ECO - Demand & Supply - 1

Outline
Demand
Supply
Equi.
Dd. Elast.
Cons. Surplus
Prod. Surplus
Applications
The End
PRINCIPLES OF ECONOMICS I
Lecturer: Dr. Adams Sorekuong Yakubu Adama (Ph.D)

Email:adams.adama@ucc.edu.gh
Office: School of Economics, Room G119
TA:Nana Boakye-Mensah Yiadom
University of Cape Coast
October 3, 2018
Dr. Adams Adama (UCC) ECON 101

Outline
Demand
Supply
Equi.
Dd. Elast. Outline
Cons. Surplus
Prod. Surplus
Applications
The End
Lecture 4: Theory of Demand and Supply

Demand Theory
Definition and Determinants
Demand Function and Law of Demand
Market and Individual Demand
Movement along and Shift in Demand
Types of Demand
Supply Theory
The concept of Supply of a firm
The determinants of Supply
Law of Supply
Supply Function
Shifts in Supply
Types of Supply
Equilibrium Conditions
Elasticity of Demand
Computing the Price Elasticity of Demand
Total Revenue and the Price Elasticity of Demand
Elasticity and Total Revenue along a Linear Demand Curve
Other Elasticity of Demand
Application of Demand Theory
Outline
Demand
Supply
Equi.
Dd. Elast. Demand
Cons. Surplus
Prod. Surplus
Applications
The End
Definition and Determinants
Definition: Demand is the amount of a product that people are willing and able to
purchase at each possible price during a given period of time.
Key words:
Willing: you want to buy the product.
Able: you can afford the buy the product.
∴ The quantity demand is the amount of a product that people are willing and able to
purchase at one specific price.
Demand Curve: a curve showing the relation between the price of a good and
quantity demanded during a given period, other things constant.
Demand Schedule: a table showing the relation between the price of a good and
quantity demanded during a given period, other things constant.

Outline
Demand
Supply
Equi.
Dd. Elast. Demand
Cons. Surplus
Prod. Surplus
Applications
The End
Determinant of Demand
The income available to the household.

The prices of other products available to the household.
The household’s expectations about future income, wealth, and prices.
Changes in the number or composition of consumers.
The household’s tastes and preferences.
Price of commodity in question.
The household’s amount of accumulated wealth.

Outline
Demand
Supply
Equi.
Dd. Elast. Demand
Cons. Surplus
Prod. Surplus
Applications
The End
Law of Demand
Law: Demand law States that a quantity of a good demanded during a given period
relates inversely to its price, other things constant.
Price increases ⇒ Quantity Demanded decreases.
Price decreases ⇒ Quantity demanded increases.
Creates a downward sloping demand curve

Outline
Demand
Supply
Equi.
Dd. Elast. Demand
Cons. Surplus
Prod. Surplus
Applications
The End
Why the Law of Demand
Substitution Effect:
Unlimited wants/scarce resources
When the price of a good falls, consumers substitute that good for other goods, which
become relatively more expensive.
Reverse also holds true
Income Effect:
Money income: is simply the number of Cedis received per period.
Real income: your income measured in terms of what it can buy.
A fall in the price of a good increases consumers’ real income making consumers more
able to purchase goods; for a normal good, the quantity demanded increases.

Outline
Demand
Supply
Equi.
Dd. Elast. Demand
Cons. Surplus
Prod. Surplus
Applications
The End
Demand and Quantity Demanded
Demand: refers to a schedule of quantities of a good that will be bought per unit of
time at various prices, other things constant.
Graphically, it refers to the entire demand curve.
Quantity Demanded: refers to a specific amount that will be demand per unit of
time at a specific price.
Graphically, it refers to a specific point on the demand curve.

