Chapter 9Chapter 9

Supply and Supply and DemandDemand

Geog 3890: ecological Geog 3890: ecological economicseconomics

You can turn a parrot into an economist by getting it to squawk: “Supply and Demand!”

Demand Curve ChangesDemand Curve ChangesShift in Curve vs. Movement Along Shift in Curve vs. Movement Along

CurveCurve► Shift Along Curve Shift Along Curve – Caused by Change in Price– Caused by Change in Price► Change in Curve Change in Curve – Caused by changes in income, – Caused by changes in income,

changes in preferences, changes in costs of substituteschanges in preferences, changes in costs of substitutes► Goods are Related as Substitutes or ComplementsGoods are Related as Substitutes or Complements► SubstitutesSubstitutes: Ham and Bacon, Coffee and Tea: Ham and Bacon, Coffee and Tea► ComplementsComplements: Ham and Eggs, Stapler and Staples: Ham and Eggs, Stapler and Staples► Changes in P change Q demanded (movement along curve)Changes in P change Q demanded (movement along curve)► Changes in relationship between P & Q (shift of curve itself)Changes in relationship between P & Q (shift of curve itself)

Shifting Demand & Supply Shifting Demand & Supply CurvesCurves

► E. coli tainted E. coli tainted beef beef outbreak.outbreak.

► Bad Bad Processing Processing plant closes.plant closes.

► S1 -> S2S1 -> S2► P1 -> P2P1 -> P2► Q1 -> Q2Q1 -> Q2► Public goes Public goes

soft on beefsoft on beef► D1 -> D2D1 -> D2► Q2 -> Q3Q2 -> Q3► P2 -> P3P2 -> P3

Shortage, Surplus, & Shortage, Surplus, & EquilibriumEquilibrium

► P*, Q* is market P*, Q* is market equilibrium. equilibrium.

► Movement away Movement away from equilibrium from equilibrium forces market forces market back to P*, Q*back to P*, Q*

► Price at P1Price at P1► AB is a ‘Surplus’AB is a ‘Surplus’► Price at P2Price at P2► CE is a CE is a

‘Shortage’‘Shortage’When people complain about a shortage of petroleum or of labor they are reallyComplaining about a shortage of cheap petroleum or cheap labor.The free market will always fix those ‘shortages’ won’t it? Yes. By raising the Price.

Consumer Surplus & ‘Normal Consumer Surplus & ‘Normal Profit’Profit’►Consumer Consumer

SurplusSurplus► Very large for Very large for

necessitiesnecessities

►Producer Producer SurplusSurplus

► aka Rent, & aka Rent, & Differential Differential Rent, & Rent, & ‘‘Normal Normal ProfitProfit’’ “Tax Bads not Goods” where ‘bads’ are depletion and pollution

(throughput), and ‘goods’ are value added by capital and labor (e.g. ‘earned income’).

Explanations of TermsExplanations of Terms►Consumer surplus Consumer surplus is enormous for is enormous for

necessities (water for example).necessities (water for example).►Many environmental goods and services Many environmental goods and services

have infinite consumer surplus.have infinite consumer surplus.►RentRent is equivalent to producer surplus is equivalent to producer surplus

and is defined as payment over and and is defined as payment over and above minimum necessary supply price.above minimum necessary supply price.

►Normal Profit Normal Profit is defined as the is defined as the opportunity cost of the time and money opportunity cost of the time and money the entrepreneur has put into the the entrepreneur has put into the enterprise. enterprise.

Elasticity of Demand & Elasticity of Demand & SupplySupply

► Price Elasticity of Demand = % ∆ in QD / % ∆ in Price

(where ∆ = change, QD = Quantity Demanded)As the price rises, the quantity demanded decreases and vice versa. Due to this concept, "% ∆ in QD" and "% ∆ in Price" will always have different sign, which always results the price elasticity of demand into negative sign.

► Based on the above formula, there are three responses. 1. Elastic: QD greatly responds to change in Price ;

numerator > denominator ; Elasticity > 1 2. Inelastic: QD slightly responds to change in Price ;

numerator < denominator ; Elasticity < 1 3. Unit Elastic: QD equally responds to change in Price ;

numerator = denominator ; Elasticity = 1

ElasticityElasticityhttps://mrski-apecon-2008.wikispaces.com/Chapter+5+Elasticity+and+Its+Application

► Examples of different responses.- Goods with close substitutes are elastic because consumers have more options of goods to

choose from. So when the price increases, they can buy the substitutes of that good. - Luxuries are also elastic because consumers only enjoy luxuries when the price doesn't

change immensely. - Necessities are inelastic because consumers will have to buy necessities regardless of their

price.

