Chapter 3: Demand and Supply – Microeconomics Study Notes

Demand and Supply

Learning Objectives

• Explain the law of demand

• Distinguish between changes in demand and changes in quantity demanded

• Explain the law of supply

• Distinguish between changes in supply and changes in quantity supplied

• Understand how the interaction of demand and supply determines the equilibrium price and quantity

Demand

Definition of Demand

Demand refers to a schedule showing how much of a good or service people will purchase at any price during a specified time period, other things being constant.

• Key Point: Demand is not just a single quantity, but a relationship between price and quantity over a range of prices.

The Law of Demand

The law of demand states that there is a negative, or inverse, relationship between the price of any good or service and the quantity demanded, holding other factors constant (ceteris paribus).

• When the price of a good goes up, people buy less of it, other things being equal.

• When the price of a good goes down, people buy more of it, other things being equal.

Ceteris Paribus Conditions

When analyzing demand, certain factors are held constant:

• Income

• Tastes and preferences

• Prices of other goods

• Other factors (e.g., expectations, market size)

Relative Price vs. Money Price

• Relative price: The money price of one commodity in terms of another commodity.

• Money price: The price observed in today’s dollars (absolute, or nominal, price).

Example: If food prices rise faster than other items in the Consumer Price Index (CPI), consumers may change their purchasing behavior, such as relying more on community food programs.

Demand Schedule and Demand Curve

• Demand schedule: A table relating prices to quantities demanded over a specific time period.

• Demand curve: A graphical representation of the demand schedule, typically a negatively sloped line showing the inverse relationship between price and quantity demanded.

Individual vs. Market Demand

• Individual demand curve: Shows the quantity demanded by one consumer at various prices.

• Market demand curve: The horizontal summation of all individual demand curves at each price level.

Price	Quantity Demanded (Buyer 1)	Quantity Demanded (Buyer 2)	Market Quantity Demanded
$5	0	0	0
$4	2	2	4
$3	3	3	6
$2	5	5	10
$1	8	8	16

Shifts in Demand

Change in Demand vs. Change in Quantity Demanded

• Change in demand: Occurs when a determinant other than the good's own price changes, shifting the entire demand curve left or right.

• Change in quantity demanded: Occurs when the good's own price changes, resulting in movement along the same demand curve.

Determinants of Demand

• Income:

  • Normal goods: Demand rises as income rises.

  • Inferior goods: Demand falls as income rises.

• Tastes and preferences

• Prices of related goods:

  • Substitutes: A price increase in one leads to increased demand for the other.

  • Complements: A price increase in one leads to decreased demand for the other.

• Expectations: Future prices, income, product availability

• Market size: Number of buyers

Example: If the government gives every student a digital device that uses wireless earbuds, demand for earbuds increases at every price (demand curve shifts right).

Supply

Definition of Supply

Supply is a schedule showing the relationship between price and the quantity supplied for a specified time period, other things being equal. It represents the amount of a product or service that firms are willing to sell at alternative prices.

The Law of Supply

The law of supply states that the higher the price of a good, the more of that good sellers will make available over a specified time period, other things being equal.

• At higher prices, a larger quantity is generally supplied.

• At lower prices, a smaller quantity is generally supplied.

Supply Schedule and Supply Curve

• Supply schedule: A table relating prices to quantity supplied at each price.

• Supply curve: A graphical representation of the supply schedule, typically a positively sloped line showing the direct relationship between price and quantity supplied.

Individual vs. Market Supply

• Individual supply curve: Shows the quantity supplied by one producer at various prices.

• Market supply curve: The horizontal summation of all individual supply curves at each price level.

Price	Quantity Supplied (Supplier 1)	Quantity Supplied (Supplier 2)	Market Quantity Supplied
$5	5	5	10
$4	4	2	6
$3	3	2	5
$2	2	1	3
$1	2	0	2

Shifts in Supply

Change in Supply vs. Change in Quantity Supplied

• Change in supply: Occurs when a determinant other than the good's own price changes, shifting the entire supply curve left or right.

• Change in quantity supplied: Occurs when the good's own price changes, resulting in movement along the same supply curve.

Determinants of Supply

• Technology and productivity

• Prices of inputs

• Price expectations

• Taxes and subsidies

• Number of firms in the industry

Example: A new manufacturing method that reduces production costs will increase supply at every price (supply curve shifts right).

Market Equilibrium

Equilibrium Price and Quantity

The equilibrium (market clearing) price is the price at which quantity demanded equals quantity supplied. It is found at the intersection of the demand and supply curves.

• At equilibrium, there is no tendency for price or quantity to change unless demand or supply shifts.

• Equilibrium is a stable point; any other point is unstable and will not persist.

Shortages and Surpluses

• Shortage: Quantity demanded exceeds quantity supplied at a price below equilibrium.

• Surplus: Quantity supplied exceeds quantity demanded at a price above equilibrium.

• Shortages and surpluses cause price to move toward equilibrium.

Example: A heat wave in Britain reduced vegetable supply, causing shortages and higher equilibrium prices for several vegetables.

Appendix: Calculating Equilibrium Using Linear Equations

Linear Demand and Supply Equations

• General form: $y = b + mx$

• In economics: $Q = b + mP$

Example Calculation

• Demand: $Q_d = 12 - 2P$

• Supply: $Q_s = 2P$

• Set $Q_d = Q_s$ to find equilibrium price:

$12 - 2P = 2P$ $12 = 4P$ $P^* = 3$

• Insert $P^*$ into either equation to find equilibrium quantity:

$Q^* = 12 - 2(3) = 6$ $Q^* = 2(3) = 6$

Therefore, equilibrium price is $3$and equilibrium quantity is $6$.

Summary Table: Changes in Demand and Supply

Scenario	Effect on Curve	Direction
Decrease in income (normal good)	Demand	Left (decrease)
Decrease in income (inferior good)	Demand	Right (increase)
Increase in price of substitute	Demand	Right (increase)
Increase in price of complement	Demand	Left (decrease)
Increase in population	Demand	Right (increase)
Decrease in expected future price	Demand	Left (decrease)
Increase in price of input	Supply	Left (decrease)
Increase in productivity	Supply	Right (increase)

Key Terms

• Demand

• Law of demand

• Supply

• Law of supply

• Equilibrium

• Shortage

• Surplus

• Normal good

• Inferior good

• Substitute

• Complement

• Relative price

• Money price

Additional info: Examples and applications have been expanded for clarity. Tables have been reconstructed based on context and standard microeconomics practice.