Outline
Demand
Supply
Equi.
Dd. Elast. Demand
Cons. Surplus
Prod. Surplus
Applications
The End
Change in Quantity Demanded
Change in Quantity Demanded: A movement along a demand curve is the graph-

ical representation of the effect of a change in price on the quantity demanded
Factors: Price of the commodity in question.

Outline
Demand
Supply
Equi.
Dd. Elast. Demand
Cons. Surplus
Prod. Surplus
Applications
The End
Change in demand
Change in demand: A shift in demand is the graphical representation of the effect

of anything other than price on demand.
Factors: All factors which affects demand except price of the commodity in ques-
tion.

Outline
Demand
Supply
Equi.
Dd. Elast. Demand
Cons. Surplus
Prod. Surplus
Applications
The End
Market and Individual Demand
Individual demand: A shift in demand is the graphical representation of the effect

of anything other than price on demand.
Market Demand: It is the sum of the individual demand for a product from buyers
in the market.
If more buyers enter the market and they have the ability to pay for items on sale,
then market demand at each price level will rise.

Outline
Demand
Supply
Equi.
Dd. Elast. Demand
Cons. Surplus
Prod. Surplus
Applications
The End
Demand Function
The function describes how much of a good will be purchased at different prices
taking into consideration other determinants of demand.
Presenting the market information set about commodity A in mathematical form:
QAd = f (PA , Y , T , PB )
where:
QAd = Quantity demanded of commodity A.
PA = the Price of commodity A.
Y = the Income of the consumer.
T = taste of the consumer.
PB = the Price of other related commodity.

Outline
Demand
Supply
Equi.
Dd. Elast. Demand
Cons. Surplus
Prod. Surplus
Applications
The End
Types of Demand
Derived demand:
e.g: Increase in demand for building houses ⇒ Increase in demand for blocks and
Masons.
Joint or Complementary Demand: e.g.: Printer needs ink and papers.
Competitive demand: e.g.: Coca Cola and Pepsi.
Composite demand: if a good is demanded for several different uses. This hap-
pens when goods or services have more than one use so that an increase in the
demand for one product leads to a fall in supply of the other. E.g. milk which
can be used for cheese, yoghurts, cream, butter; palm oil (soap making, cooking
purposes); wool (fuel, furniture, building, paper making) .

Outline
Demand
Supply
Equi.
Dd. Elast. Supply
Cons. Surplus
Prod. Surplus
Applications
The End
Supply Theory
The concept and Law of Supply
Producer’s side.
A relation between the price of a good and the quantity that the producers are
willing and able to offer for sale during a given period, other things constant.
Law: The quantity of a good supplied during a given period is usually directly re-
lated to the price of the good
Increase in price leads to increase in quantity supplied.
Decrease in price leads to decrease in quantity supplied.
Creates upward sloping supply curve.
Supply Schedule: Shows how much of a product firms will sell at alternative prices.
SUpply Curve: A graph illustrating how much of a product a firm will sell at different
prices.

Outline
Demand
Supply
Equi.
Dd. Elast. Supply
Cons. Surplus
Prod. Surplus
Applications
The End
Shifts Versus Movement along a supply curve

Movement along a Supply Curve
A change in price and only in price.

Causes a movement along the supply curve.
Also known as a Change in Quantity Supplied.
Figure : Movement along supply curve

Outline
Demand
Supply
Equi.
Dd. Elast. Supply
Cons. Surplus
Prod. Surplus
Applications
The End
Shifts Versus Movement along a supply curve

Shift in Supply Curve
Caused by changes in the determinants to the supply curve.

Results in changes to the relationship between the price and quantity supplied.
At each and every price a different quantity is supplied.
Figure : Movement along supply curve

Outline
Demand
Supply
Equi.
Dd. Elast. Supply
Cons. Surplus
Prod. Surplus
Applications
The End
Supply Theory
Determinant of Supply
Price of the goods.

Changes in technology.
Changes in prices of relevant resources.
Changes in the prices of alternative goods.
Changes in Producer Expectations.
Changes in the number of producers.

