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SSEMI2 The student will explain how the Law of Demand, the L

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DFAS Economics

on 13 September 2015

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Transcript of SSEMI2 The student will explain how the Law of Demand, the L

SSEMI2 The student will explain how the Law of Demand, the Law of Supply, prices, and profits
work to determine production and distribution in a market economy.
a. Define the Law of Supply and the Law of Demand.
b. Describe the role of buyers and sellers in determining market clearing price.
c. Illustrate on a graph how supply and demand determine equilibrium price and quantity.
d. Explain how prices serve as incentives in a market economy.
Supply: the amount of a product that is available to sell at a specified price
Demand: the various quantities of a product a person is willing and able to buy at different prices
All other factors being equal, as the price of a good or service increases, consumer demand for the good or service will decrease. Conversely, as the price decreases, the demand will increase.

To sum up:
When the price goes up, the demand goes down.

When the price goes down, the demand goes up.
Excess demand occurs when the quantity demanded is more than the quantity supplied. This can occur when the actual price in a market is lower than the equilibrium price.
Consumers and producers react differently to price changes.
Higher prices tend to reduce demand while encouraging supply, and lower prices increase demand while discouraging supply.

Economic theory suggests that,

in a free market there will be a single price which brings demand and supply into balance, called equilibrium price.

Both parties require the scarce resource that the other has and hence there is a considerable incentive to engage in an exchange.

As a group, buyers have influence over the market price. In time, a price is found which allows an exchange to take place. A smart seller gets as much market information as possible in order to set a price which achieves maximum sales. For markets to work, information
flowing between buyer and seller is essential.
Equilibrium price (also called market clearing price) - at this price the exact quantity that producers create will be bought by consumers, and nothing is ‘left over’. There is neither an excess of supply and wasted output, nor a shortage – the market clears efficiently.
This is a central feature of the price mechanism, and an important benefit.
The market clearing price or equilibrium price "clears" the market so that there are no shortages or surpluses. Transactions in a market economy are voluntary so they must benefit both buyers and sellers.

Entrepreneurs are willing to risk their own resources in order to sell them for profit. They succeed when they provide consumers with goods and services that consumers want. Some common characteristics:
they take risks, (high risk can lead to high rewards)
they have unique skills that help them develop new products or new cost-cutting production methods or new ways to serve consumers
they have the discipline to work long and difficult hours to achieve their goals. These same entrepreneurial traits can help anyone to be successful. If you want to earn more income, develop valuable skills and use them in ways that are highly valued by others
Increase in Supply
How can changes in supply and demand affect the prices of the products we buy?
Demand is the willingness and ability of a person to buy a product. Demand can be affected by determinants such as changes in income, changes in desire for a product, expectations about the economy, and changes in the prices of related products. An increase in demand moves to the right
If the demand for fresh fruits and vegetables increases, causing the price to rise, then at least some suppliers will react to the higher price by producing more. In this way,

flexible prices reveal information about current supply and demand conditions. They also provide incentives for market participants to respond appropriately to that information.

What would be a possible response if the demand for fresh fruits and veggies drop?
The price is the amount of money needed to buy a particular good or service. In a market, the price and quantity exchanged are determined by the interaction of demand and supply. Changes in demand or supply alter the equilibrium price as well as the quantity bought and sold at that price.
Prices provide incentives to both buyers and sellers.
For example, if poor weather in Brazil causes a

in the supply
of coffee and an
in the price
of coffee, then at least some buyers of coffee will react to the higher price by
reducing the amount
of coffee they drink or by substituting some other drink.
Write an example of your own in your notes
Prices could be considered Adam Smith's "invisible hand" that brings the actions of self-interested individuals in harmony with the general prosperity of a society.

Flexible prices bring the interests of consumers and producers together.
Factors that cause changes in market demand:
PPINSCF: (people play in sand castles frequently
Change in tastes and

Change in

Change in
Change in the price of
ubstitute goods
Change in the price of
omplementary goods
Change in
uture expectations

WHAT happens to demand if complementary goods become more expensive and why?
You choose! Draw it out on a demand curve graph.
Factors/ Determinants that cause changes in market supply:
Costs of inputs
Taxes and Subsidies
Government regulations
Change in the number of sellers
Weather/natural disasters
Give an example of how one of these factors can change supply!
You choose: Write it out or draw a picture!
Ticket out of the door!
The good you are selling drops in demand. You find out that a substitute
good is cheaper than yours. What do you decide to do next and why?

The gasoline crisis of the 1970s is one of the most memorable supply shocks in recent history. Why did it happen? How did it affect people's lives? Are we using resources more efficiently now? Google this gas crisis and answer these questions. Be prepared to share!

Substitute Good Examples
Compliment Good Examples
The interaction of buyers and sellers creates a price over time.
This is often
since the retail prices of most manufactured goods are set by the seller. The buyer either accepts the price, and makes the purchase, or moves on.
If you tried to haggle over the cost of a watch at American Eagle, it's unlikely to work, and so you will believe you have no influence over price. However, if all potential buyers haggled, and none accepted the set price, then American Eagle would be quick to reduce the price of the watch.
The supply curves upward
because as the price increases, the quantity supplied increases.

At $5, what quantity is produced?

At $800, what quantity is produced?
For example, if a substitute product is offered at a lower price, people will demand less of the initial product; if a complement necessary to use the product goes up in price, people will again demand less of the initial product.
Supply can be affected several different determinants.
We call these factors/determinants that shift supply to the right or left
Draw this out in your notes
Draw this out in
your notes
Full transcript