ppa 723: managerial economics
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PPA 723: Managerial Economics
Lecture 3:
Market Equilibrium
Managerial Economics, Lecture 3: Market Equilibrium
Outline
Review Supply and Demand
Market Equilibrium
Applications
Managerial Economics, Lecture 3: Market Equilibrium
Demand Curves Demand Curve: relationship between quantity
demanded and price, other factors fixed
Law of Demand: demand curves slope down
Change in price causes movement along the demand curve
Change in income or other background factor causes shift of demand curve
A demand curve is hypothetical
Managerial Economics, Lecture 3: Market Equilibrium
Supply Curves Supply Curve: relationship between quantity
supplied and price, other factors constant
Market supply curve need not slope up but frequently does
Change in price causes movement along the supply curve
Change in input price or other background factor causes shift of the supply curve
Supply curve is hypothetical
Managerial Economics, Lecture 3: Market Equilibrium
Market EquilibriumThe intersection of demand and
supply curves determines market equilibrium price and quantity.
An equilibrium is a situation, perhaps temporary, in which nobody has an incentive to change behavior.
Managerial Economics, Lecture 3: Market Equilibrium
Figure 2.6 Market Equilibrium
220176
D
S
e
233 246194 207
Q (Million kg of pork per year)0
3.95
3.30
2.65
Excess supply = 39
Excess demand = 39
P (
$ p
er
kg)
Managerial Economics, Lecture 3: Market Equilibrium
Reaching Equilibrium
When P > P *, there is a surplus, inventories build up, suppliers get the message and lower price
When P < P *, there are shortages, every store sells out by noon, suppliers get the message and raise price.
A market sends signals and people respond to them; it’s not just because the curves cross!
Managerial Economics, Lecture 3: Market Equilibrium
Shocking the Equilibrium
Once an equilibrium is achieved, it may persist indefinitely because no one applies pressure to change the price
An equilibrium changes if The demand curve shiftsThe supply curve shiftsThe government intervenes
Managerial Economics, Lecture 3: Market Equilibrium
Figure 2.7a Effects of a Shift of the Pork Demand Curve
D 1
D2
S
1760 220 228 232Q (Mil. kg of pork/year)
Excess demand = 12
3.303.50
e2
e1
P ($ per kg)
Effect of a $0.60 Increase in the Price of Beef
Managerial Economics, Lecture 3: Market Equilibrium
Figure 2.7b Effects of a Shift of the Pork Demand Curve
S1
S2
Q (Mil. kg of pork/year)
3.303.55
e1
e2
D
P ($ per kg)
Effect of $0.25 Increase in the Price of Hogs
1760 220205 215
Excess demand = 15
Managerial Economics, Lecture 3: Market Equilibrium
Direction and Magnitude
Theory alone often gives the direction of an effect: Does a given change lead to an increase in price?
Sometimes this is enough.
But sometimes the magnitude of the effect also matters: Is the effect large enough to be significant?
Calculating the magnitude generally requires more information.
Managerial Economics, Lecture 3: Market Equilibrium
Limits of Supply and Demand Model
Supply and demand model directly applies only in competitive markets
Competitive markets: homogeneous goods, many buyers and sellers (price takers)
Managerial Economics, Lecture 3: Market Equilibrium
Applications of Supply and Demand Model
Supply and demand model can help to understand:
• Price ceilings• Price floors
Managerial Economics, Lecture 3: Market Equilibrium
Price CeilingP, price
Qs Q Qd
D
S
Q, Quantity per year
Excess demand
pe
p* Price ceiling
Managerial Economics, Lecture 3: Market Equilibrium
Usury Law’s Effect on Interest Ratei, Interest rate per $
Qs Q Qd
Usury law
D
S
Q, Money loaned per year
Excess demand
ie
i*
Managerial Economics, Lecture 3: Market Equilibrium
Minimum Wagew, wage
HsH H d
Minimum wage
D
S
H, Hours worked
Excess supply: Unemployment
we
w*
Managerial Economics, Lecture 3: Market Equilibrium
Supply Need not Equal Demand Price ceilings or price floors quantity
supplied does not necessarily equal quantity demanded
Quantity supplied = amount firms want to sell at a given price, holding constant other factors that affect supply
Quantity demanded = amount consumers want to buy at a given price, holding constant other factors
Managerial Economics, Lecture 3: Market Equilibrium
Summing Demand and Supply Curves
Market curves equal horizontal summation of individual curves
They show total quantity demanded or supplied at each possible price
Managerial Economics, Lecture 3: Market Equilibrium
Total Supply with and without a Ban on Imports
p, Priceper ton
p, Priceper ton
p, Priceper ton
Qd*
Sd S f (ban)
Qf* Q = Qd
* Q* = Qd* + Qf
*
Qd, Tons per year Qf, Tons per year Q, Tons per year
(a) Japanese Domestic Supply (b) Foreign Supply (c) Total Supply
p * p* p *
S (ban) S (no ban)S f (no ban)
p p p
Managerial Economics, Lecture 3: Market Equilibrium
Figure 2.8 A Ban on Rice Imports Raises The Price in Japan
Q2 Q1
S (no ban)
D
Q, Tons of rice per year
p2 e2
e1p1
S (ban)–
p, P
rice
of r
ice
per
po
und
Managerial Economics, Lecture 3: Market Equilibrium
p, Priceper ton
p, Priceper ton
p, Priceper ton
S d
Q, Tons per year
(a) U.S. Domestic Supply (b) Foreign Supply (c) Total Supply
p* p* p*
p p p
S
S
Qd Qf
Qd, Tons per year Qf , Tons per year
Qd* Qf*
Sf
Sf
Qd* + Qf*Qd* + QfQd + Qf
Total Supply with an Quota on Imports
Managerial Economics, Lecture 3: Market Equilibrium
Page 34 Solved Problem 2.3
Q2Q 3
Dh (high)
Q1
S (no quota)
Q (Tons of steel per year)
p2
p3 e2
e3
e1p1
S (quota)–
p–
D l (low)
p (
Pri
ce o
f s
tee
l per
to
n)
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