Demand,Supply and Equilibrium

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University of Toronto Scarborough
Economics for Management Studies

Demand, Supply and Equilibrium 1. Movement and Shift of Supply/Demand Curve Knowledge Summary: Movement along the supply/demand curve: - Relevant factor: Price - When price change, the quantity supplied/consumed will change, thus there will be a movement along the supply/demand curve Demand is usually downward sloping and Supply upward sloping Intersection of Demand and Supply curves is the equilibrium point Change in quantity demanded/quantity supplied are movements along the demand/supply curve and change in the demand/supply is a shift of the demand/supply curve The Demand/Supply Curve is the sum of Individual demand/supply of the product Factors that Shift Demand: 1. Taxes/Subsidies. 2. Change in Prices of related goods (Substitutes/Complementary Goods) 3. Change in Income 4. Change in Preferences Factors That Shift Supply: 1. Prices of Inputs (as prices rise, Supply falls) 2. Number of Firms (as firms rise, Supply Rises) 3. Technology (a new breakthrough increases supply) 4. Taxes/Subsidies Questions to be asked: If there is a change in situation, what would be a possible impact on equilibrium price and quantity? - Determine the original equilibrium - Figure out the factor that changed in the situation - Shift the demand/supply curve to the relevant direction - Determine the new equilibrium - Compare the old and new equilibrium; determine the change in price and quantity 2. Supply and Demand function Knowledge Summary: 1. Demand function: the relationship between the quantities the consumers would like to consume for a particular price 2. Supply function: the relationship between the quantities the suppliers are willing to produce for a particular price 3. Equilibrium point: the intersection of demand curve and supply curve - Qd = Qs 4. Consumer surplus - Graphically, it is the area between the Y- axis, demand curve and horizontal line for P = P* (equilibrium price) - Theoretically, it is the excess of total consumer benefits over total expenditure 5. Producer surplus - Graphically, it is the area between the Y – axis, supply curve and horizontal line for P = P* (equilibrium price) - Theoretically, it is the excess of total revenue over total variable cost 6. Tax imposed by the government - If the tax is levied on the consumers, demand curve will shift down by T - If the tax is levied on the suppliers, supply curve will shift up by T - No matter the tax is levied on consumers or suppliers, the share of taxes between consumers and suppliers will be the same Questions to be asked: 1. Calculate the equilibrium price and quantity - Set Pd = Ps - Solve for the equilibrium P = P* - Substitute P* to demand/supply curve to solve Q* 2. Calculate consumer surplus and producer surplus - Draw the demand and supply curves - Calculate the areas specified 3. Calculate the flat fee payment that will make the below two options indifferent: Option 1: Pay flat fee and consume unlimited amounts Option 2: Pay per unit fee - Calculate the maximum consumer surplus that can be obtained from paying flat fee - Set it to be equal to the consumer surplus in Option 2 - Solve for the flat fee 4. If government imposes tax, calculate deadweight loss and tax effect - Shift the demand curve or supply curve to the relevant direction - Calculate the new equilibrium Q, producer’s price and consumers’ price - Draw the area of deadweight loss and calculate the area - Tax burden to consumer = new consumer price – original P* - Tax burden to supplier = original P* - new producer price Common Exam Questions Questions from 2011 Midterm Question 4, 13, 14 and 15 Answers: 4) I is false, as Q1 is the maximum amount any supplier is willing to supply at this price. Thus, II is true. III is true by definition. The correct answer is (F). 13) If incomes fall, there is less demand for swordfish and demand shifts to the right. Meanwhile, the fall in the price of lemons increases the demand for swordfish because they are complementary goods. We are not sure of the net effect on demand. It may shift right, or left, or stay the same. So both P and Q rise, or fall, or
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