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PowerPoint Lectures for
Principles of Economics,9e
By
Karl E. Case,Ray C. Fair &Sharon M. Oster
; ;
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2009 Pearson Education, Inc. Publishing as Prentice Hall Principles of Economics 9e by Case, Fair and Oster
PART I INTRODUCTION TO ECONOMICS
4Demand and SupplyApplications
Fernando & Yvonn Quijano
Prepared by:
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4PART I INTRODUCTION TO ECONOMICS
Demand and SupplyApplicationsThe Price System: Rationing and
Allocating ResourcesPrice RationingConstraints on the Market andAlternative Rationing Mechanisms
Prices and the Allocation of ResourcesPrice Floors
Supply and Demand Analysis:An Oil Import Fee
Supply and Demandand Market Efficiency
Consumer Surplus
Producer SurplusCompetitive Markets Maximize theSum of Producer and ConsumerSurplus
Potential Causes of DeadweightLoss from Under- and Overproduction
Looking Ahead
CHAPTER OUTLINE
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The Price System: Rationing and Allocating Resources
price rationing The process by which the marketsystem allocates goods and services to consumerswhen quantity demanded exceeds quantity supplied.
Price Rationing
FIGURE 4.1 The Market forLobsters
Suppose in 2008 that 15,000square miles of lobstering waters
off the coast of Maine are closed.
The supply curve shifts to the left.
Before the waters are closed, the
lobster market is in equilibrium at
the price of $11.50 and a quantity
of 81 million pounds. The
decreased supply of lobster leads
to higher prices, and a new
equilibrium is reached at $16.10
and 60 million pounds (point B).
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Refer to the graph below. At what price level is price rationingespecially necessary?
a. At $3.25.
b. At $2.50.c. At $1.75.
d. None of the above. Price rationing is never desirable.
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Refer to the graph below. At what price level is price rationingespecially necessary?
a. At $3.25.
b. At $2.50.c. At $1.75.
d. None of the above. Price rationing is never desirable.
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Refer to the figure. Start at point C. What is the impact of the shift in supplyon the demand side of the market?
a. After the shift in supply, there is a decrease in quantity demanded.
b. After the shift in supply, there is a decrease in demand.c. After the shift in supply, there is an increase in demand.
d. After the shift in supply, there is an increase in quantity demanded.
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Refer to the figure. Start at point C. What is the impact of the shift in supplyon the demand side of the market?
a. After the shift in supply, there is a decrease in quantity demanded.
b. After the shift in supply, there is a decrease in demand.c. After the shift in supply, there is an increase in demand.
d. After the shift in supply, there is an increase in quantity demanded.
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The Price System: Rationing and Allocating Resources
The adjustment of price is the rationing mechanism in free markets.Price rationing means that whenever there is a need to ration agoodthat is, when a shortage existsin a free market, the price ofthe good will rise until quantity supplied equals quantity demanded
that is, until the market clears.
FIGURE 4.2 Market for aRare Paining
There is some price that will
clear any market, even if supply
is strictly limited. In an auction
for a unique painting, the price
(bid) will rise to eliminate
excess demand until there isonly one bidder willing to
purchase the single available
painting. Some estimate that
the Mona Lisa would sell for
$600 million if auctioned.
Price Rationing
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Refer to the figure below. The price of the good in question in this graph isprimarily determined by:
a. Demand.
b. Supply.c. Consumer surplus.
d. None of the above. The price is indeterminate.
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Refer to the figure below. The price of the good in question in this graph isprimarily determined by:
a. Demand.
b. Supply.c. Consumer surplus.
d. None of the above. The price is indeterminate.
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The Price System: Rationing and Allocating Resources
Constraints on the Market and Alternative Rationing Mechanisms
On occasion, both governments and private firms decide touse some mechanism other than the market system toration an item for which there is excess demand at thecurrent price.
Regardless of the rationale, two things are clear:
1. Attempts to bypass price rationing in the market and touse alternative rationing devices are much more
difficult and costly than they would seem at first glance.2. Very often, such attempts distribute costs and benefitsamong households in unintended ways.
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The Price System: Rationing and Allocating Resources
Oil, Gasoline, and OPEC
price ceiling A maximum price thatsellers may charge for a good,usually set by government.
Constraints on the Market and Alternative Rationing Mechanisms
FIGURE 4.3 Excess Demand (Shortage) Createdby a Price Ceiling
In 1974, a ceiling price of $0.57 cents per gallon
of leaded regular gasoline was imposed. If the
price had been set by the interaction of supply
and demand instead, it would have increased to
approximately $1.50 per gallon.At $0.57 per gallon, the quantity demanded
exceeded the quantity supplied. Because the
price system was not allowed to function, an
alternative rationing system had to be found to
distribute the available supply of gasoline.
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The Price System: Rationing and Allocating Resources
queuing Waiting in line as a means ofdistributing goods and services: anonprice rationing mechanism.
favored customers Those who receivespecial treatment from dealers duringsituations of excess demand.
