Deamnd and Supply 14-3-2011

8/6/2019 Deamnd and Supply 14-3-2011

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Demand

Desire + ability to pay + willingness to pay


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Price Income

Prices of related goods Taste and preferences Customs and traditions Government policy Advertising Population Location Service Quality


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A decrease in the price of a good, all other

things held constant, will cause an increase in

the quantity demanded of the good andan increase in the price of a good will cause a

decrease in the quantity demanded of the

good.


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Quantity

Price

P0

Q0

P1

Q1

An increase in price

causes a decrease inquantity demanded.


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Quantity

Price

P0

Q0

P1

Q1

A decrease in price

causes an increase inquantity demanded.


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Quantity

Price

P0

Q0 Q1

An increase in demand

refers to a rightward shift

in the market demandcurve.


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Law of diminishing marginal utility

Income effect

Substitution effect Multiplicity of uses


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Giffen Goods

Prestigious goods

Buyers illusions Necessary goods

Brand loyalty

Monopoly

Speculation


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Elasticity is a measure of responsiveness of

one variable to another variable.

Can involve any two variables. An elastic relationship is responsive.

An inelastic relationship is unresponsive.


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Price Elasticity of demand

Income elasticity of demand

Cross Elasticity of demand Promotional Elasticity of demand


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)p=%(Q/%(P

An elastic response is one where numerator isgreater than denominator.i.e., %(Q>%(P so Ep "

An inelastic response is one where numerator is

smaller than denominator.i.e., %(Q


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Perfectly Elastic DEp !infinite

Perfectly Inelastic D

P

Q

P

Q

Ep!0

D

D


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Q1 Q2 Q2

P1

P2

DD

Dis relatively more elastic

than D

P

Q


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Point elasticity

Point elasticity isresponsiveness at a pointalong the demand

function

Ep !(Q/Q1

(P/P1simplifying:Ep !(Q/(P)* P1/Q1

Price (Rs.)

QQ

D


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Point elasticity

Point elasticity isresponsiveness at apoint along the demand

function

Ep !(Q/Q1

(P/P1simplifying:Ep !(Q/(P)* P1/Q1

Price (Rs.)

QQ

D


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Point elasticity

Ep!(Q/(P)* P1/Q1

SupposeP=17000

Q=56-0.002*17000

Q=56-34=22

Plug into equation gives:

Ep!-0.002)* 17000 /22

Ep =-34/22=-1.54

Price (Rs)

Q

7k

D


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The end-point problem thepercentage change differsdepending on whether you view thechange as a rise or a decline in price.


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Arc elasticity:

Responsiveness along a range of D.

function

Ep !(Q/((Q1+Q2)/2)(P/((P1+P2)/2)

simplifying:Ep!(Q/(P)*((P1+P2)/(Q1+Q2))

Price ($)

QQ

1

Q1

Avg.

responsiveness

D


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Arc elasticity

Ep !(Q/(P)*((P1+P2)/(Q1+Q2)) Look at P range 16k - 17k

Q=56-0.002*17000 Q=56-34=22

Plug into equation gives:Ep!-0.002)*(33000/46)

Ep =-66/46=-1.43

Price ($)

Q22

7k

D

24

16


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Nature of commodity

Availability of substitute

Multiplicity of uses Habit

Proportion of income spent

Price range


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Pricing Decision

Taxation

Labor market International trade


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EI= % (Qd / % ( Id

Measures the sensitivity ofDEMAND tochanges in disposable income.


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Shows the relationship between quantity

demanded and disposable income given a

constant price.


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DisposableIncome

Qd/ut

Engel Curve for aNormal Good

EI > 0


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Luxury Goods are Normal Goods but they

have an

EI>= 1

Quantity demanded is very senstive to

changes in disposable income


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Necessities are Normal Goods but

0


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DisposableIncome

Qd/ut

Engel Curve for anInferior GoodEI < 0


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Normal Goods (EI>0)

Luxury Goods (EI>= 1)

Necessitites (0


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Measures how sensitive DEMAND for a

commodity is to changes in the price of a

substitute or compliment commodity


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Ecp of x,y =

% (Qx / % ( Py


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Ecp>0 Substitute

Ecp


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Rate of change in demand for a commoditydue to a change in promotion expenditure


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For many crops, a strange situation

arises a bad crop year results in a goodyear for farm incomes, and a good cropyear results in a bad year for farmincomes.

How can this happen to farm community?


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Price elasticity gives us the answer:

Bad crop year: supply decreases, prices for farm products

rise, but quantity demanded doesnt fall very much. Thequantity demanded of farm products is not veryresponsive to changes in prices

Good crop year: supply increases, prices for farm productsfall, but quantity demanded doesnt increase very much.

The quantity demanded of farm products is not veryresponsive to changes in prices

It is easy to show this with a graph. But first we need yetanother concept: Total Revenue = Price xQuantity


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TR = P xQ

If P goes downQ goes up, but what happens

toTR? If P goes upQ goes down, but what happens

toTR?

Elasticity can answer the question.


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An Increase in Supply in the Market for Wheat

Copyright2003 Southwestern/Thomson Learning

Quantity of

Wheat

0

Price of

Wheat

3. . . . and a proportionately smaller

increase in quantity sold. As a result,

revenue falls from $300 to $220.

