Supply and Demand

Movements vs. Shifts in Demand and Supply

The distinction between movements and shifts is fundamental in understanding how markets respond to changes. A movement occurs when the quantity demanded or supplied changes due to a change in the product's current price. A shift happens when factors other than price affect demand or supply, causing the entire curve to move.

• Movement Along the Curve: Caused by a change in the product's price.

• Shift of the Curve: Caused by changes in income, tastes, prices of related goods, expectations, or number of buyers (for demand); or input prices, technology, expectations, or number of sellers (for supply).

Summary Tables

Table 3.1 and Table 3.2 summarize the causes of shifts in demand and supply. (Additional info: See below for reconstructed tables.)

Equilibrium, Surplus, and Shortage

Equilibrium is the point where quantity demanded equals quantity supplied. However, markets often experience surplus (excess supply) or shortage (excess demand) when not at equilibrium.

• Surplus: Occurs when price is above equilibrium; quantity supplied exceeds quantity demanded.

• Shortage: Occurs when price is below equilibrium; quantity demanded exceeds quantity supplied.

• Market Adjustment: Prices adjust to eliminate surplus or shortage, moving toward equilibrium.

Graphing Surplus and Shortage

Surplus and shortage are shown as horizontal distances between supply and demand curves at prices above or below equilibrium.

Effects of Shifts on Equilibrium

Shifts in demand or supply change the equilibrium price and quantity. For example, an increase in demand raises both equilibrium price and quantity, while an increase in supply lowers price but increases quantity.

• Demand Increase: Price and quantity rise.

• Supply Increase: Price falls, quantity rises.

• Simultaneous Shifts: Effects depend on relative magnitude of shifts.

Consumer and Producer Surplus; Price Ceilings and Price Floors

Consumer Surplus, Producer Surplus, and Total Surplus

Consumer surplus is the difference between what buyers are willing to pay and what they actually pay. Producer surplus is the difference between the price sellers receive and their minimum acceptable price. Total surplus is the sum of consumer and producer surplus, representing overall welfare.

• Consumer Surplus Formula: (for a linear demand curve)

• Producer Surplus Formula: (for a linear supply curve)

• Total Surplus:

Price Floors and Price Ceilings

A price floor is a legal minimum price (e.g., minimum wage), while a price ceiling is a legal maximum price (e.g., rent control). Both can cause inefficiencies.

• Price Floor: If set above equilibrium, causes surplus.

• Price Ceiling: If set below equilibrium, causes shortage.

• Deadweight Loss: The reduction in total surplus due to inefficiency.

Deadweight Loss Calculation

Deadweight loss is the area of the triangle between the supply and demand curves, from the quantity traded to the equilibrium quantity.

• Deadweight Loss Formula:

Externalities

Negative Externalities and Socially Efficient Output

A negative externality occurs when a market activity imposes costs on third parties. The socially efficient output is where the social cost equals the social benefit.

• Social Cost:

• Socially Efficient Output: Quantity where

Optimal Pollution Reduction and the Coase Theorem

The optimal quantity of pollution reduction is where the marginal benefit of reduction equals the marginal cost. The Coase theorem states that if property rights are well-defined and transaction costs are low, private parties can solve externalities without government intervention.

• Coase Theorem: Efficient outcomes can be achieved through bargaining.

Taxes and Command-and-Control Policies

A tax can internalize a negative externality by raising the cost of production to the social cost. Command-and-control policies directly regulate behavior (e.g., emission limits).

• Tax for Efficiency: Set tax equal to external cost.

• Command-and-Control: Government mandates specific limits or technologies.

Elasticity

Price Elasticity of Demand and the Midpoint Formula

Price elasticity of demand measures how much quantity demanded responds to price changes. The midpoint formula is used to avoid bias from direction of change.

• Price Elasticity of Demand Formula:

• Midpoint Formula:

Elasticity and Total Revenue

The relationship between price elasticity of demand and total revenue is crucial for firms. When demand is elastic, a price increase reduces total revenue; when inelastic, a price increase raises total revenue.

• Total Revenue:

• Elastic Demand: ; price up, revenue down.

• Inelastic Demand: ; price up, revenue up.

Example: If a firm raises price and sees revenue fall, demand is elastic.

Additional info: Tables reconstructed from standard microeconomics content. Academic context expanded for completeness.