Constraints on the Market and Alternative Rationing Mechanisms
ration coupons Tickets or coupons thatentitle individuals to purchase a certain
amount of a given product per month.
black market A market in which illegaltrading takes place at market-determinedprices.
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Refer to the figure. Assume that the priceof $1.75 is a government imposedprice. Only one of the statements
below is entirely correct. Which one?a. At a price of $1.75, there is a surplus
of soybeans, which is the result of animposed price floor.
b. At a price of $1.75, there is ashortage of soybeans, which is the
result of an imposed price floor of$1.75.
c. This graph shows a surplus ofsoybeans, which is the result of animposed price ceiling of $1.75.
d. This graph shows a shortage ofsoybeans, which is the result of animposed price ceiling of $1.75.
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Refer to the figure. Assume that the priceof $1.75 is a government imposedprice. Only one of the statements
below is entirely correct. Which one?a. At a price of $1.75, there is a surplus
of soybeans, which is the result of animposed price floor.
b. At a price of $1.75, there is ashortage of soybeans, which is the
result of an imposed price floor of$1.75.
c. This graph shows a surplus ofsoybeans, which is the result of animposed price ceiling of $1.75.
d. This graph shows a shortage ofsoybeans, which is the result of animposed price ceiling of $1.75.
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The Price System: Rationing and Allocating Resources
NCAA March Madness: College Basketballs National
Championship
Constraints on the Market and Alternative Rationing Mechanisms
FIGURE 4.4 Supply of and Demand for aConcert in 2007
The face value of a ticket to the Justin
Timberlake concert on September 16, 2007, at
the Staples Center in Los Angeles was $50. The
Staples Center holds 20,000. The supply curve
is vertical at 20,000.
At $50, the quantity supplied is below the
quantity demanded. The diagram shows that the
quantity demanded and the quantity supplied
would be equal at $300.
The Web shows that one ticket could be worth
$16,000.
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The Price System: Rationing and Allocating Resources
No matter how good the intentions of privateorganizations and governments, it is very difficult toprevent the price system from operating and to stopwillingness to pay from asserting itself. Every timean alternative is tried, the price system seems tosneak in the back door. With favored customersand black markets, the final distribution may beeven more unfair than that which would result from
simple price rationing.
Constraints on the Market and Alternative Rationing Mechanisms
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The Price System: Rationing and Allocating Resources
Prices and the Allocation of Resources
Price changes resulting from shifts of demand inoutput markets cause profits to rise or fall. Profitsattract capital; losses lead to disinvestment. Higherwages attract labor and encourage workers toacquire skills. At the core of the system, supply,demand, and prices in input and output marketsdetermine the allocation of resources and theultimate combinations of things produced.
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The Price Mechanism at
Work for Shakespeare
Every summer, New York Cityputs on free performances ofShakespeare in the Park.
The true cost of a ticket is $0 plus the opportunity cost ofthe time spent in line.
Students can produce tickets relatively cheaply by waitingin line. They can then turn around and sell those tickets tothe high-wage Shakespeare lovers.
The Price System: Rationing and Allocating Resources
Prices and the Allocation of Resources
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The rationale most often used by governments to intervene in themarket system and try to determine its own rationing mechanismis:
a. Efficiency and productivity.b. Fairness.
c. Queuing.
d. Elasticity.
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The rationale most often used by governments to intervene in themarket system and try to determine its own rationing mechanismis:
a. Efficiency and productivity.b. Fairness.
c. Queuing.
d. Elasticity.
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The Price System: Rationing and Allocating Resources
Price Floors
price floor A minimum price below whichexchange is not permitted.
minimum wage A price floor set for theprice of labor.
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Supply and Demand Analysis: An Oil Import Fee
FIGURE 4.5 The U.S. Market for Crude Oil, 1989
At a world price of $18, domestic
production is 7.7 million barrels per day
and the total quantity of oil demanded in
the United States is 13.6 million barrels
per day. The difference is total imports
(5.9 million barrels per day).
If the government levies a 33 1/3 percent tax on
imports, the price of a barrel of oil rises to $24. The
quantity demanded falls to 12.2 million barrels per
day. At the same time, the quantity supplied by
domestic producers increases to 9.0 million barrels
per day and the quantity imported falls to 3.2 million
barrels per day.
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Refer to the figure below. Imposition of the oil import fee causes thequantity of imports to:
a. Increase by 10 million barrels.
b. Decrease by 10 million barrels.c. Decrease by 20 million barrels.
d. Decrease by 30 million barrels.
e. Decrease by 50 million barrels.
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Refer to the figure below. Imposition of the oil import fee causes thequantity of imports to:
a. Increase by 10 million barrels.
b. Decrease by 10 million barrels.c. Decrease by 20 million barrels.
d. Decrease by 30 million barrels.
e. Decrease by 50 million barrels.