Demand

S1

S2

2. . . . leads

to a large fall

in price . . .

1. When demand is inelastic,

an increase in supply . . .

2

110

$3

100


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It is an objective assessment or estimation of

future course of demand- Micro level- Industry level- Macro level


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Production planning

Evolving sales policy

Fixing sales targets

Determining price policy

Inventory control

Determining short-term financial planning


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Business planning

Manpower planning

Long-term financial planning


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An equation representing the supply curve:

QxS= f(Px , PR ,W, H,)

QxS= quantity supplied of good X.

Px = price of good X.

PR

= price of a related good

W = price of inputs (e.g., wages)

H = other variable affecting supply


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A decrease in the price of a good, all other

things held constant, will cause a decrease inthe quantity supplied of the good and an

increase in the price of a good will cause anincrease in the quantity supplied of the good.


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Quantity

Price

P1

Q1

P0

Q0

A decrease in price

causes a decrease in

quantity supplied.


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Quantity

Price

P0

Q0

P1

Q1

An increase in price

causes an increase in

quantity supplied.


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Quantity

Price

P0

Q1 Q0

A decrease in supply refers

to a leftward shift in the

market supply curve.


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Balancing supply anddemand

QxS=Qx

d

Steady-state


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Price

Quantity

S

D

8

7


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Price

Quantity

S

D

9

14

Surplus

14 - 6 = 8

6

8

8

7


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Higher demandleads to

higher equilibrium price andhigher equilibrium quantity.

Higher supplyleads to lower

equilibrium price and higherequilibrium quantity.


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Lower demandleads to

lower price and lowerquantity exchanged.

Lower supplyleads to

higher price and lowerquantity exchanged.


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The relative magnitudes of change in supply and demand determine theThe relative magnitudes of change in supply and demand determine theoutcome of market equilibrium.outcome of market equilibrium.


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When supply and demand both increase, quantity will increase, butWhen supply and demand both increase, quantity will increase, butprice may go up or down.price may go up or down.


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Price Ceilings The maximum legal price that can be charged.

Examples:

Rent controlA

ct. Proposed restrictions onATM fees.

Price Floors

The minimum legal price that can be charged.

Examples: Minimum wage.

Agricultural price supports.

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Price

Quantity

S

D

P*

Q*

PCeiling

Q s

PF

Shortage

Q d

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The dollar amount paid to a firm under a priceceiling, plus the nonpecuniary price.

PF= Pc + (PF - PC) PF= full economic price

PC = price ceiling

PF - PC = nonpecuniary price

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Ceiling price of gasoline: $1. 3 hours in line to buy 15 gallons of gasoline

Opportunity cost: $5/hr.

Total value of time spent in line: 3 v $5 = $15.

Non-pecuniary price per gallon: $15/15=$1. Full economic price of a gallon of gasoline:

$1+$1=2.

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For example, ceiling price of apartments:For example, ceiling price of apartments: PPCeilingCeiling = Rs.4,800= Rs.4,800

per month.per month. Apartment seekers in Bangalore often require the services ofApartment seekers in Bangalore often require the services of

a real estate agent or apartment broker to assist them ina real estate agent or apartment broker to assist them insecuring an apartment lease. Typical broker fees are onesecuring an apartment lease. Typical broker fees are onemonth's rent.month's rent.

For example, suppose you stay for 4 years, or 48 months.For example, suppose you stay for 4 years, or 48 months.

NonNon--pecuniary price per month: Rs.4,800/48 = Rs.100 perpecuniary price per month: Rs.4,800/48 = Rs.100 permonth.month.

Full economic price of apartments:Full economic price of apartments: PPfullfull = Rs(4,800+100) == Rs(4,800+100) =

Rs.4,900.Rs.4,900.

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Price

Quantity

S

D

P*

Q*

Surplus

PF

Qd QS

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Full Economic PriceThe dollar amount paid to a supplier under a price floor,minus the non-pecuniary (non-money) price suppliers

loose through their competition to sell the goods. The Full Price falls unless the government supports the

price floor.

Minimum wages. PFloor= price ceiling

PFull = PFloor+ (PFull - PFloor) PFull = full economic price PFull - PFloor= non-pecuniary price


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For example, floor price of labor in California:For example, floor price of labor in California: PPFloorFloor = $8 per= $8 per

hour.hour.

For example, $5 per hour is wasted to get the $8 per hour job.For example, $5 per hour is wasted to get the $8 per hour job.

Dressing for success to work at McDonalds.Dressing for success to work at McDonalds. Being agreeable or attractive to your boss.Being agreeable or attractive to your boss.

Showing up early and staying late, off the clock.Showing up early and staying late, off the clock.

Full economic price of an hour of labor:Full economic price of an hour of labor: PPFullFull = $(8= $(85) = $35) = $3

per hour.per hour.


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Demand and supply functions for a product

are:

Qd = 10,000

4P Qs = 2,000 + 6P

If the government imposes a sales tax ofRs.100 per unit, what will be the new

equilibrium price?


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The supply and demand function for aproduct is as follows:

Qd = 6,000 3P Qs = 3,000 + 4.5P

The Government imposes a excise duty ofRs.20 per unit. What is the proportion of tax

that is borne by the producer ?

Documents

Deamnd and Supply 14-3-2011