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8/13/2019 016 - Supply Meets Demand F2013
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Supply meets demand
23rdOctober 2013
ECON 314
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Supply and demand Consumer theory
links consumer preferences and spending power(budget) to produce a demand
Shows that consumers only consume up to the pointwhere marginal utility equals price
Producer theory
links production technology and profit maximization toproduce a supply
Shows that firms produce only so much so that marginalrevenue (=price, usually) equals marginal cost
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Now they meet
Q
P
a market equilibriumis born!
Q*
P*
S
D
Total revenue = total expenditure
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At the point of equilibrium market clears:
All those willing and able to consume the
product at the going price obtain as muchconsumption as they desire
All those willing to supply and sell the product at
the going price are able to sell all they produced consumers get utility, firms realize profits
...costs & preferences areequalized
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Shifts and changing equilibrium
Q
P
Q*
P*
D
S
S
An upward shift in supplycauses an increase inmarket price and adecrease in quantitydemanded, ceterisparibus.
Q**
P**
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Shifts and changing equilibrium
Q
P
Q*
P*
D
S
D
An upward shift in
demand causes anincrease in marketprice and an increase inquantity demanded,ceteris paribus.
Q**
P**
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Elasticity and changing equilibrium
Q
P
Q*
P*
D
S
D
When the supply isperfectly inelastic, there isno adjustment to anincrease in demand interms of quantity.
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Elasticity and changing equilibrium
Q
P
Q*
P*
D
S
D
When the supply isperfectly elastic, there isno adjustment to anincrease in demand interms of market price.
Q**
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Elasticity and changing equilibrium
Q
P
Q*
P*
D
S
SWhen the demand isperfectly inelastic, there isno adjustment to anincrease in demand interms of quantity.
P**
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Elasticity and changing equilibrium
Q
P
Q*
P* D
S
SWhen the demand isperfectly elastic, there isno adjustment to anincrease in demand interms of price.
Q**
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Elasticity affects who bears how much of the
adjustment
Lower elasticity means smaller responsiveness
Whoever can respond least, bears the bulk ofthe adjustment (for good or ill)
(call it the sitting-duck rule) In extreme cases, all of the adjustment is
born by only one side (either D or S)
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So when D and S meet
pMU MCMRp )(
MCpMU
Consumers side: Producers side:
There is something nicely efficient about this:
It is the optimal outcome from individual points of view
It also shows certain economy-wide efficiency: goods areproduced only as long as they bring enough utility to coverthe costs.
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Consumer surplus
X
PX
CS
CS = the extra valueindividuals receive from
consuming a good overwhat they pay for it.
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Welfare of the economy
Q
P
S
Consumer surplus andproducer surplus
index the overall levelof welfare in theeconomy.
D
Q*
P*
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Welfare and price ceiling
Q
P
S
D
Q*
P*
Pcap
DEAD-WEIGHT LOSS!
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Welfare and price floor
Q
P
S
D
Q*
P*
Pcap
DEAD-WEIGHT LOSS!
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Tax hike and welfare
Q
P
S
D
Q*
P*
SAd remtax
Tax revenue
DEAD-WEIGHT LOSS!
Q**
P**
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Tax hike and welfaresteeper supply curve
Q
P
S
D
Q*
P*
SAd remtax
Tax revenue
DEAD-WEIGHT LOSS!
Q**
P**
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Tax hike and welfare
Q
PS
D
Q*
P*
Ad remtax
Tax revenue
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Tax hike and welfare
Q
P
S
D
Q*
P*
S
Ad remtax
Tax revenue
DEAD-WEIGHT LOSS!
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Welfare and trade opening
Q
P
S
D
Q*
P*
Sw
Net gain fromopening trade.
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Welfare and tariff
Q
P
S
D
Q*
P*
Sw
There is net lossfrom imposing atariff on trade.
tariffSw+tariff
Trade diversion Trade destruction
tariffrevenue
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Concepts to take home
Market equilibrium
Clearing price
Consumer surplus + producer surplus =welfare
Elasticity and burden of adjustment
Effects of price controls
Effects of taxes and who bears the cost
Deadweight loss