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  Garcia's Approach to Questions Dealing with Supply and Demand

1. Determine which commodity is the one under consideration.
2. Is the price of the commodity under consideration changing?
a. If no, go to Questions #3.
b. If yes: Is the change in the price of the commodity affecting demand, supply, or both?
1. If only the price of the commodity under consideration is changing, there is a change in the quantity supplied, a change in the quantity demanded, or both; move along the supply curve, the demand curve, or both.
2. If the price of the commodity under consideration is changing and something else is also affecting the relationship between price and quantity, go to Question #3.
3. What non price determinants are affecting the relationship between price and quantity?
a. If the price of the commodity remains the same and the non price determinants of demand are affecting the relationship, shift the demand curve upward or downward.
b. If the price of the commodity remains the same and the non price determinants of supply are affecting the relationship, shift the supply curve upward or downward.
c. If the price of the commodity remains the same and both non price determinants of demand and non price determinants of supply are affecting the relationship, shift both the demand curve and the supply curve. NOTE: Key question is to understand which are determinants of demand and which are determinants of supply.
d. If the price of the commodity under consideration is changing and non price determinants of demand, non price determinants of supply, or both are affecting the relationship, move along and then shift the supply curve, the demand curve, or both. NOTE: In some cases, shift the curve first, and then move along the curve; this occurs rarely, and only when the non price determinants have a stronger effect than price.
4. The determinants of demand or supply will have an indirect effect on each other. Therefore, a non price determinant of demand or supply will shift the demand or supply curve first (direct effect), and then will shift the other curve (indirect effect).
5. Are there any substitutes or complements of the commodity
under consideration, and what are the effects?
6. Determine the equilibrium (i.e., QD = QS).
a. After determination of equilibrium, if supply curve or demand curve shifts, a new equilibrium will be established.
b. If moves along the supply and/or demand curves (changes in quantity supplied and/or demanded) are made and neither curve shifts, there will be surpluses and shortages in the market.
7. Is the government intervening in the market through a price control? If so, determine if it is a price ceiling or a price floor, and determine how it will affect the market.
 

                                                                     Supply and Demand
-How prices are determined in competitive markets.
-How markets interact with other markets
How price changes and the functions perform in a market economy and how consumers and producers respond to the price changes.
-Human beings are rational decision makers who are motivated by the self interest and prices.
- Rational decision making and prices involves careful comparisons of costs/benefits and that cost/benefits at marginal.
-Firms use Marginal analysis to determine max. of profit outputs. Competitive industries are beneficial to consumers.
- Firms exercise Price discretion ( market power).
-Market economy is govern by the interaction of buyers and sellers in thousands of different goods and services and resource markets.
-This interaction or bargaining determines prices.
- The prevailing prices of goods and services tell producers which goods and services (g/s) consumers want most.
- Resource prices tell producers which resources are profitable.
-Because resource prices affect households' incomes, they will influence the distribution of g/s
- Competitive markets are composed of many buyers and sellers each too small to influence the market price.
-Prices are determine by the interaction of buyers and sellers not powerful buyers and sellers.
Price Theory- is the change in the prices of products relatively, that is change in the price of that product relative to prices of other commodities.

                                                                    I. Demand
Consumers are sovereign and dictate which goods and services to be produced.
Consumers demand rather than consumer wants or desires direct the markets. Wants are unlimited so it is the willingness and able to pay prices for goods and services.
A. The law of demand.
- The various quantities of a g/s per unit of time that consumers are willing and able to take of the market at all possible prices, with all else remaining constant.
- The price system is related to time. Price increase and decrease by season, year, month, etc. Why would prices of strawberries and coffee change when taste and preferences don't change?
-Price is allocating system of efficiency. e.g., HOURS, PRICE OF LOCKERS AT THE GYM
- Quantity demanded and supply is measure as a amount per unit of time. I.e. cup of coffee a day. Without reference to time we can not tell whether a quantity demanded is large or small.
- Demand is what consumers plan to buy.
Wants are the unlimited desires of people to have G/S.. Therefore Demand reflects which G/S ( wants) to satisfy. If you demand something, you have to satisfy something ( utility).
1. More of a good will be demanded the lower its price, other things constant. Thus, there is an inverse relationship between price and quantity demanded.
2. Less of a good will be demanded the higher its price, other things constant. Again, there is an inverse relationship between price and quantity demanded.

