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CHAPTER 2: BASIC

ELEMENTS OF DEMAND AND


SUPPLY

Market
Amarketis one of the many varieties of
systems,institutions,procedures,
social relationsandinfrastructureswhereby
parties engage in exchange. While parties
may exchange goods and services bybarter,
most markets rely on sellers offering their
goods or services (including labor) in
exchange formoneyfrom buyers. It can be
said that a market is the process by which the
prices of goods and services are established.

Market
Markets facilitatetradeand enable the
distribution andallocation of resourcesin a
society. Markets allow any trade-able item to
be evaluated andpriced. A marketemerges
more or lessspontaneouslyor may be
constructed deliberately by human interaction
in order to enable the exchange of rights (cf.
ownership) of services and goods. Markets
generally supplant gift economies and are
often held in place through rules and customs,
such as a booth fee, competitive pricing, and
source of goods for sale (local produce or

Demand
Demand is a buyer's willingness and ability to pay a
price for a specific quantity of a good or service.
Demand refers to how much (quantity) of a product or
service is desired by buyers at various prices. The
quantity demanded is the amount of a product people
are willing or able to buy at a certain price; the
relationship between price and quantity demanded is
known as the demand. The term demand signifies the
ability and willingness to buy a particular commodity
at a given point of time, assuming other variables
remain constant. Utility preferences and choices
underlying demand can be represented as functions of
cost, benefit, odds and other variables.

Demand
Refers to the number or amount of
goods and services desired by the
consumers.

Quantity Demanded
The amount of goods and services
consumers are willing and able to
buy/purchase at a given price, place,
and at a given period of time.

Determinants of Demand
Price of goods itself
As the price of certain goods and services increases, the
demand for these goods and services decreases or vice versa.

Consumers income
change in income will cause a change in demand. Consumers
tend to buy more goods and acquire more services when their
income increases and vice versa. The direction in which the
demand will shift in response to a change in income depends
on the type of goods.
Normal goods refers to a good for which quantity demand at
every price increases when income rises.
Inferior goods refers to a good for which quantity demand
falls when income rises.

Determinants of Demand
Consumers expectation of future prices quantity of a good demanded within any
period depends not only on prices in that
period but also on prices expected in future
periods.
Prices of related commodities/goods - The
quantity demanded of any particular good will
be affected by changes in the prices of related
goods.
Substitute goods are goods that can be used in
place of other goods.

Determinants of Demand
Consumers tastes and preferences - An
increase in the preference and taste for a
certain good will certainly increase the
demand for that particular good.
Population - An increase in the population
means more demand for goods and services
and vice versa.

Individual Demand
The individual demand is the demand of one
individual or firm. It represents the quantity of
a good that a single consumer would buy at a
specific price point at a specific point in time.
While the term is somewhat vague, individual
demand can be represented by the point of
view of one person, a single family, or a single
household.

Market Demand
Market demand provides the total
quantity demanded by all consumers. In
other words, it represents the aggregate
of all individual demands. There are two
basic types of market demand: primary
and selective. Primary demand is the
total demand for all of the brands that
represent a given product or service,
such as all phones or all high-end
watches.

Market Demand
Selective demand is the demand for one
particular brand of product or service, such as
the iPhone or a Michele watch. Market demand
is an important economic marker because it
reflects the competitiveness of a marketplace,
a consumers willingness to buy certain
products and the ability of a company to
leverage itself in a competitive landscape. If
market demand is low, it signals to a company
that they should terminate a product or
service, or restructure it so that it is more
appealing to consumers.

Law of Demand
thelaw of demandstates that,"all else being equal
(ceteris paribus), as the price of a product
increases(), quantity demanded falls(); likewise,
as the price of a product decreases(), quantity
demanded increases()". In simple terms, the law of
demand describes aninverse relationship, and
an elasticity, between price and quantity of demand.
There is a negative relationship between the quantity
demanded of a good and its price. The factors held
constant in this relationship are the prices of other
goods and the consumer's income.There are,
however, some possible exceptions to the law of
demand

Justification for the Law of Demand


Income effect - When the price of goods
decreases, the consumer can afford to buy
more of it or vice versa.
Substitution effect - It is expected that
consumers tend to buy goods with a lower
price.

Changes Involving Demand


Change in Quantity Demanded - Movement
along a demand curve which indicates
movement from one point to another point of
the same demand curve.
Due to a change in the price of goods and services.

Change in Demand - Shifting from one


demand curve to another demand curve.
Brought by the changes in all determinants of
demand except price.

Ademand curve, shown in red and shifting to the


right, demonstrating the inverse relationship between
price and quantity demanded (the curve slopes
downwards from left to right; higher prices reduce the
quantity demanded).

Demand Curve and Schedule


The demand curve is a graphical
representation depicting the relationship
between a commodity's different price levels
and quantities which consumers are willing to
buy. The curve can be derived from a demand
schedule, which is essentially a table view of
the price and quantity pairings that comprise
the demand curve.

Demand Curve and Schedule


Given that in most cases, as the price of a
good increases, agents will likely decrease
consumptionandsubstituteaway to another
good or service, the demand curve embodies
a negative price to quantity relationship. The
curve typically slopes downward from left to
right; though there are some goods and
services that exhibit an upward sloping
demand, these goods and services are
characterized asabnormal.

Demand Curve and Schedule


The demand curve of an individual agent can be
combined with that of other economic agents to
depict a market or aggregate demand curve. Using a
demand schedule, the quantity demanded per each
individual can be summed by price, resulting in an
aggregate demand schedule that provides the total
demanded specific to a given price level. The plotting
of the aggregated quantity to price pairings is what is
referred to as an aggregate demand curve. In this
manner, the demand curve for all consumers together
follows from the demand curve of every individual
consumer.

