MEE1014

INDUSTRIAL ENGINEERING AND MANAGEMENT

Dr T SAMPATH KUMAR
Associate Professor
School of Mechanical Engineering
VIT University
Sampath.thepperumal@vit.ac.in
9443964297
Module I

Introduction to macro and micro economics:

Macro economic measures – micro economics – Demand and supply –
Determinants of demand and supply – Elasticity of demand – Demand
forecasting techniques (short term & long term) – Problems.

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Economics

A social science concerned chiefly with the way society chooses to employ its
limited resources, which have alternative uses, to produce and services for
present and future consumption.
The study of how individuals and societies make decisions about ways to use
scarce resources to fulfill wants and needs.

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Classification of Economics

1930 - Ragnar Frisch – Classified Economics

Derived from Greek words:

Micros - Small
Macros - Large

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Types of Economics

Macroeconomics
Macroeconomics is the study of the entire economy in terms of the total
amount of goods and services produced, total income earned, level of
employment of productive resources and general behaviour of prices.
Ex. Gross domestic product (GDP), National Income (NI), Per Capita Income
(PCI), investment, employment, money supply

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Types of Economics

Microeconomics
Microeconomics is the study of the economic behaviour of individual sector,
firm, industry and the distribution of production and income among them and
the influences on it in great detail.
Ex. A particular firm, industry, commodity.

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Economics tells us….

By economics a Industrial engineer can……..

• WHAT to produce (Make)
• HOW MUCH to produce (Quantity)
• HOW to Produce it (Manufacture)
• FOR WHOM to Produce (Who gets What)
• WHO gets to make these decisions?

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Market is defined

Buyer and Seller

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Demand

Demand is an economic principle that describes a consumer's desire and willingness

to pay a price for a specific good or service.
Holding all other factors constant, an increase in the price of a good or service will
decrease demand, and vice versa.

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Demand

In economics, only the effective desires are called demand.

Effective desires refer three things –
(a) the desire for the commodity.
(b) willingness to buy
(c) the purchase power to buy.
Demand
– The amount consumers desire to purchase at various prices
– Not what they will buy, but what they would like to buy!
– Demand = Desire to acquire + Willingness to pay + Ability to pay
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Demand
Demand is closely related to supply.

While consumers try to pay the lowest prices they can for goods and services, suppliers try to
maximize profits.

If suppliers charge too much, demand drops and suppliers do not sell enough product to earn
sufficient profits.

If suppliers charge too little, demand increases but lower prices may not cover suppliers costs
or allow for profits.

Some factors affecting demand include the appeal of a goods or service, the availability of
competing goods, the availability of financing and the perceived availability of a goods or
service.
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Demand
Supply and demand factors are unique for a given product or service.

These factors are often summed up in demand and supply profiles plotted as slopes
on a graph.

On such a graph, the vertical axis denotes the price, while the horizontal axis
denotes the quantity demanded or supplied.

A demand profile slopes downward, from left to right. As prices increase, consumers
demand less of a goods or service.

A supply curve slopes upward. As prices increase, suppliers provide less of a goods
or service.
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Demand
As the price of a goods increases the demand for the product will,
except for a few obscure situations, tend to decrease.
A pure example of a demand model assumes several conditions:
• Firstly, product differentiation does not exist - there is only one
type of product sold at a single price to every consumer.
• Secondly, in this closed scenario, the item is a basic want and not
an essential human necessity such as.
• Thirdly, the good does not have a substitute and consumers
expect prices to remain stable into the future.
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Types of Demand
Demand is generally classified on the basis of various factors, such as nature of a
product, usage of a product, number of consumers of a product, and suppliers of a
product.

The demand for a particular product would be different in different situations.

Therefore, organizations should be clear about the type of demand for their
products.

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Types of Demand
(I) Individual and Market Demand:
Refers to the classification of demand of a product based on the number of
consumers in the market.
Individual demand can be defined as a quantity demanded by an individual for a
product at a particular price and within the specific period of time.
For example, Mr. X demands 200 units of a product at Rs. 50 per unit in a week.
The individual demand of a product is influenced by the price of a product, income
of customers, and their tastes and preferences. On the other hand, the total quantity
demanded for a product by all individuals at a given price and time is regarded as
market demand.
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Types of Demand
(I) Individual and Market Demand:
In simple terms, market demand is the aggregate of individual demands of all the
consumers of a product over a period of time at a specific price, while other factors
are constant. For example, there are four consumers of oil (having a certain price).
These four consumers consume 30 liters, 40 liters, 50 liters, and 60 liters of oil
respectively in a month. Thus, the market demand for oil is 180 liters in a month.