B. The demand curve is the graphic representation of the law of demand.
- Quantity demanded is not equal to quantity actually bought.
-Quantity trade is the quantity that people actually buy and sell ( Actual Vs. Potential Demand).
-Individual demand curve represents price and quantity combinations of a single buyer.
-Market Demand Curve represents quantity and price combinations for all buyers of a particular G/S. How much buyers and sellers are willing and able to buy.
-Qd is not independent of price.
1. The demand curve slopes downward and to the right.
2. The slope tells us that quantity demanded varies indirectly in the opposite direction to the price.
As price increases quantity demanded decreases and as price decreases quantity demanded increases ( Negative slope and inverse relationship)

Quantity Demanded: is the total amount of any G/S that consumers wish to purchase during a period of time.
1. Qd is desired quantity that consumers wish to purchase when faced with different prices of product, prices of other products, taste, income, preference, etc., and it is different from quantities actually purchase.
2. Qd desire is not idle dream but quantities actually willing and able.
3. Qd refers to continues flown of purchases therefore, expresses "so much" per period of time.
4. Qd curve is change in the Qd and assumes that everything is constant except price of the commodity

Affects which affect the negative relationship between price and quantity demanded:
 a. Income effect
 b. Substitution effect
 c. Marginal Utility effect

A. Income Effect:
Given a fixed amount of money to be spend on a commodity, the lower the price of the product, the larger the quantities of the product that the consumers can purchase with that fixed amount of income, and therefore, move along the same demand.
However, if the income or budget changes then it is a shift on demand.
Income effect is the ability (ableness) to purchase more at reduce prices. If prices decrease, consumers are able to increase Qd of any given income.

B. Substitution Effect: as the price of the commodities under consideration decreases (assuming that the other commodities do not change in price), the commodity under consideration becomes cheaper relative to its competitive products, and larger quantities of the commodity will be substituted.
The price of the commodity under consideration affects the substitutability of other products, and therefore, move along the demand curve.
Substitution effect is the willingness of consumers to substitute for other products the product that has decline in price. As price of product declines, it becomes relatively more attractive than other products serving the same function.
Substitution determinant: If the price of other commodities change and the commodity under consideration remain the same, there is a shift in the demand curve or change in demand.

C. Marginal Utility Effect: The larger the quantities of a commodity purchase by the consumer, the less and less additional satisfaction the consumer will receive from possessing an additional unit of the product; consequently, the price will have to decrease in order for the consumer to purchase additional units of the product.
Consumers will not buy more of the product unless the decrease in price make them believe that they are getting more satisfaction or utility. Saturation occurs when consumers will not buy more of the product.

C. Important qualifications of the law of demand.
1. The law of demand refers to a good's relative price. The relative price of a good is the price of that good compared to the price of another good or combination of goods. Example: a café latte costs $2, while a New York Yankees baseball cap costs $10. Thus, the relative price of the caps relative to the price of café lattes is $10/2 = $5.
2. The actual price paid for the goods is called the money or absolute price.
a. The price of $10 for the cap is relative to the composite price of all other goods.
b. The opportunity cost of buying a cap is what must be sacrificed to buy the cap.
c. In an inflation, money prices are not a good representation of relative prices.
d. Opportunity cost and the individuals' ability to substitute .
(1) If the relative price of a good rises, the opportunity cost of that good will also rise.
(2) Demanders will substitute a good with a lower opportunity cost for it.
3. Other things constant Ceteris Paribus.
a. Other things constant means that all other factors that affect the analysis are assumed to remain constant, whether they actually remain constant or not.
b. Since analysts must reasonably assume that all other things remain constant, Alfred Marshall called this partial equilibrium analysis.

D. Shifts in demand versus movements along a demand curve .
1. Demand refers to a schedule of quantities of a good that will be bought per unit of time at various prices, other things constant. Graphically, it refers to the entire demand curve.
2. Quantity demanded refers to a specific amount that will be demand per unit of time at a specific price. Graphically, it refers to a specific point on the demand curve.
3. A movement along a demand curve is the graphical representation of the effect of a change in price on the quantity demanded, everything hold constant except the price of the commodity.
4. A shift in demand is the graphical representation of the effect of anything ( exogenous variables) other than price on demand.
5.
- If the price of the commodity changes, move along the same demand curve; this is a change in the quantity demanded. Created by the change of value of the independent - endagenous variable.
- If exogenous variables change ( non price determinants), the demand shifts inwards or outwards; this is a change in the demand. The change in other variables , other than price, which affects amount of product sold, shifts the demand curve.
-If the price of the commodity changes, move along the same demand curve; this a change in the quantity demanded.
If exogenous variables change ( non price determinants), the demand shifts inwards or outwards; this is a change in the demand.

