Market Clearing

How does the market clear

Demand-Supply equity
Assumption of competitive markets

What if there is an excess (demand or supply)

What happens when there is a change in

Supply
Demand
Both
Mango Market Equilibrium
In the mango market of Lucknow, the
demand and supply functions have been
estimated as follows:
P = 50 (Q /200)
Q = (2,000 100P)

What are the market-clearing price and

quantity?
Change in D-S Equilibrium
One very hot summer, demand for ice cream?
Higher equilibrium price; higher equilibrium quantity

A hurricane destroys sugarcane crop parts supply of

sugar?
Higher equilibrium price; lower equilibrium quantity

How does a sugar shortage affect the ice-cream market?

Assuming sugar is a critical ingredient in ice-cream

All changes in the ice-cream market in the same summer?

Elasticity
1. Price increases (decreases)
2. Demand decreases (increases)
3. But by how much?
4. This how much is critical because?
5. Which implies:
Elasticity is the degree of responsiveness of (or rate of
change in) quantity demanded as the independent
variable (price, income, advertising, tax, etc.) changes.
Price Elasticity of Demand
Percentage change in quantity demanded as a result of
percentage change in own price

If Q = a-bP, then slope = -b

Income Elasticity of Demand

Cross Price Elasticity
Cross Price Elasticity of Demand =
percentage change in demand for good 1
percentage change in price of good 2

Alternative Coefficient (C)

Substitute Good C>0
Complement Good C<0
Independent Good C=0
The Five Alternatives

Alternative Coefficient (E)

Perfectly Elastic E=
Relatively Elastic 1<E<
Unit Elastic E=1
Relatively Inelastic 0<E<1
Perfectly Inelastic E=0
The Five Curves (Can you put a commodity on each?)
Electricity/LPG
ForEx Coke-Pepsi
Books, Movie
Uniform goods Discount sales
Tickets

Food Insulin for a diabetic

Clothing Drugs for an addict
Toothpaste (?)
Slope and Elasticity: Difference
Elasticity = (change in Q / Change in P)*(P/Q),
Slope = (change in Q / Change in P)
Combining the above: Elasticity = Slope x P/Q

Explanation:
Elasticity is based on percentage changes in price and quantity
Percentage changes depend on both amount of the change
and the starting point of the change
Since unit changes are identical for each segment on the
curve, the slope remains constant

Slope of a straight line (y=mx+c)

 Arc or (Q) X (P2 + P1)/2
Midpoint
Elasticity (P) (Q2+Q1)/2
Analyzing Shilela
Hardin Enterprises has developed a new product called the Shilela.
The market demand for this product is given as follows:

Q = 240 - 4P

1. At what price is the price elasticity of demand equal to zero?

2. At what price is demand infinitely elastic?
3. At what price is the price elasticity of demand equal to one?
4. If the Shilela is priced at Rs. 40, what is the point price elasticity
of demand?

(Ans.) 1. 0 / 2. 60 / 3. 30 / 4. Ed = -2
 Some More Sums
The price elasticity of gasoline supply in a market is 0.4. If the
price of gasoline rises by 8%, what is the expected change in the
quantity of gasoline supplied?

+3.2%

The price elasticity of gasoline demand in a market is 0.4. If the

price of gasoline rises by 8%, what is the expected change in the
quantity of gasoline demanded?

3.2%
More Sums
For a market, income elasticity of demand for fruit juice is 1.1.
Due to a recession, consumer income declines by 2.5%, what
is the expected change in the quantity of fruit juice
demanded?

2.75%

The cross-price elasticity of demand for peanut butter with

respect to the price of jelly is -0.3. If we expect the price of
jelly to decline by 15%, what is the expected change in the
quantity demanded for peanut butter?

+4.5%
Even More Sums
The demand for packs of cards is given by the equation QD =
500,000 - 45,000P. At Rs 5.00 per pack, what is the price
elasticity of demand?

9 / 11 or 0.818

Suppose, at the market clearing price of natural gas, the price

elasticity of demand is -1.2 and the price elasticity of supply is
0.6. What will result from a price ceiling that is 10 percent
below the market clearing price?

Shortage equal to 18 percent of the market clearing quantity