PART 2

MICROECONOMICS –
THE MARKET SYSTEM

For use with Business Economics 3e ISBN: 978-1-4737-6277-0 1 of 38

By N. Gregory Mankiw, Mark P. Taylor, and Andrew Ashwin © Cengage Learning
 SUPPLY AND DEMAND: HOW MARKETS
4 WORK

For use with Business Economics 3e ISBN: 978-1-4737-6277-0 2Chapter

of 38 4 Slide 2
By N. Gregory Mankiw, Mark P. Taylor, and Andrew Ashwin © Cengage Learning
 1. Market Forces of
Supply and Demand

For use with Business Economics 3e ISBN: 978-1-4737-6277-0 3Chapter

of 38 4 Slide 3
By N. Gregory Mankiw, Mark P. Taylor, and Andrew Ashwin © Cengage Learning
Market Forces of Supply and
Demand
 Supply and demand are the forces that make
market economies work.
 Supply and demand determine the quantity of
each good produced and the price at which it is
sold.
• Price is the amount of money a buyer (a business or a
consumer) has to give up in order to acquire something.

 Price is different from cost.

• Cost refers to the payment to factor inputs in production.

For use with Business Economics 3e ISBN: 978-1-4737-6277-0 4Chapter

of 38 4 Slide 4
By N. Gregory Mankiw, Mark P. Taylor, and Andrew Ashwin © Cengage Learning
2. Markets and Competition

For use with Business Economics 3e ISBN: 978-1-4737-6277-0 5Chapter

of 38 4 Slide 5
By N. Gregory Mankiw, Mark P. Taylor, and Andrew Ashwin © Cengage Learning
Types of Markets
 Markets exist in many forms.
 Market have buyers and sellers.
 Buyers and sellers don’t have to meet to
make a deal.
 A competitive market has many buyers and
sellers, none has a significant impact on
determining the market price.

For use with Business Economics 3e ISBN: 978-1-4737-6277-0 6Chapter

of 38 4 Slide 6
By N. Gregory Mankiw, Mark P. Taylor, and Andrew Ashwin © Cengage Learning
Other market structures:
 Oligopoly: A few sellers not always aggressively
competing with each other
 Imperfect or monopolistic market: Many sellers
each offering a slightly different product.
 Monopoly: One supplier or buyer.
(Will be tackled in a later chapter)

For use with Business Economics 3e ISBN: 978-1-4737-6277-0 7Chapter

of 38 4 Slide 7
By N. Gregory Mankiw, Mark P. Taylor, and Andrew Ashwin © Cengage Learning
perfectly competitive market:
Characteristics of a perfectly competitive market:
- Many buyers and sellers.
-Price takers:
Numerous buyers and sellers, each unable to
influence prices.
-Homogenous goods: Goods offered are all
the same.
-Freedom of entry and exit.
-Perfect information.

For use with Business Economics 3e ISBN: 978-1-4737-6277-0 8Chapter

of 38 4 Slide 8
By N. Gregory Mankiw, Mark P. Taylor, and Andrew Ashwin © Cengage Learning
 3. Demand

For use with Business Economics 3e ISBN: 978-1-4737-6277-0 9Chapter

of 38 4 Slide 9
By N. Gregory Mankiw, Mark P. Taylor, and Andrew Ashwin © Cengage Learning
The Relationship Between Price and Quantity
Demanded
 The quantity demanded is the amount of the good that buyers
are willing and able to purchase at each price level.
 Law of demand. When the price of a good:
• Rises, the quantity demanded of the good falls.
• Falls, the quantity demanded rises.

A demand schedule
shows the relationship
between the price of a
good and the quantity
demanded.

For use with Business Economics 3e ISBN: 978-1-4737-6277-0 10Chapter

of 38 4 Slide 10
By N. Gregory Mankiw, Mark P. Taylor, and Andrew Ashwin © Cengage Learning
The Relationship Between Price and Quantity
Demanded

 The demand curve

is a graphical
display of the
demand schedule.
 This graph is
constructed from
the demand
schedule in the
previous slide.

For use with Business Economics 3e ISBN: 978-1-4737-6277-0 11Chapter

of 38 4 Slide 11
By N. Gregory Mankiw, Mark P. Taylor, and Andrew Ashwin © Cengage Learning
Market Demand Versus Individual Demand

 The market demand is the sum of all the individual demands for a
particular good or service.