E. Shift factors of demand are those that cause shifts in the demand curve to the right or left. These include (but are not limited) to the following:
1. Society's income (level of income and distribution of income).
2. The prices of other goods ( Substitutes and complements).
Substitutes: goods that satisfy similar needs, wants or desires. Goods that can be use in place of another.
As Px increases Qx decreases but Qy increases.
As Px decreases Qx increases but Qy decreases.
Complements: goods that can be use jointly or in conjunction with the product.
As Px increases Qx decreases and Qy decreases.
As p x decreases Qx and Qy increases.
3. Tastes and preferences.
4. Expectations.
5. Population, age and number of  buyers
6. Range of goods available to consumers. Variety
7. Exchange rates: the rate in which different moneys are exchange.
If jeans cost $20 in U.S. and 2,600 yen in Japan then the exchange rate is $1 equal to 130 yen but if the price is $20 and costs 2,480 yen then the exchange rate is $1 equal 124 yen

As non price determinants change, the demand curve changes and shifts.
If Px is constant and Qd increases demand curve shifts outward.
If Px is constant and Qd decreases the demand curve shifts inwards.
F. The demand table assumes all the following:
1. As price rises, quantity demanded declines.
2. Quantity demanded has a specific time dimension to it.
3. All the products involved are identical in shape, size, quality, etc.
4. The price the table refers to is a relative price even though it is expressed as a money price.
5. The schedule assumes that everything else is held constant.

Summary: Qd is a single point of price /quantity combination. The demand curve  is composed of ordinal pairs of numbers on the same function. A point on the demand curve is the quantity demanded.
The demand shows alternative quantities that the consumers is willing and able to buy at specific price at a period of time, ceteris paribus.
Change in the quantity demanded is created by a change in the price of the commodity and there is a move along the demand curve.
Change in the demand curve is created by a non price determinant of the demand. There is a shift in the whole demand curve.

G. From a demand table to a demand curve.
1. To derive a demand curve from a demand table, you plot each point on the demand table on a graph and connect the points. Approximation, and therefore, the curve or function may be linear or non linear, straight or non straight ( hyperbola), but with negative slope.
2. The curve represents the maximum price that you will be willing and able to pay for various quantities of a good, happily pay less.
- Demand curve intercepts the P axis because people will not pay above certain price.
- Demand intercepts Quantity axis because product is limited or has a price > 0.

H. Individual and market demand goods.
- Individual demand curve represents the price and quantity combinations of a single buyer.
1. A market demand curve is the horizontal sum of all individual demand curves and represents the price and quantity combinations of all buyers of a particular G/S.
- How much buyer or buyers are willing and able to buy and quantity demanded is not independent of price.
2. This is determined by adding the individual demand curves of all the demanders.
3. In the real world sellers do not add up individual demand curves but estimate total market demand for their product which becomes smooth and downward sloping. This is based on two phenomena:
a. At lower prices, existing demanders buy more.
b. At lower prices, new demanders enter the market.
 

                                                                                II. Supply

- The various quantities of a G/S that the supplier or producer is willing and able to put on the market at various prices, ceteris paribus.

A. Individuals control the factors of production, resources or inputs, necessary to produce goods or services.
B. Individuals supply factors of production to intermediaries or firms - organizations of individuals, that transform the factors of production into usable goods or services.

C. The law of supply.
As Px increases Qs increases and as Px decreases Qs decreases and move along the supply curve . Change in the Qs.
1. More of a good will be supplied the higher its price, other things constant. Thus, there is a direct relationship between price and quantity supplied.
- Supply is what producers want to sell
2. More of a good will be supplied the higher its price, other things constant. Again, there is a direct relationship between price and quantity supplied.
3. The law of supply is accounted for by two factors:
a. In the face of rising prices, firms arrange their activities in order to supply more of that good to the market, substituting production of that good for the production of other goods.  Marginal Rate of Substitution, and goals of the producers: profit max., market power, min. Of risk, min. of costs, avoid attract attention of government and competitors, are two explanations for the supply curve to be upwards sloping and positive.
b. Law of diminishing marginal returns: when successive equal amounts of a variable resource are combine with fixed amount of resources marginal increases in output can be attributed to each additional unit of the variable resource but eventually will decline.

