Transcript for:
Fundamentals of Supply and Demand

Hey Econ students, this is Jacob Clifford. Welcome to the Microeconomics  Unit 2 summary video. In these summary videos, I explain all the  concepts that you need to know for your   next quiz, unit exam, or final exam, basically  everything you need to get an A in the class. But remember this is a summary video so  I'm going pretty quick. If you need more   help take a look at my other videos on YouTube. This video is going to cover  Unit 2: Supply and Demand. Before we jump into it make sure you have  the study guide that goes along with this   video. So right now pause this video  and download and print the steady guide. Let's start with a quick overview. Here are the   five big-picture ideas you  need to know for this unit. #1: The law of demand shows a  negative relationship between   price and quantity demanded  and the law of supply shows   a positive relationship between  price and the quantity supplied. #2. Elasticity measures the responsiveness of  one economic variable to a change in another. #3. Consumer surplus, producer surplus,   and deadweight loss are used to analyze the  efficiency and welfare effects of a market. #4. A demand and supply graph  shows the equilibrium price and   equilibrium quantity and can be used to  predict and analyze changes in a market. #5. The effects of government  intervention like taxes, subsidies,   tariffs, and price controls can be  analyzed using supply and demand. That's an overview, so now  let's jump into specific topics. You learn this in your class. It all  starts off with some basic definitions. Demand is the different quantities the consumers  are willing and able to buy at different prices. And there's the law of demand. It shows an inverse   relationship between price  and the quantity demanded. If the price goes up, the quantity  people want to buy is going to fall. If the price goes down people  are going to want to buy more. Now there are three reasons for,  or causes of, the law of demand. The first is the substitution effect.  It's the idea that people buy fewer   units when the price goes up because  they go buy a substitute instead. And when the price falls, they buy more because   the product is now relatively  cheaper than other substitutes. The income effect is the idea  that people buy fewer units   when the price goes up because  they have less purchasing power. Their money doesn't go as far  so they're going to buy less. And when the price falls, people  purchase more because they can buy more. And the third reason for the law demand is  the law of diminishing marginal utility. "This is worth at least 50 utils" As more units are consumed the price that  consumers are willing to pay is going to fall   because people get less and less additional  satisfaction from each additional unit. This is a demand schedule for a  market and it shows the different   quantities that consumers are willing  and able to pay at different prices. And it shows the law of demand.  When the price is lower,   consumers are willing able to purchase more. A market demand schedule is made up of  individual demand schedules showing the   preferences of specific people. And,  each are subject to the law of demand. This law is shown on a graph with  a downward-sloping demand curve.   If the price falls, more people  will be willing and able to buy. If the price goes up, less people  will be willing and able to buy. So a change in the price of the product  moves along the demand curve, but if   something else other than the price changes  that could cause the demand curve to shift. For example, if there's suddenly  more consumers in the market. That would cause the demand  curve to shift to the right   so at every single price people  are willing and able to buy more. But if it was found this product gets people sick,   then the whole demand curve  would shift to the left. At every single price people will  be willing and able to buy less. Now there are five shifters, or determinants, of  demand. There's taste and preferences, number of   consumers, price of related goods (substitutes  and compliments), income, and future expectations. And there are a few details here.  For the price of related goods,   remember the difference between  substitutes and complements. Substitutes are goods and services that  can be used in place of each other,   and complements are goods and  services that are used together. For income, remember the difference  between normal goods and inferior goods. For normal goods, when income increases then  the demand increases. For inferior goods,   when incomes go up the demand falls. An example is Top Ramen. When there's a recession   and incomes are falling people  actually might be buying more. The best way to make sure you understand  those shifters is to practice, so here we   go. What happens to the demand curve  for milk if the price of milk falls? Nothing The demand doesn't shift. Remember a  change in the price of the product moves   along the curve. Just remember  price doesn't shift the curve. "don't forget, price doesn't  shift the curve! yeah thank you." Okay, new question what happens to the demand  curve for milk if the price of a substitute falls? This would cause the demand for milk  to decrease and shift to the left.   At every price, consumers are willing  and able to buy less because the price   of a substitute has fallen. They're  going to buy the other good instead. Now you might be thinking to yourself,  whoa, whoa, whoa, you just said price   didn't shift the curve and all in the price of  the substitute that caused the curve to shift. Yes, a change in the price of the product  doesn't shift the demand curve but this   is talking about a change in the price  of a different product, a substitute. To clarify, a change in the price of the  actual product moves along the demand curve,   and that's called a change in quantity demanded. If one of those five shifters  change, that's a change in demand. It seems like the same thing,   but trust me I guarantee your teacher is  going to ask you a question about that. All right! That's it for demand. Let's make sure   you're getting it. Pause this video and  fill out topic 2.1 in your study guide. Now all of this also applies to the supply  curve Supply is the different quantities   that producers are willing and able to sell  at different prices and there's also a