CHAPTER 5

BASICS OF DEMAND AND

SUPPLY

LESSON 1- The Law of Demand

What is Demand?- It is the desire for a particular good backed up by sufficient purchasing power.- Refers to how much (quantity) of a product or service is desired by buyers-It is the ability and willingness of buyers to buy.

Kinds of Demand1. Potential Demand-

the demand which is not backed up by the ability to pay or no purchasing power.

2. Effective Demand-the demand which is backed up

by the ability to pay.

Demand Schedule- Reflects the quantities of goods and

services demanded at different prices.

Demand Curve - The graph depicting the relationship

between the price of a certain commodity and the amount of it that consumers are willing and able to purchase at that given price. It is a graphicrepresentation of a demand schedule.

The Law of Demand“ The quantity of a commodity which

buyers will buy at a given time and place will vary inversely with the price.”

Such general tendencies of consumers can be explained by two reasons:

Income Effect- At lower prices, an individual has a greater purchasing power. This means, he can buy more goods and services. But at higher prices, naturally, he can buy less.

Substitution Effect- Consumers tend to buy goods with lower prices. In case the price of a product that they are buying increases, they look for substitutes whose prices are lower.

Determinants of Demand1. Income2. Population3. Tastes and Preference4. Price Expectations5. Prices of Related Goods

The Ceteris Paribus Assumption- Assumes that “all other things equal or

constant”. Meaning, the determinants of demand are constant and are not considered as factors that will affect demand in the market. Thus, the law of demand, using Ceteris Paribus, can be restated as “assuming that the determinants of demand are constant,price and quantity demanded areinversely proportional to each other.”

Changes in Demand-the shift of demand curve which is brought about by the changes in the determinants of demand, like income, population, price expectation and so forth.

Changes in Quantity Demanded-indicate the movement from one point to another point. The change in the quantity demanded is brought about by changes in prices.

Changes in Demand Changes in Quantity Demanded

LESSON 2- The Law of SupplyWhat is supply?

- The schedule of various quantities of commodities which producers are willing and able to produce and offer at various prices in a given time and place.

- It is the ability and willingness of sellers to sell.

Supply Schedule- Shows the different quantities that are offered

for sale at various prices. It is a tabular depiction of the relationship between price and quantity supplied, represented graphically as a supply curve.

Supply Curve- is a graphical depiction of the supply schedule

that illustrates that relationship between the price of a good and the quantity supplied .

The Law of Supply- States that the quantity offered for sale

will vary directly with price. Producers are willing and able to produce and offer more goods at higher price than at lower price. Obviously, sellers offer more goods at higher prices because they make more profits.

Determinants of Supply1. Technology 2. Cost of Production3. Number of sellers4. Taxes and Subsidies5. Weather

The Ceteris Paribus Assumption- The law of supply is only correct if we

apply the assumption of Ceteris Paribus. This means that the law of supply is valid if the determinants of supply like cost of production, technology, number of sellers and so forth, are held constant.

Changes in Supply

- Pertains to a shift of supply curve brought by changes in the determinants of supply.

Changes in Quantity Supplied- Show the movements from one point to

another point in a constant supply curve. Change in quantity supplied is brought about by a change in price. Like a movement along the demand curve, a movement along the supply curve means that the supply relationship remains consistent.

Change in Supply

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