Chapter 3 AP Macroeconomics

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Chapter 3 - AP Macroeconomics

• The Supply and Demand Model

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Supply and Demand Model

• Simplified description of how the market works
• Three elements supply (firms),
  demand(consumers), equilibrium (where they meet)
• Scissors comparison - only useful if each side is
  connected

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Demand

• Relationship between two economic variables -
  price of a good and the quantity of that good
  that consumers are willing to buy at that price
• Price and Quantity demanded
• Price goes up and quantity demanded goes down -
  negatively related - LAW OF DEMAND
• Demand schedule - table showing the relationship
  between P and QD

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The Demand Curve

• Price on vertical
• QD on horizontal axis
• Points from the demand schedule are plotted and
  create the demand curve
• Sloped down from left to right
• Slopes down because of scarcity and the fact that
  people have to make choices

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Shifts in Demand

• Price is not that only thing that affects demand
• Price will change points ALONG THE CURVE
• Other factors will SHIFT THE CURVE
• Increase to the right, decrease to the left

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Things that will shift the Demand Curve

• Consumer Preference - taste, things become
  popular or outdated
• Consumer Information - food, diet
• Consumer Income - make more money, buy more
  stuff, normal and inferior goods
• Number of Consumers in the market - increased age
  groups - national or regional
• Consumers expectation of the future - buy before
  price increase
• Prices of closely related goods - substitutes and
  complements

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The Curve

• Change in demand - will shift the entire curve
• Change in quantity demanded will shift points
  along the same curve and is only caused by PRICE

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SUPPLY

• Relationship between price of a good and the
  quantity of that good that firms are willing to
  sell at that price
• PRICE and Quantity Supplied
• Supply schedule
• Law of Supply - higher price - higher supplied -
  positively related

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Supply Curve

• Upward sloping from left to right
• Slopes upward because firms will make more as
  prices go up because they will receive more
  profit per unit
• The law of supply only focuses on the supply side
  of the market - no demand is taken into account
  at this point

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Shifts in Supply

• Shift to the right - increase, left - decrease
• Just like demand, price will only shift the
  points along the curve
• Determinates will shift curves, be it supply or
  demand.

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What will shift the Supply Curve

• Technology - increase - right, decrease, left
  (nature)
• Price of Resources
• Number of firms in the market
• Expectation of future prices
• Government, taxes, subsidies, regulations

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Equilibrium

• In the give and take of the marketplace, prices
  adjust until they settle down at a level where QD
  QS, which is the equilibrium point or price
• If QD gt QS Shortage - prices increase
• If QS gt QD Surplus - prices drop

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A Change in the Market

• A Shift in Demand will cause a change in the
  equilibrium point.
• Increase in Demand will increase the equilibrium
  price and Quantity.
• Decrease will decrease it.

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Shifts in Supply and Equilibrium

• Increase in Supply will decrease the equilibrium
  price.
• And increase the quantity supplied.

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Real World Examples - Peanut Production in the US
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Original Supply and Demand for Peanuts
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Effect of a Drought in Southeast

• This caused the price of peanuts to increase from
  .60 per pound to about 1.25 per pound in the
  early 1990s.
• Forced people to choose other foods
• Forced schools to stop using peanut butter in
  lunches.
• Effected distribution of income, poorer people
  tend to eat more peanut butter.

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Price Ceilings and Floors

• Governments attempt to control the market
• Used during WWII and during the 1970s.
• Ceilings exist in housing markets - rent control
  and some industries, oil.
• Floors exist in labor markets and in some
  agricultural industries - sugar.

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Effects of Ceilings

• Not natural
• Causes a shortage because the supplier can not
  charge what the market would dictate.
• Lower quality
• Long lines
• Black market

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Rent Control
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Effect of Price Floors

• Causes a surplus, because the price cant drop to
  meet the equilibrium point.
• Government can buy the surplus - farming, or
  simply destroy it, costs taxpayers money
• Labor market - supply - thus a minimum wage
• Causes unemployment if the equilibrium wage is
  less than the minimum wage.

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Effect of Minimum Wage
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Elasticity

• Elasticity of demand is how sensitive demand is
  to a change in price
• Things that have no substitute are very inelastic
  - thus not a great change in demand if the price
  goes up
• Most things are elastic - if the price goes up we
  either dont buy them or we choose something that
  will give is equal satisfaction.
• Low price items and necessities would be very
  inelastic
• Luxuries are elastic.