Demand Curve and Schedule


The demand curve in combination with the
supplycurveprovides the market clearing or
equilibriumprice and quantity relationship.
This is found at the intersection or point at
which the supply and demand curves cross
each other.

The demand curve is the graphical representation of


the economic entity's willingness to pay for a good or
service. It is derived from a demand schedule, which
is the table view of the price and quantity pairs that
comprise the demand curve.

Demand Schedule
Price (x1000 Php)

Quantity Demanded

500

400

300

200

100

Non-price Determinants of Demand


Income
Tastes and preferences
The price of related goods
Changes in expectations of future relative
prices
Population

Supply
Supplyrepresents how much the market can
offer. The quantity supplied refers to the
amount of a certain good producers are willing
to supply when receiving a certain price. The
correlation between price and how much of a
good or service is supplied to the market is
known as the supply relationship. Price,
therefore, is a reflection of supply and
demand.

Determinants of Supply
Change in technology - State of the art technology
that uses high-tech machines increases the quantity
supply of goods which causes the reduction of cost of
production.
Cost of inputs used - An increase in the price of an
input or the cost of production decreases the quantity
supplied because the profitability of certain business
decreases.
Expectation of future price - When producers
expect higher prices in the future commodities, the
tendency is to keep their goods and release them
when the price rises.

Determinants of Supply
Change in the price of related goods - Changes in
the price of goods have a significant effect in the
supply of such goods.
Government regulation and taxes - It is expected
that taxes imposed by the government increases cost
of production which in turn discourages production
because it reduces producers earnings.
Government subsidies - Subsidies or the financial
aids/assistance given by the government reduces cost
of production which encourages more supply.
Number of firms in the market - An increase in the
number of firms in the market leads to an increase in
supply of goods and services.

Law of Supply
Like the law of demand, the law of supply
demonstrates the quantities that will be sold
at a certain price. But unlike the law of
demand, the supply relationship shows an
upward slope. This means that the higher the
price, the higher the quantity supplied.
Producers supply more at a higher price
because selling a higher quantity at a higher
price increases revenue.

A, B and C are points on the supply curve. Each point


on the curve reflects a direct correlation between
quantity supplied (Q) and price (P). At point B, the
quantity supplied will be Q2 and the price will be P2,
and so on.

Supply Schedule and Supply Curve


A supply schedule is a table that shows the
relationship between the price of a good and
the quantity supplied. The 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 supply curve is a graphical depiction of the price to quantity


pairings presented in a supply schedule. The supply schedule is a
table view of the relationship between the price suppliers are
willing to sell a specific quantity of a good or service.

Supply Schedule and Supply Curve


The supply curves of individual suppliers can
be summed to determine aggregate supply.
One can use the supply schedule to do this:
for a given price, find the corresponding
quantity supplied for each individual supply
schedule and then sum these quantities to
provide a group or aggregate supply. Plotting
the summation of individual quantities per
each price will produce an aggregate supply
curve.

Supply Schedule and Supply Curve


In theory, in the long run the aggregate supply
curve will not be upward sloping but will
instead be vertical, consistent with a fixed
supply level. This is due to the underlying
assumptionthat in the long run, supply of a
good only depends on the fixed level ofcapital
,technology, andnaturalresourcesavailable.

Supply Schedule and Supply Curve


The supply curve provides one side of the
price-to-quantity relationship that ensures a
functional market. The other component is
demand. When the supply anddemand curves
are graphed together they will intersect at a
point that represents the marketequilibriumthe point where supply equals demand and
the market clears.

Non-price Determinants of Supply

The prices of inputs used to produce the product (lower prices, curve
shifts right)

Technology (improvements shift curve right)

Taxes and subsidies (taxes behave as a cost, shift left, subsidies reduce
costs, shift right)

Price Expectations (e.g., farmers withhold crops in expectation of higher


prices)

Number of Firms (more firms shift to the right)

Changes Involving Supply


Change in Quantity Supplied - Movement
along the supply curve which shows the
movement from one point to another point on
the same supply curve.
Due to a change in the price of goods and services.

Change in Supply - Shifting from one supply


curve to another supply curve.
Brought by the changes in all determinants of
supply except price.

Market Equilibirum
When the supply and demand curves
intersect, the market is in equilibrium.
This is where the quantity demanded
and quantity supplied are equal. The
corresponding price is the equilibrium
price or market-clearing price, the
quantity is the equilibrium quantity.

Putting the supply and demand curves from the previous


sections together. These two curves will intersect at Price =
$6, and Quantity = 20.In this market, the equilibrium price
is $6 per unit, and equilibrium quantity is 20 units.
At this price level, market is in equilibrium. Quantity
supplied is equal to quantity demanded ( Qs = Qd).
Market is clear.

Shortage and Surplus


AMarket Shortageoccurs when there is excess
demand- that is quantity demanded is greater than
quantity supplied. In this situation, consumers won't
be able to buy as much of a good as they would like.
In response to the demand of the consumers,
producers will raise both the price of their product and
the quantity they are willing to supply. The increase
in price will be too much for some consumers and
they will no longer demand the product. Meanwhile
the increased quantity of available product will satisfy
other consumers. Eventually equilibrium will be
reached.

Shortage and Surplus


AMarket Surplusoccurs when there is excess
supply- that is quantity supplied is greater than
quantity demanded. In this situation, some producers
won't be able to sell all their goods. This will induce
them to lower their price to make their product more
appealing. In order to stay competitive many firms
will lower their prices thus lowering the market price
for the product. In response to the lower price,
consumers will increase their quantity demanded,
moving the market toward an equilibrium price and
quantity. In this situation, excess supply has exerted
downward pressure on the price of the product.