D. The supply curve is the graphic representation of the law of supply.
1. The supply curve slopes upward to the right.
2. The slope tells us that the quantity supplied varies directly, in the same direction, with the price.
- As price increase quantity supplied increases and as price decreases quantity supplied decreases ( positive slope and direct relationship)

E. Important qualifications to the law of supply .
1. Relative price. Suppliers will substitute toward goods for which they receive higher relative prices.
2. The law of supply is based on opportunity cost and the individual firm's ability to substitute.

F. Other things constant.
- If the price of the commodity changes, move along the supply curve. This is a change in the quantity supply.
- If exogenous variables change ( non price determinants of supply) shifts the supply curve. This is a change in the supply.

G. Shifts in supply versus movements along a supply curve.
1. Supply refers to a schedule of quantities a seller is willing to sell per unit of time at various prices, other things constant.
2. If the amount supplied is affected by anything other than a change in price, that is by a shift factor of supply or exogenous variables, there will be a shift in supply. The graphic representation of the effect of a change in a factor other than price on supply will be a new function.
3. Quantity supplied refers to a specific amount that will be supplied at a specific price.
4. Changes in the  price  of the commodity under consideration causes changes in quantity supplied; such changes are represented by a movement along a supply curve- the graphic representation of the effect of a change in price on the quantity supplied.

H. Shift factors of supply are those factors that cause shifts in the entire supply curve to the left or right.
1. Changes in the prices of inputs used in the production of a good.
2. Changes in technology or technology efficiency.
3. Changes in suppliers' expectations.
4. Changes in government policies: taxes and subsidies.
5. Changes in the costs of factors of production.
6. Goals of the firm
7. Number of firms in the industry ( power of the firm in the market)
8. International effects by factories located or producing abroad. Rationalized production
If price is constant and Qs increases supply curve shifts outwards.
If price is constant and Qs decreases supply curve shifts inwards.

I. The supply table is the numerical representation of choices between price and quantity supplied, the supply curve.

J. From a supply table to a supply curve.
1. In order to derive a supply curve from a supply table, you plot each point in the supply table on a graph and connect the points.
2. The supply curve represents the set of minimum prices an individual seller will accept for various quantities of a good.
3. Competing suppliers' entry into the market places a limit on the price any supplier can charge.

K. Individual and market supply curves.
1. The market supply curve is derived by adding the individual supply curves of each supplier.
2. The law of supply is based on two phenomena:
a. At higher prices, existing suppliers supply more.
b. At higher prices, new suppliers enter the market.
 

                                                                III. The Marriage of Supply and Demand

A. The dynamic laws of supply and demand.
1. If quantity demanded is greater than quantity supplied (excess demand), prices tend to rise; if quantity supplied is greater than quantity demanded (excess supply), prices tend to fall.
2. The larger the difference between quantity demanded and quantity supplied, the greater the pressure for prices to rise (if there is excess demand) or fall (if there is excess supply.
3. When quantity demanded equals quantity supplied, prices have no tendency to change.
B. The graphical marriage of supply and demand.

                                                             IV. Equilibrium

A. - Equilibrium is:
- a concept in which opposing dynamic forces pushing cancel each other out.
- Market clearing price.
- it is the point of balance between Qs and Qd
- Demand intercepts the supply
- the point where there is no tendency to change
- where actual exchange takes place
- where both consumers and producers are willing and able to exchange.
- where potentiality no longer exists but actual trade.

B. In supply and demand analysis, equilibrium means that the upward pressure on price is exactly offset by the downward pressure on price.
C. Equilibrium price is the price toward which the invisible hand drives the market.