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Types of Demand
(II) Organization and Industry Demand:
Refers to the classification of demand on the basis of market. The demand for the
products of an organization at given price over a point of time is known as
organization demand. For example, the demand for Toyota cars is organization
demand. The sum total of demand for products of all organizations in a particular
industry is known as industry demand.
For example, the demand for cars of various brands, such as Toyota, Maruti
Suzuki, Tata, and Hyundai, in India constitutes the industry’ demand. The
distinction between organization demand and industry demand is not so useful in a
highly competitive market. Dr T Sampath Kumar, Associate Professor, SMEC-VIT 18
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Types of Demand
(II) Organization and Industry Demand:
This is due to the fact that in a highly competitive market, organizations have
insignificant market share. Therefore, the demand for an organization’s product is
of no importance. However, an organization can forecast the demand for its
products only by analysing the industry demand.

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Types of Demand
(III) Autonomous and Derived Demand:
Refers to the classification of demand on the basis of dependency on other
products. The demand for a product that is not associated with the demand of other
products is known as autonomous or direct demand. The autonomous demand
arises due to the natural desire of an individual to consume the product.
For example, the demand for food, shelter, clothes, and vehicles is autonomous as
it arises due to biological, physical, and other personal needs of consumers. On the
other hand, derived demand refers to the demand for a product that arises due to the
demand for other products.
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Types of Demand
(III) Autonomous and Derived Demand:
For example, the demand for petrol, diesel, and other lubricants depends on the
demand of vehicles. Apart from this, the demand for raw materials is also derived
demand as it is dependent on the production of other products. Moreover, the
demand for substitutes and complementary goods is also derived demand.

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Types of Demand
(IV) Demand for Perishable and Durable Goods:
Refers to the classification of demand on the basis of usage of goods. The goods
are divided into two categories, perishable goods and durable goods. Perishable or
non-durable goods refer to the goods that have a single use. For example, cement,
coal, fuel, and eatables. On the other hand, durable goods refer to goods that can be
used repeatedly.
For example, clothes, shoes, machines, and buildings. Perishable goods satisfy the
present demand of individuals. However, durable goods satisfy both present as well
as future demand of individuals. Therefore, consumers purchase durable items by
considering
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Types of Demand
(IV) Demand for Perishable and Durable Goods:
In addition, durable goods need replacement because of their continuous use. The
demand for perishable goods depends on the current price of goods and customers’
income, tastes, and preferences and changes frequently, while the demand for
durable goods changes over a longer period of time.

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Types of Demand
(V) Short-term and Long-term Demand:
Refers to the classification of demand on the basis of time period. Short-term
demand refers to the demand for products that are used for a shorter duration of
time or for current period. This demand depends on the current tastes and
preferences of consumers.
For example, demand for umbrellas, raincoats, sweaters, long boots is short term
and seasonal in nature. On the other hand, long-term demand refers to the demand
for products over a longer period of time.

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Types of Demand
(V) Short-term and Long-term Demand:
Generally, durable goods have long-term demand. The long-term demand of a
product depends on a number of factors, such as change in technology, type of
competition, promotional activities, and availability of substitutes. The short-term
and long-term concepts of demand are essential for an organization to design a new
product.

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Factors influencing demand
a. Price of good or service (P)
b. Incomes of consumers (M)
c. Prices of related goods & services (PR)
d. Taste patterns of the consumer (T)
e. Expected future price of product (Pe)
f. Number of consumers in market (N)
Demand function shows relation between P and Qd when all other variables are
held constant
Qd = f(P)
ΔQd/ΔP
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Factors influencing demand
D = f (Pn,Pn…Pn-1, Y, T, P, A, E)
Where;
• Pn = Price

• Pn…Pn-1 = Prices of other goods – substitutes and complements

• Y = Incomes – the level and distribution of income

• T = Tastes, Trends and fashions

• P = The level and structure of the population, popularity

• A = Advertising, Attitude

• E = Expectations of consumers
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Factors determining demand
i. Price of the Commodity
ii. Other factors which include
• Income of the consumer
• Consumer tastes and preferences
• Prices of related goods
• Expectations of future price changes
• Advertising efforts
• Quality of the product
• Distribution of Income & wealth in the community
• Standard of living and spending habits
• Age structure and gender ratio of population
• Level of taxation and tax structure
• Climate or weather conditions
•
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 Demand and Supply

Demand:
– How much of something people want.
– Desire for certain good or service supported by the capacity to purchase it.
– Willingness and ability to buy.
Supply:
– How much of something is available.
– The total amount of a good or service available for purchase.
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 Demand Curve
Price/ Unit
( )