Inelasticity & Profit:Inelasticity & Profit: Peak Oil, Peak Food, & Peak Water Peak Oil, Peak Food, & Peak Water

► What happens to total What happens to total revenue as supplies revenue as supplies diminish for a product diminish for a product with inelastic demand?with inelastic demand?

► What happens to What happens to elasticity of demand for elasticity of demand for gasoline as alternative gasoline as alternative energy is developed?energy is developed?

► Why might food and Why might food and water be very lucrative water be very lucrative products to supply as products to supply as global population global population grows?grows?

Could driving Down agricultural

productivityactually raise

GDP?

The Production FunctionThe Production Function(The NCE version - economists love these number free (The NCE version - economists love these number free

equations)equations)► Q = F(a, b, c) Q = F(a, b, c) ► The quantity produced is a function of the The quantity produced is a function of the

quantities of the factors of producton a, b, quantities of the factors of producton a, b, and c.and c.

►DiminishingDiminishing

MPP still holds.MPP still holds.

►MPPa is aMPPa is aPartial derivativePartial derivative

What is the law of increasing marginal cost?

Substitutability & Substitutability & ComplementarityComplementarity

► Production functions exhibit both substitutability and Production functions exhibit both substitutability and complementarity between factors. But standard economists tend complementarity between factors. But standard economists tend to see mostly substitution, whereas ecological economists to see mostly substitution, whereas ecological economists emphasize complementarity. Why is this so?emphasize complementarity. Why is this so?

► Because Ecological Economists put different things in the Because Ecological Economists put different things in the production function and assign different qualitative roles to the production function and assign different qualitative roles to the different factors in the production process. For instance, different factors in the production process. For instance, neoclassical economists treat all inputs the same – labor, capital, neoclassical economists treat all inputs the same – labor, capital, and resources. Ecological economists insist on a qualitative and resources. Ecological economists insist on a qualitative difference. The NCE production function abstracts from the difference. The NCE production function abstracts from the difference between material (resources) and efficient (labor and difference between material (resources) and efficient (labor and capital) causes of production, and considers both to be capital) causes of production, and considers both to be equivalent. Ecological economists insist on the distinction.equivalent. Ecological economists insist on the distinction.

The Ecological Economics The Ecological Economics Production FunctionProduction Function

► Q = F(N, K, L; r)Q = F(N, K, L; r)► This function embodies the fund-flow distinctionThis function embodies the fund-flow distinction

► ‘‘K’ & ‘L’ are funds of Capital and LaborK’ & ‘L’ are funds of Capital and Labor

► ‘‘r’ represents flows of natural resourcesr’ represents flows of natural resources

► ‘‘N’ stands for natural capital which exists both as N’ stands for natural capital which exists both as a stock that yields a flow of resources and as a a stock that yields a flow of resources and as a fund providing various ecosystem services.fund providing various ecosystem services.

How we think about it How we think about it mattersmatters

►Question: Question: A stock of cattle yield a flow of new A stock of cattle yield a flow of new cattle in a sustained yield fashion. Isn’t that a cattle in a sustained yield fashion. Isn’t that a physical stock yielding a physical flow?physical stock yielding a physical flow?

►Answer: Not really. It is a stock (livestock) Answer: Not really. It is a stock (livestock) converting a flow of inputs (grass, grain) into a converting a flow of inputs (grass, grain) into a flow of outputs (new cattle & flow of outputs (new cattle & Waste productsWaste products).).

►The correct description of “production” is The correct description of “production” is transformation of a resource inflow into product transformation of a resource inflow into product outflows, with stocks (funds) of capital and labor outflows, with stocks (funds) of capital and labor functioning as the transforming agents.functioning as the transforming agents.