D. Equilibrium isn't:
1. Inherently good or bad, but simply a state in which dynamic pressures offset each other.
2. A state of the world-. It's a characteristic of of the model used to look at the world.
3. Changes in Price:
What happens, if by coincidence, price and only price changes when equilibrium is set?
If price is above equilibrium; surplus will occurred or excess supply.
If price is below equilibrium; excess demand or shortage.
Any point to the left of equilibrium exchange will occur and anything to the right no exchange will occur.
 - If price increases above equilibrium, suppliers increase Qs above the E ( equilibrium) and Qd decreases creating a surplus ( Qs > Qd). If there is a surplus, producer must bring price back to E and prices decrease until it reaches E until consumers are willing and able. Producer is in charge of the market.
- If price is below the equilibrium, suppliers decrease Qs and consumers increase Qd, creating a shortage (Qd > Qs).
If there is a shortage, consumers must bring price up to the E by paying more until producers are willing and able to supply.
4. Static and Dynamic Equilibrium:
- Static is equilibrium over time, consumers and producers are not able to perceive the changes in the market price.
- Dynamic is the market and equilibrium as it is today. E is constantly shifting and moving , which forces and pushes the price and quantity rapidly.
5. Changes in Equilibrium:
 a. Law of Supply when non price determinants of demand affect: price and quantity E changes in the same direction ( direct relationship).
If the demand curve shifts to the right and supply is constant both p and q E increase.
 b. Law of Supply; non price determinants of demand affect; If the Demand curve shifts to the left and supply is constant, both price and Qe decrease.
A and b, the consumer is in charge and decides how much to consume, and producers must adjust by changing the supply. Consumer dominate the market.
 c. Law of Demand when non price determinants of supply affect the market: price equilibrium and quantity equilibrium change in opposite direction ( inversely related).
If supply curve shifts to the right and demand is constant, Pe decreases and Qe increases.
d. Law of demand when non price determinants of supply affect the market:  if supply curve shifts to the left and demand is constant, Pe increases and Qe decreases
e. If both demand and supply shift, there are numerous possibilities, constant increases of demand and supply. Dynamic equilibrium.

E. In the real world, there exist other forces besides pure supply and demand. These include:
1. Political pressures (the invisible foot).
a. Farmers use political pressure to receive higher than supply/demand equilibrium prices.
b. Suppliers conspire to limit market entry by other suppliers. In housing rental markets, renters often organize politically to get local government to enact rent controls favorable to them.
2. Social pressures (the invisible handshake). For example, it is socially difficult for outsiders to take the jobs of striking workers.
 

                                                                 V. Changes in Supply and Demand

A. A shift in demand that moves the demand curve to the right causes upward pressure on price. Eventually, a new equilibrium is reached at a higher price.

B. A shift in supply that moves the supply curve to the left, causes upward pressure on price. Eventually, a new equilibrium is reached at a higher price.

NOTE: For those classes with a greater emphasis on mathematical tools, see Appendix A, 'Algebraic Representation of Demand, Supply, and Equilibrium.'
 

                                                                        VI. Supply and Demand in Action

Government price control: Price ceiling and floor.
Government may intervene in the market if consumers and producers fail to come to an agreement or the market present frictions ( restriction on change in response to conditions of the market) or Immobilities (when resources fail to move from an inefficient industry to a growing one).
Disequilibrium Price: Quantity exchange is determine by the lesser of the quantity demanded or quantity supplied. Qd and Qs are not equal at a particular price.
Price controls are imposed because unfair price and injury to consumers.
Prices are too low to provide adequate quantity and quality. To protect certain interest of consumers e.g., low income, and to protect consumers and producers from interest groups.
a. Price Ceiling: A maximum price control that can exist in the market. A price below the equilibrium which creates a shortage.  Price will not be allow to increase above certain point.
Effective price ceiling leads to excess demand with quantity exchange being less than its equilibrium amount.

The government purposes:
1. To tell the market that it is using too many resources, using resources inefficient or not recognizing the value of resources. Producer will have to shift supply and consumer decrease demand to create a new equilibrium below the current.
2. To force consumers to decrease consumption
3. To divert resources from public sector

 b. Price floors or support prices in agriculture, min. wage
Price is not allow to decrease below certain level.
Effective price floors leads to excess Supply and a unsold surplus will exist, or someone must enter the market and but excess surplus.
Shortages create:
1. First come, first serve basis
2. Black and gray markets.
Price Floor: Set the price above equilibrium, the lowest possible price charge in the market and creates a surplus and price will not be allow to decrease below certain level. Producers will have to decrease price and consumers decrease quantity shift of the demand to the right and supply to left
price floors create black and gray markets.
Effective price floors lead to an excess supply and a unsold surplus will exist, or some one will have to enter the market and buy excess surplus.
Price is not allow to increase above certain level. e.g., combat inflation, rent controls.