lot of   Supply showing a direct relationship between  price and the quantity Supply when the price   goes up producers want to produce more when  the price goes down producers are going to   produce and sell less this is because when the  price goes up producers are going to make more   profit so they want to sell more when the  price goes down eh I'm going to sell less   because why bother so that means there's  an upper sloping supply curve which also   has its own shifters the price of resources  or inputs the number of producers technology   government intervention like taxes subsidies and  Regulation and expectations of future profit again   let's practice show what happens to the supply  curve for milk if the price of milking machines increases milking machines are a key resource  for producing milk so the supply of milk is   going to shift to the left at every price milk  producers are going to be willing and able to   sell less milk that's it for Supply to make  sure getting everything fill out topic 2.2   on your study [Music] guide before we put supply  and demand together let's talk about elasticity   for most students this is the hardest Topic in  this unit because it does require you to do some   math but don't freak out the general idea is  pretty simple elasticity shows how sensitive   quantity is to a change in price in other words  we know that an increase in the price is going   to change the quantity demanded and the quantity  supplied but how much is it going to change will   the quantity change a lot or just a little that's  the idea of elasticity there are four types of   elasticity and four equations that you have to  know price elasticity of demand price elasticity   of supply cross price elasticity of demand and  income elasticity of demand the price elasticity   of demand measures how sensitive quantity demand  it is to a change in price the equation is the   percent change in quantity divided by the percent  change in price your teacher Professor very rarely   is going to give you the percent change so that  means you have to be able to calculate it given   the raw numbers the good news is that I have a  trick for you whenever you see questions that   require you to calculate percent change remember  to say no no no o it's the new number number minus   the old number divided by the old number times  100 so if the price decreased from $15 to $12   the percent change is 12 - 15 / 15 * 100 so - 20%  now if that 20% decrease in the price resulted in   a 60% increase in the quantity the demand would  be relatively elastic remember if the absolute   value of the price elastice to demand is greater  than one then the demand is relatively elastic   meaning quantity is very sensitive to a change  in price if that coefficient is less than one   then the demand is relatively inelastic meaning  quantity is less responsive to a change in price   a coefficient of one means it's unit elastic so  the percent change in quantity and the percent   change in the price are the same and if it's  zero the demand is perfectly inelastic meaning   consumer is going to buy the same amount even  if the price goes up notice the more inelastic   the demand the more steep the demand curve but  elasticity is not the same as slope in other   words a demand curve with a constant slope  can have a different elasticity depending   on where you are at higher prices and lower  quantities the demand is generally more elastic   and at lower prices and higher quantities the  demand tends to be more inelastic and different   products have different elasticities it all  comes down to the availability of substitutes   the necessity of the product the proportion of  income spent on the good and the time period   considered now there's one more thing you have  to learn about the elasticity of demand it turns   out that this equation is not the only way to  determine the elasticity of the demand curve   the other way is called the total Revenue test it  involves looking at the total revenue before and   after the change in price for example if the  price is $20 and the quantity demanded is 10   then the total revenue is2 200 if the price Falls  to $15 causing the coin demander to increase to   20 then the total revenue is $300 this means  the demand curve in that range is relatively   elastic you could calculate percent change and  do it the other way but you don't have to the   total revenue test says that demand is elastic  if the price Falls and total revenue goes up   or if the price price goes up and the total  revenue Falls and the demand is inelastic if   the price Falls and total revenue Falls or if  the price goes up and the total revenue goes   up but remember the total revenue test only  works for demand it doesn't work for Supply   now I threw a lot at you so it's time to practice  take out your study guide fill out topic 2.3 good luck if you understood price elasticity of  demand then you'll definitely understand price   elasticity of supply it measures how sensitive  quantity supplied is to a change in price and   the equation is almost identical and just like  demand if the coefficient is greater than one   then Supply is relatively elastic if it's less  than one then Supply is relatively inelastic   and if it's equal to one then it's unit elastic  and things like paintings by Van go are actually   perfectly inelastic the quantity Supply is not  going to change even if the price goes up so   different products have different elasticities of  Supply it all comes down to how difficult it is to   produce the product for example products with few  sellers or specialized inputs or that require a   long time to produce have more inelastic supply  quantity supplied is less sensitive to a change   in price but if the product's relatively easy to  produce and a small change in price can lead to a   huge change in the quantity suppli I think you get  it go ahead and fill out topic 2.4 on your steady guide there are two more types of elasticity  and two more equations that you need to know   cross price elasticity of demand measures  how sensitive the quantity demanded of what   product is to a change in the price of a different  product if the coefficient is positive then the   two goods are substitutes if it's negative then  the two goods are complements income elasticity   to demand measures how sensitive quanti demand  it is to a change in income