Rs 150

D
6 Quantity Demanded in units
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 What factors change demand
(that is, shift the entire curve)?
1. Price of the substitutes
2. Price of the complimentary
goods
3. Consumer’s income
4. Size of population
5. Arrival of new goods
6. Availability of credit
7. Taste and fashion of buyers
8. Advertisement expenditure
9. State of trade (Govt. fiscal
policy, interest rate, tax, etc.)
10.Non monetary determinants
(Natural disasters, Seasonality,
sociological factors).
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Supply
It considers the relationship between the price and available supply of
an item from the perspective of the producer rather than the
consumer.
When prices of a product increase, producers are willing to
manufacture more of the good in order to realize greater profits.
Likewise, falling prices depress production as producers may not be
able to cover their input costs upon selling the final good.
On the other hand, when prices are higher, producers are encouraged
to increase their levels of activity in order to reap more benefit.
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Supply
An underlying assumption of the theory lies in the producer taking on
the role of a price taker.
Rather than dictating prices of the product, this input is determined by
the market and suppliers only face the decision of how much to
actually produce, given the market price.
Similar to the demand curve, optimal scenarios are not always the
case, such as in monopolistic markets.

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Supply depend on
• Resource Prices
• Technology
• Taxes & Subsidies
• Prices of Other Goods
• Price Expectations
• Number of Sellers

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 Law of Supply

• Supply indicates how much of a good producers are willing and

able to offer for sale per period at each possible price, other
things constant

• Law of supply states that the quantity supplied is usually

directly related to its price, other things constant
– The lower the price, the smaller the quantity supplied
– The higher the price, the greater the quantity supplied

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 Supply Curve

Price S
Supply Schedule $15

Price per Quantity Supplied 12

Pizza per Week (millions)
9
$15 28
6
12 24
9 20 3
6 16
3 12 0
12 16 20 24 28
Millions of pizzas per week

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 Factors influencing Supply

1. Changes in the price of a

good or service
2. Cost of input factors
3. Changes in technology
4. Expectation
5. Changes in the
taste/preference
6. Other factors like weather,
war, strike, etc.

37
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 Law of Demand and Supply

Law of Demand: The quantity demanded of a goods varies inversely with its
price, assuming that all other things remains the same.

Law of Supply: The higher the price of a good, the larger the quantity firms
will be willing to produce and sell. So the supply curve slopes upward from
left to right.
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.
Market Equilibrium
The point where supply and demand curves intersect represents
the market clearing or market equilibrium price.
An increase in demand shifts the demand curve to the right.
The curves intersect at a higher price and consumers pay more
for the product.
Equilibrium prices typically remain in a state of flux for most
goods and services because factors affecting supply and demand
are always changing.
Free, competitive markets tend to push prices toward market
equilibrium.
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Market Equilibrium
The law of supply and demand is the theory explaining the interaction
between the supply of a resource and the demand for that resource.
The law of supply and demand defines the effect the availability of a
particular product and the desire (or demand) for that product has on
price.
Generally, a low supply and a high demand increases price, and in
contrast, the greater the supply and the lower the demand, the lower
the price tends to fall.

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Market Equilibrium
Consumers typically look for the lowest cost, while producers are
encouraged to increase outputs only at higher costs.

Naturally, the ideal price a consumer would pay for a good would be
"zero dollars." However, such a phenomenon is unfeasible as
producers would not be able to stay in business.

Producers, logically, seek to sell their products for as high of a price

as possible. However, when prices become unreasonable, consumers
will change their preferences and move away from the product.
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Market Equilibrium
A proper balance must be achieved whereby both parties are able to
engage in ongoing business transactions to the benefit of consumers
and producers.

Theoretically, the optimal price that results in producers and

consumers achieving the maximum level of combined utility occurs at
the price where the supply and demand lines intersect.

Deviations from this point results in an overall loss to the economy,

commonly
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referred to as a deadweight loss.
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 Equilibrium
• Equilibrium refers to a situation in which the price has reached the level
where quantity supplied equals quantity demanded.

• Equilibrium Price
– The price that balances quantity supplied and quantity demanded.
– On a graph, it is the price at which the supply and demand curves
intersect.