For use with Business Economics 3e ISBN: 978-1-4737-6277-0 12Chapter

of 38 4 Slide 12
By N. Gregory Mankiw, Mark P. Taylor, and Andrew Ashwin © Cengage Learning
 Market Demand Versus Individual Demand

 The market demand curve shows

how the total quantity demanded of
a good varies with the price of the
good, holding constant all other
factors that affect how much
consumers want to buy.

For use with Business Economics 3e ISBN: 978-1-4737-6277-0 13Chapter

of 38 4 Slide 13
By N. Gregory Mankiw, Mark P. Taylor, and Andrew Ashwin © Cengage Learning
4. Shifts Versus Movements Along
the Demand Curve

For use with Business Economics 3e ISBN: 978-1-4737-6277-0 14Chapter

of 38 4 Slide 14
By N. Gregory Mankiw, Mark P. Taylor, and Andrew Ashwin © Cengage Learning
Movement Along the Demand Curve

 A movement along the demand curve occurs when

there is a change in price.
 A fall in price will lead to an increase in the quantity
demanded because of:
• Income effect: A fall in the price of a good means the consumers
of that good can buy more with their income.
• Substitution effect: Producers of more expensive equivalent
goods will choose to substitute the more expensive varieties with
the now cheaper good.

For use with Business Economics 3e ISBN: 978-1-4737-6277-0 15Chapter

of 38 4 Slide 15
By N. Gregory Mankiw, Mark P. Taylor, and Andrew Ashwin © Cengage Learning
Causes of Shifts in the Demand Curve
 A shift in the demand curve is caused by a factor affecting
demand other than a change in price.
 This includes…
• Incomes.
o Normal goods
o Inferior goods

• Prices of related goods.

o Substitutes (When a fall in the price of one good reduces the demand
for another good)
o Complements (When a fall in the price of one good raises the
demand for another good)

- Tastes.
- Expectations.
- Size and structure of the population.
For use with Business Economics 3e ISBN: 978-1-4737-6277-0 16Chapter
of 38 4 Slide 16
By N. Gregory Mankiw, Mark P. Taylor, and Andrew Ashwin © Cengage Learning
 Shifts in the Demand Curve
Price of
rape seed
per tonne
(€)

Decrease in Increase in demand

demand

Demand Curve, D2

Demand Curve, D3 Demand Curve, D1

Quantity demanded (000s tonnes)

For use with Business Economics 3e ISBN: 978-1-4737-6277-0 17Chapter

of 38 4 Slide 17
By N. Gregory Mankiw, Mark P. Taylor, and Andrew Ashwin © Cengage Learning
 5. Supply

For use with Business Economics 3e ISBN: 978-1-4737-6277-0 18Chapter

of 38 4 Slide 18
By N. Gregory Mankiw, Mark P. Taylor, and Andrew Ashwin © Cengage Learning
The Relationship Between Price and Quantity Supplied
 The quantity supplied is the amount that
sellers are willing and able to sell.
 Law of supply. When the price of a good:
• Rises, the quantity producers are willing to
supply also rises.
• Falls, the quantity supplied falls as well.
 The supply schedule shows the
relationship between price and the
quantity supplied.
 The supply curve is a graphical display
of the supply schedule.

For use with Business Economics 3e ISBN: 978-1-4737-6277-0 19Chapter

of 38 4 Slide 19
By N. Gregory Mankiw, Mark P. Taylor, and Andrew Ashwin © Cengage Learning
Market Supply Versus Individual Supply

 Market supply is the sum of the supplies of all

sellers.
• The behaviour of one individual business may be different
from the whole industry.

 A movement along the supply curve is caused by a

change in price.
 A shift in the supply curve is caused by a factor
affecting supply other than a change in price.

For use with Business Economics 3e ISBN: 978-1-4737-6277-0 20Chapter

of 38 4 Slide 20
By N. Gregory Mankiw, Mark P. Taylor, and Andrew Ashwin © Cengage Learning
Market Supply Versus Individual Supply

For use with Business Economics 3e ISBN: 978-1-4737-6277-0 21Chapter

of 38 4 Slide 21
By N. Gregory Mankiw, Mark P. Taylor, and Andrew Ashwin © Cengage Learning
6. Shifts Versus Movements Along
the Supply Curve

For use with Business Economics 3e ISBN: 978-1-4737-6277-0 22Chapter

of 38 4 Slide 22
By N. Gregory Mankiw, Mark P. Taylor, and Andrew Ashwin © Cengage Learning
Shifts in the Supply Curve
 Input prices
Example:
Cheaper inputs will increase the supply at each and
every price level.