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Supply and Demand and Market Efficiency
Consumer Surplus
consumer surplus The difference between themaximum amount a person is willing to pay for agood and its current market price.
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Supply and Demand and Market Efficiency
Consumer Surplus
FIGURE 4.6 Market Demand and Consumer Surplus
As illustrated in Figure 4.6(a), some consumers (see point A) are willing to pay as much as $5.00
each for hamburgers. Since the market price is just $2.50, they receive a consumer surplus of
$2.50 for each hamburger that they consume. Others (see point B) are willing to pay something
less than $5.00 and receive a slightly smaller surplus.
Since the market price of hamburgers is just $2.50, the area of the shaded triangle in Figure
4.6(b) is equal to total consumer surplus.
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Supply and Demand and Market Efficiency
Producer Surplus
producer surplus The differencebetween the current market price and the full cost ofproduction for the firm.
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Supply and Demand and Market Efficiency
Producer Surplus
FIGURE 4.7 Market Supply and Producer Surplus
As illustrated in Figure 4.7(a), some producers are willing to produce hamburgers for a price of
$0.75 each. Since they are paid $2.50, they earn a producer surplus equal to $1.75. Other
producers are willing to supply hamburgers at a price of $1.00; they receive a producer surplus
equal to $1.50.
Since the market price of hamburgers is $2.50, the area of the shaded triangle in Figure 4.7(b) is
equal to total producer surplus.
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Refer to the figure below. How much are suppliers willing to receivein order to produce 1 million hamburgers?
a. $5.00 per hamburger.
b. $2.50 per hamburger.
c. $0.75 per hamburger.
d. Anywhere between $2.50 and $5.00 per hamburger.
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Supply and Demand and Market Efficiency
Competitive Markets Maximize the Sum of Producer and Consumer
Surplus
FIGURE 4.8 Total Producer and Consumer Surplus
Total producer and consumer surplus is greatest where supply and demand curves intersect at
equilibrium.
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Supply and Demand and Market Efficiency
deadweight loss The net loss of producer andconsumer surplus from underproduction oroverproduction.
Competitive Markets Maximize the Sum of Producer and Consumer
Surplus
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Supply and Demand and Market Efficiency
Figure 4.9(a) shows the consequences of producing 4 million hamburgers per month instead of 7
million hamburgers per month. Total producer and consumer surplus is reduced by the area of
triangleABCshaded in yellow. This is called the deadweight loss from underproduction.
Figure 4.9(b) shows the consequences of producing 10 million hamburgers per month instead of
7 million hamburgers per month. As production increases from 7 million to 10 million hamburgers,
the full cost of production rises above consumers willingness to pay, resulting in a deadweight
loss equal to the area of triangleABC.
FIGURE 4.9 Deadweight Loss
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Refer to the figure. What is the impact of theshift in supply on consumer surplus?
a. Consumer surplus decreases, from acd
to abe.b. Consumer surplus decreases, from acf
to abg.
c. Consumer surplus increases, from gbcfto abg.
d. Consumer surplus increases, fromcbedto acd.
e. Consumer surplus does not changebecause supply is shifting, not demand.
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Refer to the figure. What is the impact of theshift in supply on consumer surplus?
a. Consumer surplus decreases, from acd
to abe.b. Consumer surplus decreases, from
acfto abg.
c. Consumer surplus increases, from gbcfto abg.
d. Consumer surplus increases, fromcbedto acd.
e. Consumer surplus does not changebecause supply is shifting, not demand.
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Supply and Demand and Market Efficiency
Potential Causes of Deadweight Loss From Under- andOverproduction
When supply and demand interact freely, competitive marketsproduce what people want at least cost, that is, they are efficient.
There are a number of naturally occurring sources of marketfailure. Monopoly power gives firms the incentive tounderproduce and overprice, taxes and subsidies may distortconsumer choices, external costs such as pollution andcongestion may lead to over- or underproduction of some goods,
and artificial price floors and price ceilings may have the sameeffects.
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Refer to the figure below. The market on the left produces 7 million units,while the market on the right produces 10 million units. In whichmarket is the total surplus generated from production andconsumption the highest?
a. In the market on the left.
b. In the market on the right.
c. In neither market. Both markets generate the same amount ofsurplus.
d. In neither market. These markets dont generate any surpluses.
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Refer to the figure below. The market on the left produces 7 million units,while the market on the right produces 10 million units. In whichmarket is the total surplus generated from production andconsumption the highest?
a. In the market on the left.
b. In the market on the right.
c. In neither market. Both markets generate the same amount ofsurplus.
d. In neither market. These markets dont generate any surpluses.
REVIEW TERMS AND CONCEPTS
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REVIEW TERMS AND CONCEPTS
black market
consumer surplus
deadweight loss
favored customers
minimum wage
price ceiling
price floor
producer surplus
price rationing
queuing
ration coupons