Skip to main content
Loading Explore guides…
Micro Unit 2: Supply and Demand · Acedra
Home
Explore
Economics
Micro Unit 2: Supply and Demand
Sign in to save
Chat
If YouTube asks you to sign in, open the video on YouTube.
Watch on YouTube
Reload player
Transcript
57 segments
Copy
Hide video
0:00
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.
0:25
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.
0:50
#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,
1:14
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.
1:37
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
1:56
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.
2:19
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.
2:43
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.
3:04
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,
3:25
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
3:47
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?
4:02
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
4:33
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,
4:54
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.
5:19
Supply is the different quantities that producers are willing and able to sell at different prices. And, there's also a Law of Supply showing a direct relationship between price and the quantity supplied. 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.
5:37
When the price goes down, eh I'm going to sell less because why bother. So that means there's an upward-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.
6:06
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 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!
6:34
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,
6:59
cross-price elasticity of demand, and income elasticity of demand. The price elasticity of demand measures how sensitive quantity demand is to a change in price. The equation is the percent change in quantity divided by the percent change in price. Your teacher or 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
7:22
to calculate percent change, remember to say "NOO!" N.O.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 elasticity of demand is greater than one
7:55
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
8:16
consumers are 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.
8:39
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.
9:00
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 is $200. If the price falls to $15 causing the quantity demanded 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.
9:24
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!
9:53
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.
10:14
And things like paintings by Van Gogh are actually perfectly inelastic. The quantity supplied 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.
10:37
But if the product is relatively easy to produce and a small change in price can lead to a huge change in the quantity supplied. I think you get it, go ahead and fill out Topic 2.4 on your study 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
11:04
are substitutes. If it's negative then the two goods are complements. Income elasticity to demand measures how sensitive quantity demanded 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
11:26
sign really matters. Make sure 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
11:46
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.
12:03
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.
12:22
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,
12:43
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 times height. Now when you put consumer surplus and producer surplus together that gives you total surplus.
13:03
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 deadweight loss, which is lost 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 deadweight
13:22
loss right here. And if we produce too much we end up with deadweight 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 guide. Topic 2.7 starts by going back and looking at the idea of disequilibrium. Just remember when the price is above equilibrium
13:51
the quantity supplied is greater than quantity demanded so there's a surplus. And when the price is below equilibrium the quantity demanded is greater than the quantity 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"
14:11
When it comes to these questions there are 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?
14:34
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? "Oh, 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
15:02
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 at 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.
15:25
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
15:47
going to fall and the supply is going to fall what's going to happen to price and quantity? To get the answer just draw the graph. Remember, "when in doubt, 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. Ao 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. o
16:14
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, price goes up or down, quantity going to go up or down. For 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 luck.
16:41
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 because 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.
17:03
But the real question is can you spot consumer surplus, producer surplus, and deadweight loss? Here they are. Consumer surplus, producer surplus, and deadweight loss. 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
17:23
here's consumer surplus and here's producer surplus. And, again, we have deadweight 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
17:42
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 ceilings are only binding if they're below equilibrium and price floors are binding when they're above equilibrium.
18:04
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
18:25
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
18:45
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, producer surplus, and deadweight loss. Again I'm going to have you do the calculations inside the study guide. For now let's see if you can spot them. Try to find consumer surplus, producer surplus, and deadweight loss after the tax. After the tax, consumer surplus is here. Producer surplus is here. And, if that
19:14
original quantity is socially optimal, then here is the deadweight 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.
19:40
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 deadweight 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 ceilings and floors or taxes
20:02
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 comparative 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.
20:29
Question, what happens to the consumer surplus, producer surplus, and deadweight 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 producer surplus and there's no deadweight loss.
20:56
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.
21:18
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 deadweight 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.
21:45
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. Try 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 price doesn't shift the curve."
Here to help you learn
Sign in to keep a private conversation with your course tutor.
Ask me anything about the material…
Sign in to chat