““Money Fetishism” and Money Fetishism” and FungibilityFungibility

►Why are such basic facts excluded from Why are such basic facts excluded from neoclassical economics? Why does NCE choose neoclassical economics? Why does NCE choose to ignore them, to exclude natural resources to ignore them, to exclude natural resources from theoretical analysis right from the start? from theoretical analysis right from the start? Perhaps it is a case of “money fetishism” – Perhaps it is a case of “money fetishism” – assuming that what is true for money in the assuming that what is true for money in the bank, the symbol and measure of wealth, ‘must’ bank, the symbol and measure of wealth, ‘must’ be true for the wealth that it symbolizes.be true for the wealth that it symbolizes.

What does “Fungibility” mean? Hint – Money is very very “fungible”

The Cobb-The Cobb-Douglas Douglas

Production Production FunctionFunction

4 & 8 minute videos – this is what economics sounds 4 & 8 minute videos – this is what economics sounds like like

herehere: : http://www.youtube.com/watch?v=SJMwcP1pLEQ and here: and here:

http://www.youtube.com/watch?v=3EYvdW_JBIs

► Most production functions are multiplicative forms – that is the Most production functions are multiplicative forms – that is the relationship F among the factors is one of multiplication. After relationship F among the factors is one of multiplication. After all, what could be more natural than “multiplying” together things all, what could be more natural than “multiplying” together things that we call “Factors” to produce something that we call a that we call “Factors” to produce something that we call a “Product”. Unfortunately there is nothing in the real world “Product”. Unfortunately there is nothing in the real world process of production that corresponds at all to multiplication. process of production that corresponds at all to multiplication.

There is only transformationThere is only transformation..► This means that substitutability is built into these production This means that substitutability is built into these production

functions from the beginning as a mathematical artifact, including functions from the beginning as a mathematical artifact, including substitutability between r and K, and r and L (between funds and substitutability between r and K, and r and L (between funds and flows). flows).

Key MessageKey Message► As we move from the empty world to the full world As we move from the empty world to the full world

economy, natural resource flows and services generated by economy, natural resource flows and services generated by natural capital stocks and funds become the limiting factor. natural capital stocks and funds become the limiting factor. Fish catches are no longer limited by the manmade capital Fish catches are no longer limited by the manmade capital of fishing boats, but by remaining natural capital of stocks of fishing boats, but by remaining natural capital of stocks of fish in the sea and the natural funds that support their of fish in the sea and the natural funds that support their existence. We need to economize on and invest in the existence. We need to economize on and invest in the limiting factor. limiting factor. Economic logic has not changed, but the Economic logic has not changed, but the identity of the limiting factor hasidentity of the limiting factor has..

► Because our basic NCE theory of production, when it Because our basic NCE theory of production, when it considers natural resources at all, cannot distinguish funds considers natural resources at all, cannot distinguish funds from flows or recognize complementarity between them, we from flows or recognize complementarity between them, we have been slow to recognize this change.have been slow to recognize this change.

The Utility FunctionThe Utility Function►U = F(x, y, z, U = F(x, y, z,

…) …)

► Our happiness depends on Our happiness depends on what we consume (and not what we consume (and not on our freedom, creativity, on our freedom, creativity, social relationships etc.)social relationships etc.)

► We experience diminishing We experience diminishing marginal utility with marginal utility with increasing consumption.increasing consumption.

The neoclassical production function only contains flows of goods or services

The EE Utility FunctionThe EE Utility Function► U = F(N; x, y, z, …)U = F(N; x, y, z, …)► If ‘x’ is a pair of hiking boots then utility is If ‘x’ is a pair of hiking boots then utility is

dependent upon good places to hike (‘N’).dependent upon good places to hike (‘N’).► If ‘y’ is a snorkeling mask, its utility depends on If ‘y’ is a snorkeling mask, its utility depends on

reefs and clean water to swim in (‘N’). reefs and clean water to swim in (‘N’). ► Not to mention prior dependence on breathable Not to mention prior dependence on breathable

air, drinkable water, sunlight filtered of UV etc.air, drinkable water, sunlight filtered of UV etc.► Natural Capital (‘N’) provides a Natural Capital (‘N’) provides a

complementarycomplementary service without which the service without which the utilities of most consumer goods are not very utilities of most consumer goods are not very great.great.

► Will ‘U’ increase if x, y, and z increase as ‘N’ goes down?Will ‘U’ increase if x, y, and z increase as ‘N’ goes down?

Summary of Chapter 9’s Key Points