Topic 2 Markets and Competition
A. What Is a Market?
1. Definition of market: a group of buyers and sellers of a particular good or service.
2. Markets can take many forms and may be organized (agricultural commodities) or less organized (ice cream)
B. What Is Competition?
1. Definition of competitive market: a market in which there are so many buyers and so many sellers that each has a negligible impact on the market price.
2. Each buyer knows that there are several sellers from which to choose. Sellers know that each buyer purchases only a small amount of the total amount sold
C. In this chapter, we will assume that markets are perfectly competitive.
1. Characteristics of a perfectly competitive market:
a. The goods being offered for sale are exactly the same.
b. The buyers and sellers are so numerous that no single buyer or seller has any influence over the market price.
2. Because buyers and sellers must accept the market price as given, they are often called "price takers."
3. Not all goods are sold in a perfectly competitive market.
a. A market with only one seller is called a monopoly market.
b. Some markets fall between perfect competition and monopoly.
D. We will start by studying perfect competition.
1. Perfectly competitive markets are the easiest to analyze because buyers and sellers take the price as a given.
2. Because some degree of competition is present in most markets, many of the lessons that we learn by studying supply and demand under perfect competition apply in more complicated markets.
II. Demand
A. The Demand Curve: The Relationship between Price and Quantity Demanded
1. Definition of quantity demanded: the amount of a good that buyers are willing and able to purchase.
2. One important determinant of quantity demanded is the price of the product.
a. Quantity demanded is negatively related to price. This implies that the demand curve is downward sloping.
Make sure that you explain that, when we discuss the relationship between quantity demanded and price, we hold all other variables constant. You will need to emphasize this more than once to ensure that students understand why a change in price leads to a movement along the demand curve.
b. Definition of law of demand: the claim that, other things being equal, the quantity demanded of a good falls when the price of the good rises.4. Definition of demand curve: a graph of the relationship between the price of a good and the quantity demanded.
a. Price is generally drawn on the vertical axis.
b. Quantity demanded is represented on the horizontal axis.
Exchange and Opportunity Cost
Barb’s opportunity cost of updating a Web page is 1 bicycle repair, whereas Pat must give up only half a repair to update a Web page.
Pat has a comparative advantage over Barb at programming, and Barb has a comparative advantage over Pat at bicycle repair.
Answer: Barb should repair bicycle while Pat will do programme.
Comparative Advantage
One person has a comparative advantage over another if his opportunity cost of performing a task is lower than the other person’s opportunity cost
When two people have different opportunity costs of performing various tasks, they can always increase total value of available goods and services by trading with one another.
Absolute Advantage
One person has an absolute advantage over another if he takes fewer hours to perform a task than the other person (more efficient).
Principle of Increasing Opportunity Cost (the low-hanging-fruit principle) says that, in expanding the production of any good, first employ those resources with the lowest opportunity cost.
B. Market Demand versus Individual Demand
1. The market demand is the sum of all of the individual demands for a particular good or service.
2. The demand curves are summed horizontally—meaning that the quantities demanded are added up for each level of price.
3. The market demand curve shows how the total quantity demanded of a good varies with the price of the good, holding constant all other factors that affect how much consumers want to buy.
C. Shifts in the Demand Curve
1. The demand curve shows how much consumers want to buy at any price, holding constant the many other factors that influence buying decisions.
2. If any of these other factors change, the demand curve will shift.
a. An increase in demand is represented by a shift of the demand curve to the right.
b. A decrease in demand is represented by a shift of the demand curve to the left.
3. Income
a. The relationship between income and quantity demanded depends on what type of good the product is.
b. Definition of normal good: a good for which, other things being equal, an increase in income leads to an increase in demand.
c. Definition of inferior good: a good for which, other things being equal, an increase in income leads to a decrease in demand.
4. Prices of Related Goods
a. Definition of substitutes: two goods for which an increase in the price of one good leads to an increase in the demand for the other.
b. Definition of complements: two goods for which an increase in the price of one good leads to a decrease in the demand for the other.