 Technology
 Expectations
 The number of sellers
 Natural / social factors
Example:
Bad weather will reduce the supply of crops.

For use with Business Economics 3e ISBN: 978-1-4737-6277-0 23Chapter

of 38 4 Slide 23
By N. Gregory Mankiw, Mark P. Taylor, and Andrew Ashwin © Cengage Learning
 Shifts in the Supply Curve
Price of rape
seed per tonne Supply Curve, S3
Supply Curve,
(€)
S1 Supply Curve, S2

Decrease in Increase in Supply

Supply

The price variable is represented

by a movement along the supply
curve whilst change in the other
variables e.g. technology,
expectations leads to shift of the
supply curve.

Quantity supplied (000s tonnes)

For use with Business Economics 3e ISBN: 978-1-4737-6277-0 24Chapter

of 38 4 Slide 24
By N. Gregory Mankiw, Mark P. Taylor, and Andrew Ashwin © Cengage Learning
7. Demand and Supply Together

For use with Business Economics 3e ISBN: 978-1-4737-6277-0 25Chapter

of 38 4 Slide 25
By N. Gregory Mankiw, Mark P. Taylor, and Andrew Ashwin © Cengage Learning
 Demand and Supply Together
 Equilibrium: Price
where quantity
supplied equals
quantity demanded.
 From where the
supply and demand
curves intersect,
drawing a….
• Horizontal line
provides the
equilibrium price.
• Vertical line provides
the equilibrium
quantity bought and
sold.

For use with Business Economics 3e ISBN: 978-1-4737-6277-0 26Chapter

of 38 4 Slide 26
By N. Gregory Mankiw, Mark P. Taylor, and Andrew Ashwin © Cengage Learning
Demand and Supply Together
 If the market price was set:
Above the equilibrium price Below the equilibrium price
there would be a surplus. there would be a shortage.

The law of supply and demand claims that price adjusts so that the
equilibrium point is reached

For use with Business Economics 3e ISBN: 978-1-4737-6277-0 27Chapter

of 38 4 Slide 27
By N. Gregory Mankiw, Mark P. Taylor, and Andrew Ashwin © Cengage Learning
Three Steps to Analyze Changes in Equilibrium

 Decide whether the event shifts the supply or

demand curve or both.

 Decide in which direction the curve shifts.

 Use a supply and demand diagram to see how
the shift changes the equilibrium price and
quantity.

For use with Business Economics 3e ISBN: 978-1-4737-6277-0 28Chapter

of 38 4 Slide 28
By N. Gregory Mankiw, Mark P. Taylor, and Andrew Ashwin © Cengage Learning
Understanding Movements and Shifts
 Movements along either the demand curve or the
supply curve are caused by changes in prices.

 A movement along the:

• Supply curve is called a change in the quantity
supplied.
• Demand curve is called a change in the quantity
demanded.
 A shift in either the demand curve or supply curve
is caused by non-price factors:
• A shift is referred to either a change in demand or a
change in supply.

For use with Business Economics 3e ISBN: 978-1-4737-6277-0 29Chapter

of 38 4 Slide 29
By N. Gregory Mankiw, Mark P. Taylor, and Andrew Ashwin © Cengage Learning
8. How Prices Allocate Resources

For use with Business Economics 3e ISBN: 978-1-4737-6277-0 30Chapter

of 38 4 Slide 30
By N. Gregory Mankiw, Mark P. Taylor, and Andrew Ashwin © Cengage Learning
How Prices Allocate Resources
 Markets are dynamic and changing all the time.
 For many markets, the equilibrium point is continually
changing.
• Look at the market for currency or commodities.
 Prices allocate resources.
• Whenever you go to a shop to buy something, you are
contributing to the demand for that item. Scarce resources
have to be allocated among competing uses.
• Supply and demand together determine the prices of the
economy’s many different goods and services. Prices in
turn are the signals that guide the allocation of resources.

For use with Business Economics 3e ISBN: 978-1-4737-6277-0 31Chapter

of 38 4 Slide 31
By N. Gregory Mankiw, Mark P. Taylor, and Andrew Ashwin © Cengage Learning
 End of Chapter 4

For use with Business Economics 3e ISBN: 978-1-4737-6277-0 32Chapter

of 38 4 Slide 32
By N. Gregory Mankiw, Mark P. Taylor, and Andrew Ashwin © Cengage Learning