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Chapter 3

# ECO 211 Chapter 3.pdf

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School
University of Miami
Department
Economics
Course
ECO 211
Professor
Robins
Semester
Fall

Description
Demand, Supply and Relative Prices Demand and supply determine relative prices. The word “price” means relative price. Price is an opportunity cost. If we predict a price will fall, we mean its price will fall relative to the average price of other goods and services. Calculation of Relative Prices Relative price is usually calculated by dividing the price of a good in question by a price index. The most commonly used price index is the CPI (Consumer Price Index). The CPI represents the “average” price of consumer goods in a particular month or year. Demand The quantity demanded of a good or service is the amount that consumers plan to (or are willing to) buy in a given period of time at a particular (relative) price. Quantity demanded is measured as an amount per unit time: pizzas per day, pizzas per week, or pizzas per year. The Law of Demand Other things remaining the same, the higher the price of a good, the smaller is the quantity demanded. Excludes status goods The phrase “other things being equal” is sometimes abbreviated with the Latin phrase ceteris paribus (cet. par.). Thus, when we say price changes, we mean relative price changes. Demand Schedule and Demand Curve Ademand schedule lists the quantities demanded at each different price when all the other influences on consumers’planned purchases remain the same. Ademand curve is a graph of the demand schedule. Demand Schedule Demand Curve Curve shifts right if there is an increase in demand, but no change in price If change in price occurs, use the same curve just pick the certain point If change in price of a substitute changes, thus changes the demand, then the curve shifts either left or right Factors That Influence Demand Price (of the good in question) Prices of related goods Others are called complements: go together with the good, i.e. steak & potatoes, shoes & shoelaces Income Inferior good: demand decreases as income increases Expected future price: speculation Population (within the market) Preferences (or Tastes) Unobservable characteristics Price If the price of the good rises, the quantity demanded falls (a movement up along the demand curve). If the price of the good falls, the quantity demanded rises (a movement down along the demand curve). Prices of Related Goods Asubstitute is a good that can be used in place of another good. If the price of a CD-RW rises, the demand for CD-Rs rises (demand curve shifts out to the right) . Acomplement is a good that is used in conjunction with another good. If the price of a CD burner rises, the demand for CD-Rs falls (demand curve shifts in to the left). Example-Decrease in Price of a Complement Example-Decrease in Price of a Complement Demand Before Price of Complement Decreases Demand after Price of Complement Decreases Income Normal goods are those for which demand increases as income increases (demand curve shifts out to the right). Inferior goods are those for which demand decreases as income increases (demand curve shifts in to the left). The terms normal and inferior do not necessarily refer to the quality of the product Expected Future Price If the price of a good is expected to rise in the future and if the good can be stored, people will often substitute over time by buying more of the good today. Demand for the good increases (demand curve shifts out to the right). This is sometimes called speculation. Population Other things remaining the same, the larger the population, the greater is the demand for all goods and services (demand curve shifts out to the right). The smaller the population, the smaller is the demand for all goods and services (demand curve shifts in to the left). Preferences (or Tastes) Preferences are an individual’s attitudes toward goods and services. Different people have different preferences and will therefore have different demands for a particular good or service. Summary of Changes in Demand Changes In Demand The demand for CD-Rs Decreases if (shift to left): The price of a substitute falls The price of a complement rises Income falls (since CD-R is a normal good) The price of a CD-R is expected to fall in the future The population decreases Preferences decrease Summary of Changes in Demand Changes In Demand The demand for CD-Rs Increases if (shift to right): The price of a substitute rises The price of a complement falls Income rises (since CD-R is a normal good) The price of a CD-R is expected to rise in the future The population increases Preferences increase MovementAlong Versus a Shift of the Demand Curve If price of a good changes but everything else remains the same, there is a movement along the demand curve. If the price of a good remains constant but some other influence on buyers’plans changes, there is a shift of the demand curve. AChange in Quantity Demanded Versus a Change in Demand Amovement along the demand curve shows a change in the quantity demanded. Ashift of the demand curve shows a change in demand. AChange in Quantity Demanded Versus a Change in Demand AChange in Quantity Demanded Versus a Change in Demand AChange in Quantity Demanded Versus a Change in Demand AChange in Quantity Demanded Versus a Change in Demand Supply If a firm supplies a good or service, the firm Has the resources and technology to produce it, Can profit from producing it, and Has made a definite plan to produce it and sell it. Supply The amount of a good or service that producers plan to (or are willing to) sell during a given time period at a particular price is called the quantity supplied. Quantity supplied is not necessarily the same as the quantity actually sold (which depends on the interaction of supply and demand). The Law of Supply Other things remaining the same, the higher the price of a good, the greater is the quantity supplied. Increasing opportunity cost is the reason behind the law of supply. Supply Schedule and Supply Curve Asupply schedule lists the quantities supplied at each different price when all other influences on the amount firms plan to sell remain the same. Asupply curve is a graph of a supply schedule. Supply Schedule Reserve Price or Reservation Price: lowest possible price you will accept in order to produce that good - \$0.50 Supply Curve Vertical line before Reservation Point If price changes: If quantity supplied changed: movement along curve If supply changes: shift in curve, increase: shift right, decrease: shift left Other Influences on Supply Besides Price Prices of factors of production Prices of other goods produced Expected future prices The number of suppliers Technology: shift to right Increase in production costs: shift curve to left Decrease in production costs: shift curve to right Prices of Factors of Production Achange in the price of a factor of production causes supply to change by changing production costs. For example, suppose the product is automobiles and the price of labor increases. Automakers will cut back on their supply (the supply curve will shift to the left)
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