In a though provoking post Scott Sumner goes into detail about his difficulties getting students to really get Supply and Demand. He asks how other professors do it.
Here is my take:
I always start with auctions. I am not convinced that students can get what’s going on any other way.
Students, have a tendency to think of price in particular as given. I want them to get intuition about an environment where nothing is given. Where price and quantity emerge. This comes naturally from a repeated auction.
Its very easy for students to see that no one “sets” a price at auction. It depends on who is the room and what strategy the buyers take. The more buyers who really want something will provide a higher price.
Talking through the TV show Cash in the Attic , I try to make it clear that no one sets the quantity at an auction either. If people hear that you can sell a bunch of stuff at auction and make a lot of money makes you a lot more likely to rummage through your old stuff and bring it to auction.
So the auction helps them begin to understand that both price and quantity are determined by interactions between people.
There is much more, however, because not everyone at the auction is willing to bid the same amount. This helps us break a part the notions of value and price. Until I started relying heavily on auctions it was like pulling teeth to get students to see that no only are value and price fundamentally different concepts, but if everything every individual valued everything the same and that value was the price there would be no point to trade or economics.
Different values are a necessity for trade just as you must have different values to make an auction work. If I value my old radio at $10 and every other person in the world also values it a $10 what is the point of me trying to sell it and how do I do myself any good by taking it to an auction?
Individual valuation is a gold mine. Because then I just stack the individual valuations up on a bar graph and rank them from highest to lowest. Sometimes I even put a name beside each bar to indicate that this is a real person valuation.
I then step back and say this is a demand curve, of the famous “Supply and Demand” curves.
Because students have already played with Dutch Auctions it is clear to them that if they are five items to be sold then the price at auction will turn out to be the fifth highest valuation. It is also immediately clear that four of the people got a good deal. They paid less than their valuation. Immediately we have an emotional support for consumer surplus.
I go on to have them play with the supply and demand graphs but always with an eye to the auction. Every spot of a demand curve represents a person and how much she values that item.
If the demand curves shift you must be able to tell me a story about that woman. If the supply curve shifts what does it mean relative to that woman. How does the auction end now?
A point that I think I need to make more, to help students with future economics course or applications, is that nothing ever happens because of price. Nothing ever happens because of quantity sold. Price and quantity sold happen because of other things.
I try to keep that perspective in my class but I am sure someone will as them a “if the price goes down then what will happen to . . . “ question when they leave. I need to make sure they understand that this question makes no more sense than saying “if the auctions for Nolan Ryan Rookie Cards start settling at lower prices then what will happen to. . . “
Obviously, the second question immediately prompts one to ask, “wait a minute, what happened to make those Rookie Cards settle a lower price?”