Chapter 3

Supply
and Economics:
Managerial
Economic Tools for
Demand
Today’s Decision
Makers, 4/e By Paul
Keat and Philip Young

Lecturer: KEM REAT Viseth, PhD (Economics) 1

 Supply and Demand
• Market Demand
• Market Supply
• Market Equilibrium
• Comparative Statics Analysis
• Short-run Analysis
• Long-run Analysis
• Supply, Demand, and Managerial
Decision Making
Lecturer: KEM REAT Viseth, PhD (Economics) Managerial Economics, 4/e Keat/Young
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 Market Demand

The demand for a good or service is

defined as:
Quantities of a good or service that
people are ready (willing and able) to buy
at various prices within some given time
period, other factors besides price held
constant.

Lecturer: KEM REAT Viseth, PhD (Economics) Managerial Economics, 4/e Keat/Young
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 Market Demand
Market demand is the sum of all the
individual demands.

Lecturer: KEM REAT Viseth, PhD (Economics) Managerial Economics, 4/e Keat/Young
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 Market Demand
The inverse
relationship
between price
and the quantity
demanded of a
good or service
is called the Law
of Demand.

Lecturer: KEM REAT Viseth, PhD (Economics) Managerial Economics, 4/e Keat/Young
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 Market Demand

Changes in price result in changes in

the quantity demanded.

This is shown as movement along the

demand curve.

Lecturer: KEM REAT Viseth, PhD (Economics) Managerial Economics, 4/e Keat/Young
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 Market Demand

Changes in nonprice determinants

result in changes in demand.

This is shown as a shift in the demand

curve.

Lecturer: KEM REAT Viseth, PhD (Economics) Managerial Economics, 4/e Keat/Young
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 Market Demand

Nonprice determinants of demand

1. Tastes and preferences
2. Income
3. Prices of related products
4. Future expectations
5. Number of buyers

Lecturer: KEM REAT Viseth, PhD (Economics) Managerial Economics, 4/e Keat/Young
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 Market Supply

The supply of a good or service is

defined as:
Quantities of a good or service that people
are ready to sell at various prices within
some given time period, other factors
besides price held constant.

Lecturer: KEM REAT Viseth, PhD (Economics) Managerial Economics, 4/e Keat/Young
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 Market Supply

Changes in price result in changes in

the quantity supplied.

This is shown as movement along the

supply curve.

Lecturer: KEM REAT Viseth, PhD (Economics) Managerial Economics, 4/e Keat/Young
10
 Market Supply

Changes in nonprice determinants

result in changes in supply.

This is shown as a shift in the supply

curve.

Lecturer: KEM REAT Viseth, PhD (Economics) Managerial Economics, 4/e Keat/Young
11
 Market Supply

Nonprice determinants of supply

1. Costs and technology
2. Prices of other goods or services offered
by the seller
3. Future expectations
4. Number of sellers
5. Weather conditions

Lecturer: KEM REAT Viseth, PhD (Economics) Managerial Economics, 4/e Keat/Young
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 Market Equilibrium

We are now
able to combine
supply with
demand into a
complete
analysis of the
market.

Lecturer: KEM REAT Viseth, PhD (Economics) Managerial Economics, 4/e Keat/Young
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 Market Equilibrium

Equilibrium price: The price that

equates the quantity demanded with the
quantity supplied.
Equilibrium quantity: The amount
that people are willing to buy and
sellers are willing to offer at the
equilibrium price level.

Lecturer: KEM REAT Viseth, PhD (Economics) Managerial Economics, 4/e Keat/Young
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 Market Equilibrium

Shortage: A market situation in which

the quantity demanded exceeds the
quantity supplied.

A shortage occurs at a price below the

equilibrium level.

Lecturer: KEM REAT Viseth, PhD (Economics) Managerial Economics, 4/e Keat/Young
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 Market Equilibrium

Surplus: A market situation in which

the quantity supplied exceeds the
quantity demanded.

A surplus occurs at a price above the

equilibrium level.

Lecturer: KEM REAT Viseth, PhD (Economics) Managerial Economics, 4/e Keat/Young
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 Market Equilibrium

Lecturer: KEM REAT Viseth, PhD (Economics) Managerial Economics, 4/e Keat/Young
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 Comparative Statics Analysis
• A common method of economic
analysis used to compare various
points of equilibrium when certain
factors change.

• A form of sensitivity or what-if

analysis.

Lecturer: KEM REAT Viseth, PhD (Economics) Managerial Economics, 4/e Keat/Young
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 Comparative Statics Analysis

1. State all the assumptions needed to

construct the model.
2. Begin by assuming that the model
is in equilibrium.
3. Introduce a change in the model.
In so doing, a condition of
disequilibrium is created.
Lecturer: KEM REAT Viseth, PhD (Economics) Managerial Economics, 4/e Keat/Young
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 Comparative Statics Analysis

4. Find the new point at which

equilibrium is restored.
5. Compare the new equilibrium
point with the original one.

Lecturer: KEM REAT Viseth, PhD (Economics) Managerial Economics, 4/e Keat/Young
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 Comparative Statics: Example
Step 1
• Assume that all
factors except the
price of pizza are
held constant.
• Buyers’ demand
and sellers’ supply
are represented by
lines shown.