• Equilibrium Quantity
– The quantity supplied and the quantity demanded at the equilibrium price.
– On a graph it is the quantity at which the supply and demand curves
intersect.
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 Equilibrium
Demand Schedule Supply Schedule

At $2.00, the quantity

demanded is equal to the
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 The Equilibrium of Supply and Demand
Price of
Ice-Cream
Cone
Supply

Equilibrium Equilibri
$2.00 price um

Demand
Equilibrium
quantity
0 1 2 3 4 5 6 7 8 9 10 11 Quantity of Ice-
Cream Cones
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 Excess Supply
Price of
Ice-Cream
Cone
Surplus
Supply
$2.50

$2.00

Demand

0 1 2 3 4 5 6 7 8 9 10 11 Quantity of
Quantity Quantity Ice-Cream
Demanded Supplied Cones
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 Excess Demand
Price of
Ice-Cream
Cone
Supply

$2.00

$1.50

Shortage
Demand

0 1 2 3 4 5 6 7 8 9 10 11 Quantity of
Quantity Quantity Ice-Cream
Supplied Demanded Cone
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 Equilibrium
• Surplus
– When price > equilibrium price, then quantity supplied > quantity
demanded.
• There is excess supply or a surplus.
• Suppliers will lower the price to increase sales, thereby moving toward
equilibrium.
• Shortage
– When price < equilibrium price, then quantity demanded > the quantity
supplied.
• There is excess demand or a shortage.
• Suppliers will raise the price due to too many buyers chasing too few goods,
thereby moving toward equilibrium.

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 Equilibrium
• You are given the following information about the market for motorcycles.
– Market Demand: P = 400 – 4Q

– Market Supply: P = 4Q

• Find the equilibrium price and quantity in this market.

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Elasticity of demand

Elasticity of Demand measures the percentage change in quantity demanded for a

percentage change in the price. Simply, the relative change in demand for a
commodity as a result of a relative change in its price is called as the elasticity of
demand.

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Elasticity of demand

The elasticity of demand (Ed), also referred to as the price elasticity of demand,
measures how responsive demand is to changes in a price of a given good.

More precisely, it is the percent change in quantity demanded relative to a one percent
change in price, holding all else constant.

Demand of goods can be classified as either perfectly elastic, elastic, unitary elastic,
inelastic, or perfectly inelastic based on the elasticity of demand.

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Elasticity of demand

The law of demand tells us that as the price of a commodity falls, the quantity
demanded increases, and vice versa. (Eg. Gold).

But it does not state by how much the quantity demanded increases as a result of a
certain fall in the price or by how much the quantity demanded decreases as a result
of the rise in the price.

In other words it only tells us only direction of change but not the rate of change.

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 Elasticity of Demand
• Elasticity: It is a measure of the responsiveness of one variable
to change on other.

• Elasticity of Demand, therefore indicates how much quantity

demanded of a good will change with change in its price or
income of the consumer or price of related goods.
E = % change in quantity demanded / % change in price
E = P/Q x (ΔQ/ΔP)

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 Elasticity of Demand
Price Quantity
E = P/Q x (ΔQ/ΔP)
E= 10/100 x (50/2)
E = 2.5 10 100

Types of Elasticity
12 50
1. Price Elasticity
2. Income Elasticity
3. Cross Elasticity
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 Elasticity of Demand

(a) Perfectly inelastic (b) Perfectly elastic (c) Unitary elastic

(d) Elastic (e) Inelastic
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 Mid Point Method

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Types of Elasticity of demand

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Types of Elasticity of demand
o Price Elasticity of Demand
Measures the responsiveness of sales to change in price

o Income Elasticity of Demand

Measures the responsiveness of sales to change in consumer income

o Cross Elasticity of Demand

Measures the responsiveness of one commodity to change in the price of
another commodity

o Advertising/Promotional Elasticity of demand

Measures the responsiveness of sales to change in the amount spent on
advertising and promotion
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Price Elasticity of Demand

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Computing the Price Elasticity of Demand

Percentage change in quatity demanded

Price elasticity of demand 
Percentage change in price

Example: If the price of an gel pen increases from Rs. 20.00 to Rs.25.00 and
the amount you buy falls from 20 to 12 pen then your elasticity of demand
would be calculated as:

(20  12)
 100
20 40 percent
  1.6
25.00  20.00 25 percent
 100
20.00
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Computing the Price Elasticity of Demand Using the
Midpoint Formula
(Q2  Q1)/[(Q2  Q1)/2]
Price Elasticity of Demand =
(P2  P1)/[(P2  P1)/2]

The midpoint formula is preferable when calculating the price elasticity of demand
because it gives the same answer regardless of the direction of the change

Example: If the price of an ice cream cone increases from Rs.20.00 to Rs.25.00
and the amount you buy falls from 20 to 12 cones the your elasticity of demand,
using the midpoint formula, would be calculated as:

( 20  12)
( 20  12) / 2 0.5 percent
  2.27
( 25.00  20.00) 0.22 percent
( 20.00  25.00) / 2
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Types of Price elasticity of demand

