The supply and demand model is probably the most famous model in economics.  We will start with the demand side of the market, then discuss the supply side, then put them together to form a market (where people trade with each other).

But before we start the model of supply and demand (of markets) - let's review some basic information regarding the functional relationships we will graph.

What is a functional relationship?

    Dependent variable:

    Independent variable:

Ceteris paribus assumption:

How do we show changes in an independent variable?

    Movement along the curve:

    Shift in the curve (when do we need a new curve?):

In order to understand where market prices come from and how markets work generally, we need to look at both "sides" of the market.  Let's start with the demand side.

The law of demand:

This section relates to IMPORTANT CONCEPT READING NINE:  THE LAW OF DEMAND

The demand curve:

A schedule showing the amount of a good that consumers are willing and able to buy at various prices during a specific period of time (ceteris paribus).

If we gathered some data from the real world, we could graph the demand curve:

Explanations for (or theories behind) the law of demand:

1. When the price of x goes up, the consumer switches to a substitute and buys less of x (remember, when a consumer buys something he sacrifices something else):

        Remember:  relate this to the law of demand.

2. also the law of diminishing marginal utility:

        Remember:  relate this to the law of demand.

3. also - change in real income:

        Remember:  relate this to the law of demand.

Individual demand:  demand of one person.

Market demand:  sum of the demands of all the buyers in a market.

Money Costs and Other Costs:  Keep in mind that the price in money that must be paid for something is not a complete measure of its cost.  But a sufficiently large change in price can be counted on to cause a change in consumer behavior.

DO ICE FOUR

The demand function:

Qx demanded = f( Px, Income, Price of substitutes, Price of complements, price and income expectations, taste, time)

Remember:  When the Px changes, we move along the curve (change in quantity demanded).
When any other independent variable changes, we shift the curve (change in demand) - we need a new curve.

Change in the Px:

Change in Income:
    Normal good = when income increases, consumers buy more of the good.
    Inferior good = when income increases, consumers buy less of the good.

Change in the price of a Substitute:

Substitute:  A good that can be consumed in place of another good.
    Consumers always substitute into the relatively cheaper good.

Change in the price of a Complement:

Complement:  A good that is consumed with another good.
    Consumers buy both goods together.  They "complement" each other.

Change in price and/or income expectations:

Change in taste:

Change in time:

DO ICE FIVE