5. Tastes
6. Expectations
a. Future Income
b. Future Prices
7. Number of Buyers
III. Supply
A. The Supply Curve: The Relationship between Price and Quantity Supplied
1. Definition of quantity supplied: the amount of a good that sellers are willing and able to sell.
a. Quantity supplied is positively related to price. This implies that the supply curve will be upward sloping.
b. Definition of law of supply: the claim that, other things being equal, the quantity supplied of a good rises when the price of the good rises.
2. Definition of supply schedule: a table that shows the relationship between the price of a good and the quantity supplied.
3. Definition of supply curve: a graph of the relationship between the price of a good and the quantity supplied.
B. Market Supply versus Individual Supply
1. The market supply curve can be found by summing individual supply curves.
2. Individual supply curves are summed horizontally at every price.
3. The market supply curve shows how the total quantity supplied varies as the price of the good varies.
C. Shifts in the Supply Curve
1. The supply curve shows how much producers offer for sale at any given price, holding constant all other factors that may influence producers’ decisions about how much to sell.
2. When any of these other factors change, the supply curve will shift.
a. An increase in supply is represented by a shift of the supply curve to the right.
b. A decrease in supply is represented by a shift of the supply curve to the left.
3. Input Prices
4. Technology
5. Expectations
6. Number of Sellers
IV. Supply and Demand Together
A. Equilibrium
1. The point where the supply and demand curves intersect is called the market’s equilibrium.
2. Definition of equilibrium: a situation in which the market price has reached the level at which quantity supplied equals quantity demanded.
3. Definition of equilibrium price: the price that balances quantity supplied and quantity demanded.
4. The equilibrium price is often called the "market-clearing" price because both buyers and sellers are satisfied at this price.
5. Definition of equilibrium quantity: the quantity supplied and the quantity demanded at the equilibrium price.
6. If the actual market price is higher than the equilibrium price, there will be a surplus of the good.
7. If the actual price is lower than the equilibrium price, there will be a shortage of the good.
a. Definition of shortage: a situation in which quantity demanded is greater than quantity supplied. Sellers will respond to the shortage by raising the price of the good until the market reaches equilibrium.
8. Definition of the law of supply and demand: the claim that the price of any good adjusts to bring the supply and demand for that good into balance.
a. Definition of surplus: a situation in which quantity supplied is greater than quantity demanded.
To eliminate the surplus, producers will lower the price until the market reaches equilibrium.
D. Shifts in Curves versus Movements along Curves
1. A shift in the demand curve is called a "change in demand." A shift in the supply curve is called a "change in supply."
2. A movement along a fixed demand curve is called a "change in quantity demanded." A movement along a fixed supply
V. Conclusion: How Prices Allocate ResourcesV.
A. The model of supply and demand is a powerful tool for analyzing markets.
B. Supply and demand together determine the prices of the economy’s goods and services.
1. These prices serve as signals that guide the allocation of scarce resources in the economy.
2. Prices determine who produces each good and how much of each good is produced.y curve is called a "change in quantity supplied."
Keypoint
The supply curve shows how the quantity of a good supplied depends on the price. According to the law of supply, as the price of a good rises, the quantity supplied rises. Therefore, the supply curve slopes upward.
In addition to price, other determinants of how much producers want to sell include input prices, technology, expectations, and the number of sellers. If one of these factors changes, the supply curve shifts.
The intersection of the supply and demand curves determines the market equilibrium. At the equilibrium price, the quantity demanded equals the quantity supplied.
The behavior of buyers and sellers naturally drives markets toward their equilibrium. When the market price is above the equilibrium price, there is a surplus of the good, which causes the market price to fall. When the market price is below the equilibrium price, there is a shortage, which causes the market price to rise.
In market economies, prices are the signals that guide economic decisions and thereby allocate scarce resources. For every good in the economy, the price ensures that supply and demand are in balance. The equilibrium price then determines how much of the good buyers choose to purchase and how much sellers choose to produce.
