteris Paribus assumptions
Change in Supply Curve
Variable Shift
Price of Inputs Increase Left

Technology Improvement Right

Weather Hurricane Left

Prices of See next slide on complements

Related Goods and substitutes

Introduction to Macroeconomics
 4. Shifts in Demand and Supply Curves
Complements and Substitutes in Supply

Supply curve will shift with change in price of

related goods in the production process

• Complements in Supply - supply increases as

price of the complement increases
– beef and leather

• Substitutes in Supply - supply decreases as

price of the substitute increases
– wheat and rye

Introduction to Macroeconomics
4. Shifts in Demand and Supply Curves
Supply Curve Shift and Equilibrium

50 Supply Curve
Demand Shifts Right
40
Product Price

30
Decrease in
20 Price

10 Increase in
Quantity
0
0 10 20 30 40 50 60

Quantity

Introduction to Macroeconomics
5. Case Studies

• Recessions and microeconomic

markets
• Rent control
• Import quotas

Introduction to Macroeconomics