if the coefficient   is positive then that's a normal good if it's  negative it's an inferior good now be careful   here when we did elasticity of demand we kind of  ignored the sign we looked at the absolute value   but when you're doing cross price and income  elasticity the sign really matters makes you   know if it's positive or negative the point  is read these questions carefully to see if   the price or income increased or decreased and  indicate if the percent change is a positive or   A negative it's those small details that might  trip you up on your exam and it's why it created   a different resource to help you practice there's  an elasticity practice sheet inside unit 2 in my   ultimate review packet it's designed to help  you practice the equations to make sure you're   getting it it's free you can download it and  do those questions after you're done watching   this video but right now it's time to pause and  fill out topic 2.5 in your study guide [Music]   now it's time to put supply and demand together so  right here is the equilibrium price and quantity   this is the only price where the quantity demanded  equals the quantity supplied and we assume that's   where we're going to be in a competitive market  when the price is too high and above equilibrium   then there's a surplus and eventually prices will  fall because sellers have all these extra units   they're going to lower the price so people  will buy them and when the price is below   equilibrium and there's a shortage eventually  prices will go up because consumers will bid up   those prices the point is always assume we're  at equilibrium unless something weird is going   on in the market which we'll learn about later in  this unit economists look at the efficiency of a   market by looking at the benefits it provides  to buyers and sellers consumer surplus is the   difference between what consumers are willing to  pay the demand curve and the equilibrium price   producer Surplus is the difference between the  price and how much sellers are willing to sell   goods for now remember not only do you have to  find these on the graph you also have to be able   to calculate them it's relatively easy it's just  the equation for a triangle 1/2 base time height   now when you put cons consum Surplus and producer  Surplus together that gives you total Surplus and   when this is maximized the market is efficient  buyers and sellers are getting as much benefit   as they can at this socially optimal quantity  but what happens when we produce less and we're   over here well then we end up with dead weight  loss which is loss consumer and producer Surplus   and an inefficient market and remember it can  be on either side if we produce too little we   end up with dead weight loss right here and if we  produce too much we end up with dead weight loss   right here we're going to come back to this  idea later in this unit and in future units   for now it's important for you just to be able to  spot and calculate consumer surplus and producer   Surplus which is why you should stop pause  the video and fill out topic 2.6 on your study Gap topic 2.7 starts by going back and looking at  the idea of dise equilibrium just remember when   the price is above equilibrium the quantity  supplied is greater than quanti demanded so   there's a surplus and when the price is below  equilibrium the quany demanded is greater than   the quany supplied and 's a shortage a good  way to remember that is the price is low it's   short so there's a shortage probably the most  important skill in this unit is this next part   showing changes in a market you want to talk  about a supply and demand problem I sell ice   for a living when it comes to these questions  there's Three Steps step one is draw supply and   demand and label the original equilibrium price  and quantity step two is analyze the change is   it going to affect Supply or demand what's the  shifter draw and label that new curve and don't   forget to draw an arrow and step three is the most  important one identify the new equilibrium price   and quantity and say what happened did price  go up or down did quantity go up or down and   remember that's what we're doing here we're trying  to predict what's going to happen when there's a   change in the market what's going to happen to  price and quantity o that's a rough business   to be in right now I mean that is really that's  unfortunate let's practice draw a market for ice   cream and show what'll happen if the price  of cream and input significantly decreases you start with a graph showing the original  equilibrium we're analyzing ice cream and   the price of an input fell so that's going to  affect the supply the supply is going to shift   to the right so make sure to draw and label that  and have an arrow now label the new equilibrium   price and quantity and the bottom say price  went down and the quantity went up now I   know it seems like there's a lot going on here  but remember there's only four things that can   happen demand can increase demand can decrease  Supply can increase or Supply can decrease it's   easy except when there's double shifts sometimes  you might see a question that explicitly tells   you that both demand and Supply shifted when you  see that remember the double shift rule when two   curves shift at the same time either price or  quantity is going to be indeterminate in other   words you won't be able to tell it could go up  or it could go down let's practice assume you   have a question that says the demand's going  to fall and the supply is going to fall what's   going to happen to price and [Music] quantity to  get the answer just draw the grass Remember When   out graph it out a decrease in demand will cause  the price to go down and the quantity to go down   and a decrease in Supply will cause the price to  go up and the quantity to go down so no matter   what happens the quantity is definitely going  to decrease the price might go up it might go   down so that's the one that's indeterminate  or your teacher might use the term ambiguous   either way you don't know it might go up might  go down you can't tell but remember this is   only for double shifts when it comes to single  shifts you know exactly what's going to happen   either price goes up or down quantities going to  go up or down double shifts something's going to   be indeterminate at this point you