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CH2new07 - Chapter 2 SUPPLY AND DEMAND Boiling Down Chapter...

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Chapter 2 SUPPLY AND DEMAND Boiling Down Chapter 2 The amount of a commodity that consumers wish to purchase depends on a number of things, including the following: 1. product price 2. prices of substitute and complementary goods 3. income of consumer 4. number of consumers 5. expectations The amount of a commodity that producers wish to sell in the market depends on: 1. product price 2. input prices 3. producer technology 4. expectations One of the most significant factors that appears on both lists is the price of the product being considered. This makes it convenient to relate on the same graph the amount demanded and supplied. The relationship of price and consumer’s quantity de- manded is inverse, as shown in Figure 2-1, while supply and price is positively related, as shown. When a price falls, consumers are attracted to more of the good and they also have a bit more money to spend on it. The producer's reaction to a price fall is to offer less for sale because all the high-cost units will now not be produced. Movements along the demand curve are called changes in quantity demanded, and movements along the supply curve are called changes in quantity supplied. All these changes in quantities occur when price alone changes and when quantit- ies adjust to price changes the process is called the horizontal interpretation of demand. If the reservation price is sought for any given quantity in the market, then the dependent variable is on the vertical axis and the process is referred to as the vertical interpretation of demand. In like manner, a supply curve has both a horizontal and a vertical interpretation. Any other alterations in the vari- ables from the lists above are analyzed one at a time with price held constant, so they are seen as shifts to the right or left of the supply and demand functions. These shifts are called changes in demand or changes in supply. Once the market model is understood and modeled, the model can be used to explore the effects of all kinds of events and policies. It is important to keep in mind that, as one Price S D Quantity Figure 2-1
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CHAPTER 2: Supply and demand changes the variables in the model, only one should be changed at a time. Otherwise, too much will happen at once and the cause of the changes cannot be identified. Market equilibrium is the place where supply and demand intersect. At that point all sellers who want to sell at that price can find buyers and all buyers who want to buy at that price can find a purchase. Another way to see the desirability of equilibrium is to recognize that the demand curve measures the extra benefit received from each additional item bought, and the sup- ply curve measures the cost of each additional item produced. Any point to the left of equilibrium means that, for that item, the benefit exceeds the cost. Likewise, for all points to the right of equilibrium, the costs are greater than the benefits. Chapter 1 showed why when B > C the action is taken. (In this case, the item is bought.) Also when C > B the action is rejected. (In this case, the item is not purchased.) Thus where
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