• Perfectly elastic demand - A perfectly elastic demand curve is

horizontal because a imperceptible change in price will create an
infinite change in demand.
• Perfectly inelastic demand - If demand for something is perfectly
inelastic, then the quantity purchased won't change no matter what
the price is
• Demand with unity elasticity
• Relatively elastic demand
• Relatively inelastic demand

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Types of Price elasticity of demand

Type Description Curve shape

Perfectly elastic Infinite Horizontal

Perfectly inelastic Zero Vertical

Unity elasticity One Rectangular hyperbola

Relatively elastic More than one Flat

Relatively inelastic Less than one Steep

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Perfectly Inelastic Demand - Elasticity equals 0
Price Demand

1. An Rs.5
increase
in price... 4

100 Quantity
2. ...leaves the quantity demanded unchanged.

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Inelastic Demand - Elasticity is less than 1
Price

1. A 25% Rs.5
increase
in price... 4
Demand

90 100 Quantity
2. ...leads to a 10% decrease in quantity.

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Unit Elastic Demand - Elasticity equals 1
Price

1. A 25% Rs.5
increase
in price... 4
Demand

75 100 Quantity
2. ...leads to a 25% decrease in quantity.

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Elastic Demand - Elasticity is greater than 1

Price

1. A 25% Rs.5
increase
in price... 4
Demand

50 100 Quantity
2. ...leads to a 50% decrease in quantity.

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Perfectly Elastic Demand - Elasticity equals infinity

Price
1. At any price
above Rs.4, quantity
demanded is zero.
Rs.4 Demand
2. At exactly Rs.4,
consumers will
buy any quantity.
3. At a price below Rs.4, Quantity
quantity demanded is infinite.

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Factors affecting EOD

• Type of goods - elastic for luxuries and inelastic for necessities

• Existence of substitutes: Inelastic if substitutes exist
• No. of uses of goods: Elastic if commodity has variety of uses
• Time element: Elastic if use can be postponed
• Price of the good
• Taste and tradition
• Customer’s income: Inelastic if expenditure is only a small part of
income
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Income Elasticity of Demand

The income is the other factor that influences the demand for a product.
Hence, the degree of responsiveness of a change in demand for a product
due to the change in the income is known as income elasticity of demand.
The formula to compute the income elasticity of demand is:

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Income Elasticity of Demand

For most of the goods, the income elasticity of demand is greater than one
indicating that with the change in income the demand will also change and
that too in the same direction, i.e. more income means more demand and
vice-versa.

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Income Elasticity - Types of Goods

Normal Goods
– Income Elasticity is positive.

Inferior Goods
– Income Elasticity is negative.

Higher income raises the quantity demanded for normal goods but
lowers the quantity demanded for inferior goods.
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Cross Price Elasticity of Demand

The cross elasticity of demand refers to the change in quantity demanded

for one commodity as a result of the change in the price of another
commodity. This type of elasticity usually arises in the case of the
interrelated goods such as substitutes and complementary goods. The cross
elasticity of demand for goods X and Y can be expressed as:

7/21/2019 Dr T Sampath Kumar, Associate Professor, SMEC-VIT 75

Cross Price Elasticity of Demand

The two commodities are said to be complementary, if the price of one commodity
falls, then the demand for other increases, on the contrary, if the price of one
commodity rises the demand for another commodity decreases. For example,
petrol and car are complementary goods.

While the two commodities are said to be substitutes for each other if the price of
one commodity falls, the demand for another commodity also decreases, on the
other hand, if the price of one commodity rises the demand for the other
commodity also increases. For example, tea and coffee are substitute goods
7/21/2019 Dr T Sampath Kumar, Associate Professor, SMEC-VIT 76
Cross Price Elasticity of Demand

• Elasticity measure that looks at the impact a change in the price of one
good has on the demand of another good.

• (% change in demand Q1) / (% change in price of Q2)

• Positive-Substitutes

• Negative-Complements.
7/21/2019 Dr T Sampath Kumar, Associate Professor, SMEC-VIT 77
Advertising Elasticity of Demand

The responsiveness of the change in demand to the change in advertising

or rather promotional expenses, is known as advertising elasticity of
demand. In other words, the change in the demand as a result of the change
in advertisement and other promotional expenses is called as the
advertising elasticity of demand. It can be expressed as:

7/21/2019 Dr T Sampath Kumar, Associate Professor, SMEC-VIT 78

Advertising Elasticity of Demand

7/21/2019 Dr T Sampath Kumar, Associate Professor, SMEC-VIT 79