Lecturer: KEM REAT Viseth, PhD (Economics) Managerial Economics, 4/e Keat/Young
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 Comparative Statics: Example

Step 2
• Begin the
analysis in
equilibrium as
shown by Q1
and P1.

Lecturer: KEM REAT Viseth, PhD (Economics) Managerial Economics, 4/e Keat/Young
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 Comparative Statics: Example
Step 3
• Assume that a
new government
study shows
pizza to be the
most nutritious
of all fast foods.
• Consumers
increase their
demand for pizza
as a result.
Lecturer: KEM REAT Viseth, PhD (Economics) Managerial Economics, 4/e Keat/Young
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 Comparative Statics: Example

Step 4
• The shift in
demand
results in a
new
equilibrium
price, P2 , and
quantity, Q2.
Lecturer: KEM REAT Viseth, PhD (Economics) Managerial Economics, 4/e Keat/Young
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 Comparative Statics: Example
Step 5
• Comparing the
new equilibrium
point with the
original one we
see that both
equilibrium
price and
quantity have
increased.
Lecturer: KEM REAT Viseth, PhD (Economics) Managerial Economics, 4/e Keat/Young
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 Comparative Statics Analysis

The short run is the period of time in

which:

• sellers already in the market respond to

a change in equilibrium price by
adjusting variable inputs.

Lecturer: KEM REAT Viseth, PhD (Economics) Managerial Economics, 4/e Keat/Young
26
 Comparative Statics Analysis

The short run is the period of time in

which:

• buyers already in the market respond to

changes in equilibrium price by
adjusting the quantity demanded for
the good or service.

Lecturer: KEM REAT Viseth, PhD (Economics) Managerial Economics, 4/e Keat/Young
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 Comparative Statics Analysis

The rationing function of price is the

increase or decrease in price to clear
the market of any shortage or surplus.

Lecturer: KEM REAT Viseth, PhD (Economics) Managerial Economics, 4/e Keat/Young
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 Comparative Statics Analysis

• Rationing is a short run function of

price.

• Short run adjustments are represented

as movements along given supply or
demand curves.

Lecturer: KEM REAT Viseth, PhD (Economics) Managerial Economics, 4/e Keat/Young
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 Short-run Analysis
• An increase
in demand
causes
equilibrium
price and
quantity to
rise.

Lecturer: KEM REAT Viseth, PhD (Economics) Managerial Economics, 4/e Keat/Young
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 Short-run Analysis
• A decrease in
demand causes
equilibrium
price and
quantity to fall.

Lecturer: KEM REAT Viseth, PhD (Economics) Managerial Economics, 4/e Keat/Young
31
 Short-run Analysis
• An increase in
supply causes
equilibrium
price to fall
and
equilibrium
quantity to
rise.

Lecturer: KEM REAT Viseth, PhD (Economics) Managerial Economics, 4/e Keat/Young
32
 Short-run Analysis
• A decrease in
supply causes
equilibrium
price to rise
and
equilibrium
quantity to fall.

Lecturer: KEM REAT Viseth, PhD (Economics) Managerial Economics, 4/e Keat/Young
33
 Comparative Statics Analysis

The long run is the period of time in

which:

• New sellers may enter a market

• Existing sellers may exit from a market

Lecturer: KEM REAT Viseth, PhD (Economics) Managerial Economics, 4/e Keat/Young
34
 Comparative Statics Analysis

The long run is the period of time in

which:

• Existing sellers may adjust fixed inputs

• Buyers may react to a change in
equilibrium price by changing their
tastes and preferences.

Lecturer: KEM REAT Viseth, PhD (Economics) Managerial Economics, 4/e Keat/Young
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 Comparative Statics Analysis

The guiding or allocating function of

price is the movement of resources
into or out of markets as a result of
changes in the equilibrium market
price.

Lecturer: KEM REAT Viseth, PhD (Economics) Managerial Economics, 4/e Keat/Young
36
 Comparative Statics Analysis

• Guiding is a long run function of price.

• Long run adjustments are represented

as shifts in given supply or demand
curves.

Lecturer: KEM REAT Viseth, PhD (Economics) Managerial Economics, 4/e Keat/Young
37
 Long-run Analysis

Initial change:
• decrease in
demand

Result:
• reduction in
equilibrium price

Lecturer: KEM REAT Viseth, PhD (Economics) Managerial Economics, 4/e Keat/Young
38
 Long-run Analysis
Follow-on
adjustment:

• movement of
resources out of
the market

• leftward shift in
the supply curve
Lecturer: KEM REAT Viseth, PhD (Economics) Managerial Economics, 4/e Keat/Young
39
 Long-run Analysis
Initial change:
• increase in
demand

Result:
• increase in
equilibrium
price

Lecturer: KEM REAT Viseth, PhD (Economics) Managerial Economics, 4/e Keat/Young
40
 Long-run Analysis
Follow-on
adjustment:

• movement of
resources into
the market

• rightward shift
in the supply
curve
Lecturer: KEM REAT Viseth, PhD (Economics) Managerial Economics, 4/e Keat/Young
41
 Supply, Demand and Managerial
Decision Making

In the extreme case, the forces of

supply and demand are the sole
determinants of the market price.
In other markets, individual firms can
exert market power over their price
because of their:
• dominant size.
• ability to differentiate their product.
Lecturer: KEM REAT Viseth, PhD (Economics) Managerial Economics, 4/e Keat/Young
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