C. Exports: Occurs whenever there is excess supply or surplus at the world's prices. Countries export products whose world prices exceeds the price that would rule domestically if there is no foreign trade.

D. Imports: Occur whenever there is an excess demand or shortage domestically at the world prices. Countries import products whose world prices is less than the price that would rule domestically if there were no foreign trade.

E. Tariff: a tariff increased the price face by domestic consumers above the world price.
A tariff causes conflicts between domestic producers, who are benefit by it, and domestic consumers who are made worse off because of higher prices they pay.

Examples of Price Controls;
1. Some delegates to OPEC reasoned that they could get more revenue by selling less oil.
2. It worked. By cutting supply by 25 percent they doubled revenues.
3. As prices rose:
a. People switched to fuel efficient cars.
b. Thermostats were lowered.
c. A large number of non OPEC suppliers increased output.
d. Oil companies were encouraged to discover more oil, which they did.
4. Long before these market driven forces could come into play, the U.S. government imposed a price ceiling, a government imposed limit on how high a price can be charged on oil. Price ceilings cause shortages.
a. When price ceilings are imposed, it places upward pressure on price while government policy places downward pressure on price.
b. Shortages ensued. There were long lines at the gasoline pumps.
c. When the price ceilings were eliminated, prices rose substantially, but the shortages were eliminated the long lines disappeared.

B. Examples of shifts in supply and demand.
1. The British "mad cow disease", and the market there and in the EU for beef
a. This involved a threat to consumer health, shifting the demand curve to the left.
b. Since the British government mandated that older beef could not be sold, the supply curve shifted to the left to an equilibrium point lower than the original equilibrium price.

2. The UN trade sanctions on oil from Iraq and the price of oil on the world market.
a. Initially, the supply curve for world oil shifted to the left.
b. As production resumed after the Gulf War, the supply curved moved to the right but not back to its original price.

3. The push for technology development in being able to deal with traditional Chinese characters in designing computers for the Chinese market.
a. Increased income, being a shift factor of demand, originally moved the demand curve to the right causing prices to rise.
b. As prices rose, suppliers addressed the task of improving the technology, moving the supply curve t
to the right.

4. American baby boomers' push to create their own retirement plans and the exploding stock market.
a. Demographic changes among baby boomers moved the demand curve for financial assets to move to the right.
b. The same phenomenon occurred in the surging demand for housing among this group during the 1980s.

5. The imposition of a 10 percent surtax on the market for luxury boats.
a. Taxes levied on suppliers shift the supply curve to the left.

6. The development of new programming languages for use on the Internet and the market for high end PCs.
a. Technological advances move the supply curve for high end PCs to the right.
b. As demand for dumb boxes increases, the demand for high end PCs shifts to the left.
As these examples show, supply and demand can shed light on a variety of real world events

C. Exchange rate determination.
1. Exchange rates are the rates at which one currency exchanges for another.
a. The price at which currencies will exchange is determined by the supply and demand for each. The example used is U.S. dollars and Mexican pesos.
b. Due to political upheavals in Mexico in early 1995, the peso experienced a depreciation, a decrease in the value of that currency.
c. The fall in the value of the peso caused the U.S. dollar to experience an appreciation, an increase in value. The consequence was:
(1) To make U.S. goods more expensive for Mexicans to buy.
(2) To throw Mexico's economy into a recession.
2. A government may pass a law determining what the exchange will be regardless of supply and demand.
a. When governments do this they make their currencies non convertible that is, it becomes a currency that cannot be freely exchanged except at the government set rate.
b. The effect is that this become a price floor a government imposed limit on how low a price may be charged.
c. Non convertible currency laws are very difficult to police, therefore, black markets in currency quickly ensue.
3. Fixed exchange rates.
a. Most Western economies have fixed exchange rates - rates set by government at which a currency can be freely exchanged among individuals.
(1) The government works with market forces not against them as in the non convertible currency situation.
(2) The government makes a commitment, after setting the exchange rate, to buy and sell sufficient currency desired so that the quantity supplied always equals the quantity demanded at the exchange rate.
(a) If the quantity supplied is less than the quantity demanded, the government must sell (supply) its currency.
(b) If the quantity supplied is more than the quantity demanded, the government must buy (demand) its currency.

