Lecture 4

1
Economics
6th edition, Global Edition
Chapter 3
Where Prices Come From:
The Interaction of Demand
and Supply
Copyright © 2017 Pearson Education, Ltd. All rights reserved.

2
Chapter Outline
3.3 Market Equilibrium: Putting Demand and Supply
Together
3.4 The Effect of Demand and Supply Shifts on Equilibrium

3
Recap: What Determines the Price of a

Smartphone?
–Demand for smartphones

• How many smartphones do consumers want to buy?
• Affected by price of the smartphones
• Affected by other factors, including prices of other goods
–Supply of smartphones
• How many smartphones are producers willing to sell?
• Affected by price of the smartphones
• Affected by other factors, including prices of other goods

Recap: Increase and Decrease in
Demand
A change in something
other than price that
affects demand causes
the entire demand curve
to shift.
A shift to the right (D1 to

D2) is an increase in
demand.
A shift to the left (D1 to

D3) is a decrease in
demand. Figure 3.2 Shifting the demand curve
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Recap: What Factors Influence Market
Demand?
- Income of consumers
- Prices of related goods
- Tastes
- Population and demographics
- Expected future prices

Recap: Increase and Decrease in
Supply
Recap: Increase and Decrease in Supply
A change in something
other than price that
affects supply causes
the entire supply curve
to shift.
• A shift to the right (S1

to S3) is an increase
in supply.
• A shift to the left (S1

to S2) is a decrease
in supply. Figure 3.5 Shifting the supply curve
Variables
Recap:that ShiftFactors
What Market Supply
Influence Market
Supply?
- Prices of inputs
- Technological change
- Prices of substitutes in production
- Number of firms in the market
- Expected future prices

8
3.3 Market Equilibrium: Putting Demand

and Supply Together
Market equilibrium is a situation in which quantity demanded

equals quantity supplied.
Recall that markets with many buyers and sellers are perfectly
competitive markets; a market equilibrium in one of these markets
is called a competitive market equilibrium.
There are ~25 firms selling smartwatches; we will assume this is
enough to generate competitive behavior in the market for
smartwatches.

9
Figure 3.7 Market equilibrium
At a price of $350,
• consumers want to buy
5 million smartwatches, and
• producers want to sell 5
million smartwatches.
We say the equilibrium price in
this market is $350, and the
equilibrium quantity is 5 million
smarwatches per week.
Since buyers and sellers want
to trade the same quantity at
the price of $350, we do not
expect the price to change.
Disequlibrium: Market Surplus
A Market Surplus occurs when there is excess supply - that is

quantity supplied is greater than quantity demanded.
In this situation, some producers won't be able to sell all their

goods. This will induce them to lower their price to make their
product more appealing. In order to stay competitive many firms
will lower their prices thus lowering the market price for the
product.
In response to the lower price, consumers will increase their

quantity demanded, moving the market toward an equilibrium
price and quantity.
In this situation, excess supply has exerted downward pressure

on the price of the product.
Disequilibrium: Market Shortage
A Market Shortage occurs when there is excess demand -

that is quantity demanded is greater than quantity supplied.
In this situation, consumers won't be able to buy as much of a

good as they would like.
In response to the demand of the consumers, producers will

raise both the price of their product and the quantity they are
willing to supply. The increase in price will be too much for
some consumers and they will no longer demand the product.
Meanwhile the increased quantity of available product will

satisfy other consumers. Eventually equilibrium will be
reached.

12
Figure 3.8 The effect of surpluses on the market price
What if the price were

$400 instead?
At a price of $400,
• consumers want to
buy 4 million
smartwatches, while
• producers want to
sell 6 million.
This gives a surplus of 2 million smartwatches: a situation in
which quantity supplied is greater than quantity demanded.
Prediction: sellers will compete amongst themselves, driving the
price down.

13
Figure 3.8 The effect of shortages on the market price
Now what if the price

were $250?
At a price of $250,
• consumers want to
buy 7 million
smartwatches, while
• producers want to
sell 3 million.
This gives a shortage of 4 million smartwatches: a situation in
which quantity demanded is greater than quantity supplied.
Prediction: sellers will realize they can increase the price and still
sell as many smartphones, so the price will rise..

14
Demand and Supply Both Count
Price is determined by the interaction of buyers and sellers.
Neither group can dictate price in a competitive market (i.e. one

with many buyers and sellers).
However changes in supply and/or demand will affect the price

and quantity traded.

15
3.4 The Effect of Demand and Supply

Shifts on Equilibrium
Predictions 预测 about price and quantity in model require us to

know supply and demand curves.
Typically 通常 , we know price and quantity, but do not know the

curves that generate them.
The power of the demand and supply model is in its ability to

predict directional changes 方向变化 in price and quantity traded.

16
Figure 3.9 The effect of an increase in supply on

equilibrium
The graph shows the market
for smartwatches before
Apple enters the market.
When Apple enters, more
smartphones are supplied at
any given price—an increase
in supply from S1 to S2.
• Equilibrium price falls from

P1 to P2.
• Equilibrium quantity rises

from Q1 to Q2.