definitely  need to practice so let's see what you know   take a look at topic 2.7 on your study guide  good [Music] luck now here in topic 2.8 we're   talking about how government intervention affects  demand and Supply it all starts with the idea of   price controls when the government artificially  keeps prices above or below equilibrium this is   the idea of a price ceiling or a cap on prices  at first glance you probably thought it's going   to help consumers cuz it keeps prices down  but that also means producers are not going   to produce as much stuff so we're going to end  up with a shortage but the real question is can   you spot consumer surplus producer Surplus and  dead weight loss here they are consumer surplus   producer Surplus and dead weight loss CU we're  not producing the socially optimal quantity and   this Market is inefficient the opposite of this  is a price floor which keeps prices artificially   High the government is saying you can't lower  the price below a certain level the result is   that consumers are worse off so here's consumer  surplus and here's producer Surplus and again we   have dead weight loss but like I said before  being able to spot them is important you also   have to be able to calculate them which you're  going to do inside the study guide but watch   out here teachers and professors love giving you a  price ceiling or a price floor that's in the wrong   spot for example your next Quiz or test we have a  question where it says what happens when there's   a price ceiling above equilibrium the answer  is nothing it's not binding it has no effect   it's like if the government told gas stations  they can't sell gas for more than $200 a gallon   no one's trying to do that so it's not going to  affect the market just remember that price ceing   are only binding if they're below equilibrium  and price floors are binding when they're above   equilibrium now let's take all these Concepts you  learned and apply them to the idea of taxes a per   unit tax on producers will cause a supply curve  to shift to the left because producers now have   higher costs that vertical distance is the amount  of the tax per unit the result is that consumers   pay a higher price but that's not the price that  sellers receive remember the sellers have to pay   that tax so this is the price that sellers receive  because that vertical distance is the amount of   the tax per unit now we multiply that tax times  the quantity that gives you the total tax revenue   that goes to the government let me explain  that again in case you're confused before the   tax all the money that consumer spent the total  expenditures was equal to the total revenue the   sellers received after the tax the total amount  that consumer spent is here but sellers only got   to keep this total amount because the rest went to  the government does that make sense now you should   also be able to spot and calculate consumer  surplus produ a surplus and dead weight loss   again I'm going to have you do the calculations  inside the steud guide for now let's see if you   can spot them try to find consumer surplus  producer Surplus and debate loss after the tax after the tax consumer surplus is here  producer Surplus is here if that original   quantity is socially optimal then here is the  dead weight loss there's one more thing you   have to know about taxes it's the idea of tax  incidence or who pays the tax notice that the   tax increased the price the buyers had to pay  but it also decrease the amount the sellers   receive in other words both buyers and sellers  share the burden of the tax the easiest way to   spot it is identify how much that tax revenue  dig into consumer surplus or producer Surplus   for example if the demand is more inelastic than  the supply then consumers pay a higher portion   of that tax and if the supply is more inelastic  than demand then producers pay a larger portion   of that tax the big takeaway here is the burden  of the tax and the amount of dead weight loss   depends on the relative elasticity of the demand  and Supply curves now I know I covered that fast   if you need more help with seedings and Floors or  taxes take a look at my videos on YouTube but if   you can answer the questions in the study guide  you totally understand it fill out topic 2.8 good luck okay there's one more thing we have  to talk about it's international trade you   know from compar advantage in unit one that  countries benefit from trade and now we can   show that using supply and demand this  is a domestic market for sugar showing   the equilibrium price and quantity if we  produce sugar in our own country question   what happens to the consumer surplus producer  Surplus and dead weight loss if instead we can   get sugar at a cheaper world price pause  the video and see if you can figure it out at this price domestic producers will produce  this amount but consumers want more so we're going   to import the rest the total amount purchased is  here so consumer surplus is this big triangle this   is produ Surplus and there's no dead weight loss  we actually have the opposite of dead weight loss   we have more total Surplus because consumers  benefit from international trade but notice   who doesn't like International Trade domestic  producers because producer Surplus got smaller and   this is why domestic producers often Lobby policy  makers to avoid international trade at least have   some tariffs if there was a tariff of $10 then the  world price would go up to $20 consumer surplus   would get smaller the producer Surplus would get  bigger and this is the Tariff Revenue that goes   to the government and that tariff would cause  dead weight loss which is these two triangles   right here if you're still confused take a  look at the international trade video I made   on YouTube but right now let's see what  you know fill out topic 2.9 on your study guide okay you're done with your study guide but  you probably should still practice I suggest you   go back to the ultimate review packet and do the  multiple choice questions for this unit and fill   out the practice sheet for elasticity trial those  questions and look at the answer key to see if you   got them right okay that's it for microeconomics  unit 2 if this video helped you please like leave   a comment and subscribe thanks for watching till  next time don't forget ryson ship the carve yard