D. Rent controls.
1. Rent control is a price ceiling on rents, set by government. The example used is rent control in Paris following World War I and again following World War II. The consequences were:
a. A huge shortage of living quarters.
b. New housing construction stopped.
c. Existing housing was allowed to deteriorate.
d. For many, the only way to get living quarters was to offer a huge bribe to the landlord.
e. Many families had to double up with other family members.
2. A similar situation is described that has occurred in New York City.
a. All of the above (called non price rationing) have occurred.
b. In addition, preferences based upon gender, race, and other characteristics of tenants, although illegal, are brought into play.

E.  The effects of taxes, tariffs, and quotas.
1. An excise tax is a tax that is levied on a specific good.
2. A tariff is an excise tax on an imported good. Taxes and tariffs raise prices and reduce quantity ).
3. A quota is a quantitative restriction on the amount that one nation can export to another.
4. The effect of an excise tax on price and quantity.
a. The example used was a 10 percent luxury tax on expensive boats imposed in 1990.
b. Since the luxury tax was imposed on the boat builders, the supply curve moved to the left by the amount of the tax.
c. Since at a price equal to the original price plus the tax there is excess supply, the price for boats rose by less than the tax, while quantity supplied and demanded fell.
d. The tax was repealed in 1993 because of tax revenue shortfalls.
5. Quantity restrictions: quotas.
a. The example used was the effort of the U.S. to restrict U.S. imports of Japanese cars.
b. The effect is that it raises the prices Japanese automobiles in the U.S.
6. The relationship of a quota and a tariff.
a. Tariffs and quotas can both be used to reduce quantity and raise prices.
b. There is a difference between imposing a tariff and imposing a quota.
c. In the case of a quota, the profits from a higher price goes to the manufacturer.
d. In the case of the tariff, the tax goes to the government.
e. As a consequence, once quotas are instituted, Japanese firms compete intensely to get them. See
 

II. The Limitations of Supply and Demand Analysis

A. It is not enough to be able to explain what happens when supply or demand curves shift. It is necessary to understand the assumptions underlying the analysis.
1. One of the most important of these assumptions is the other things constant assumption.
a. Supply/demand analysis is called partial equilibrium analysis - analysis that is incomplete because it holds other things constant.
b. Supply/demand analysis is the first step to analysis, not the complete analysis.
c. Material effects - effects that can affect the results in a substantive way may be present.

d. Deciding on the materiality of effects requires a knowledge of the structure of the economy since all actions have ripple or feedback effects.
e. Partial equilibrium analysis is most appropriate for questions where the relative prices refer to the prices of goods that are a small percentage of the entire economy.
f. When one analyzes goods that are a large percentage of the entire economy, the other things constant assumption is likely not to hold true.

2. The fallacy of composition.
a. The fallacy of composition is the false assumption that what is true for a part will also be true for the whole.
b. Thousands of small effects taken together add up to a large effect.
c. When analyzing the aggregate, small effects that can be put aside in micro, can add up, and hence cannot be forgotten.
d. Small effects comprise microeconomics while large effects comprise macroeconomics.
3. Examples: chickens, eggs, and composite goods.
a. A chicken and egg example
(1) Assuming a technological change greatly increases the ability of hens to lay more eggs.
(2) The supply curve for eggs moves to the right.
(3) Prices drop while the quantity demanded increases.
b. A composite good example.
(1) Assuming a technological change greatly effect the production of all goods in the economy.
(2) The supply curve for all goods moves to the right.
(3) Will prices drop while the quantity demanded increase as in the egg example? Not necessarily.
(4) Since the technological advance affect production costs, it also affects people's income.
(5) As people's income goes up, demand will also go up, moving the demand curve to the right.  When there is an interdependence between supply and demand, as in this case, a movement along one curve can cause a shift of the other curve. Thus, supply and demand used alone, is not enough to determine where the equilibrium will be.

4. Why a separate macroeconomics exists.
a. The lines between macro and micro are not hard and fixed.
b. Topics to the right are pure macro, while topics to the left are pure micro. Those in the middle are ambiguous.
c. In macroeconomics aggregate supply and aggregate demand are interdependent. When the output side increases, so does the income side.
d. It is to account for interdependency between supply and demand that we have a separate micro analysis and a separate macro analysis.