17
Figure 3.9 The effect of an increase in supply on

equilibrium
By how much will price

fall? By how much will
quantity rise?
We cannot say, without
knowing more
information.
For now, we can only
predict that price will
fall and quantity traded
will rise.

18
Figure 3.10 The effect of an increase in demand on

equilibrium
Suppose incomes
increase. What happens to
the equilibrium in the
smartwatch market?
Smartwatches are a normal
good, so as income rises,
demand shifts to the right
(D1 to D2).
• Equilibrium price rises

(P1 to P2).
• Equilibrium quantity
rises (Q1 to Q2).

19
Table 3.3 How shifts in demand and supply affect equilibrium

price (P) and quantity (Q)
The table summarizes what happens when the demand curve

shifts or the supply curve shifts, with the other curve remaining
unchanged.
20
Making the Connection: The falling price

of Blu-ray players
From 2006 to 2013, the price of Blu-ray players fell from about
$800 to about $95, while the number of Blu-ray players traded
increased dramatically.
What best explains this change?

A. Increase in demand
B. Decrease in demand
C. Increase in supply
D. Decrease in supply
Can you show this change on a supply-and-demand diagram?

21
Making the Connection: The falling price

of Blu-ray players
Supply increased as additional firms started manufacturing Blu-ray

players and input costs fell.
22
Figure 3.11 Shifts in demand and supply over time
Over time, it is likely that

both demand and supply
will change.
For example, as new firms
enter the market for
smartwatches and
incomes increase, we
expect:
• The supply of
smartwatches will shift
to the right, and
• The demand for
smartwatches will shift
to the right.
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What does our model

predict?
S↑  ( P↓ and Q↑ )
D↑  ( P↑ and Q↑ )
So we can be sure
equilibrium quantity will
rise; but the effect on
equilibrium price is not
clear.
This panel shows demand
shifting more than supply:
equilibrium price and
quantity both rise.
24
This panel shows supply

shifting more than
demand: quantity rises,
but equilibrium price falls.
Without knowing the
relative size of the
changes, the effect on
equilibrium price is
ambiguous.
It is possible, but unlikely,
that the equilibrium price
will remain unchanged.

25
Table 3.3 How shifts in demand and supply affect equilibrium

price (P) and quantity (Q)
We can now fill in the rest of Table 3.3.

The cell in red is the example that we just did.

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1

Copyright © 2017 Pearson Education, Ltd. All rights reserved.

Copyright © 2017 Pearson Education, Ltd. All rights reserved.

Recap: What Determines the Price of a

–Demand for smartphones

Copyright © 2017 Pearson Education, Ltd. All rights reserved.

A shift to the right (D1 to

A shift to the left (D1 to

- Prices of related goods

- Population and demographics

- Expected future prices

Copyright © 2017 Pearson Education, Ltd. All rights reserved.

• A shift to the right (S1

• A shift to the left (S1

- Prices of substitutes in production

- Number of firms in the market

- Expected future prices

Copyright © 2017 Pearson Education, Ltd. All rights reserved.

3.3 Market Equilibrium: Putting Demand

Market equilibrium is a situation in which quantity demanded

Copyright © 2017 Pearson Education, Ltd. All rights reserved.

Figure 3.7 Market equilibrium

A Market Surplus occurs when there is excess supply - that is

In this situation, some producers won't be able to sell all their

In response to the lower price, consumers will increase their

In this situation, excess supply has exerted downward pressure

A Market Shortage occurs when there is excess demand -

In this situation, consumers won't be able to buy as much of a

In response to the demand of the consumers, producers will

Meanwhile the increased quantity of available product will

© 2015 Pearson Education, Inc.

Figure 3.8 The effect of surpluses on the market price

What if the price were

Copyright © 2017 Pearson Education, Ltd. All rights reserved.

Figure 3.8 The effect of shortages on the market price

Now what if the price

Copyright © 2017 Pearson Education, Ltd. All rights reserved.

Demand and Supply Both Count

Price is determined by the interaction of buyers and sellers.

Neither group can dictate price in a competitive market (i.e. one

However changes in supply and/or demand will affect the price

Copyright © 2017 Pearson Education, Ltd. All rights reserved.

3.4 The Effect of Demand and Supply

Predictions 预测 about price and quantity in model require us to

Typically 通常 , we know price and quantity, but do not know the

The power of the demand and supply model is in its ability to

Copyright © 2017 Pearson Education, Ltd. All rights reserved.

Figure 3.9 The effect of an increase in supply on

• Equilibrium price falls from

• Equilibrium quantity rises

Copyright © 2017 Pearson Education, Ltd. All rights reserved.

Figure 3.9 The effect of an increase in supply on

By how much will price

Copyright © 2017 Pearson Education, Ltd. All rights reserved.

Figure 3.10 The effect of an increase in demand on

• Equilibrium price rises

Copyright © 2017 Pearson Education, Ltd. All rights reserved.

Table 3.3 How shifts in demand and supply affect equilibrium

The table summarizes what happens when the demand curve