Outline
Demand
Supply
Equi.
Dd. Elast. Equi.
Cons. Surplus
Prod. Surplus
Applications
The End
Equilibrium Analysis
At any given time in the market, the following conditions prevail:

Excess demand or Shortages: The quantity demanded exceeds the quantity sup-
plied at the current price.
Excess supply or Surplus: The quantity supplied exceeds the quantity demanded
at the current price.
Equilibrium: The quantity supplied equals the quantity demanded at the current
price.
At equilibrium, no tendency for price to change exists.

Outline
Demand
Supply
Equi.
Dd. Elast. Equi.
Cons. Surplus
Prod. Surplus
Applications
The End
Equilibrium
When quantity demanded and quantity supplied are equal and there is no further
bidding, the process has achieved an equilibrium, a situation in which there is no
natural tendency for further adjustment.
Graphically, the point of equilibrium is the point at which the supply curve and the
demand curve intersect.
Figure : Equilibrium Demand and Supply

Outline
Demand
Supply
Equi.
Dd. Elast. Equi.
Cons. Surplus
Prod. Surplus
Applications
The End
Equilibrium Price: The price that balances quantity supplied and quantity de-
manded.
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.

Outline
Demand
Supply
Equi.
Dd. Elast. Equi.
Cons. Surplus
Prod. Surplus
Applications
The End
Excess Supply = Surplus
When quantity supplied exceeds quantity demanded at the current price, the price
tends to fall.
When price falls, quantity supplied is likely to decrease and quantity demanded is
likely to increase until an equilibrium price is reached where quantity supplied and
quantity demanded are equal.

Outline
Demand
Supply
Equi.
Dd. Elast. Equi.
Cons. Surplus
Prod. Surplus
Applications
The End
Excess Demand = Shortages
When excess demand occurs in an unregulated market, there is a tendency for

price to rise as demanders compete against each other for the limited supply.
When quantity demanded exceeds quantity supplied, price tends to rise. When the
price in a market rises, quantity demanded falls and quantity supplied rises until
an equilibrium is reached at which quantity demanded and quantity supplied are
equal.

Outline
Demand
Supply
Equi.
Dd. Elast. Equi.
Cons. Surplus
Prod. Surplus
Applications
The End
Shift in Demand

Outline
Demand
Supply
Equi.
Dd. Elast. Equi.
Cons. Surplus
Prod. Surplus
Applications
The End
Shift in Demand

Outline
Demand
Supply
Equi.
Dd. Elast. Equi.
Cons. Surplus
Prod. Surplus
Applications
The End
Shift in Supply

Outline
Demand
Supply
Equi.
Dd. Elast. Equi.
Cons. Surplus
Prod. Surplus
Applications
The End
Numerical Example
Suppose the demand and supply curves for eggs in the UCC Science market are given
by the following equations:
Qd = 100 − 20P
Qs = 10 + 40P
where Qd = millions of dozens of eggs UCC students would like to buy each year; Qs =
millions of dozens of eggs UCC farms would like to sell each year; and P = price per
dozen eggs
a. Derive the supply and demand schedules for eggs using 0.50 to 2.50 as the value of
P in an interval of 0.50.
b. Use the information in the table to find the equilibrium price and quantity.
c. Graph the demand and supply curves and identify the equilibrium price and quantity.

Outline
Demand
Supply
Equi.
Dd. Elast. Equi.
Cons. Surplus
Prod. Surplus
Applications
The End
Numerical Example
The following table represents the market for disposable digital cameras. Plot this data
on a supply and demand graph and identify the equilibrium price and quantity. Explain
what would happen if the market price is set at $30, and show this on the graph.
Explain what would happen if the market price is set at $15, and show this on the
graph.
Price ($) Quantity Qemanded Quantity Supply
5.00 15 0
10.00 13 3
15.00 11 6
20.00 9 9
25.00 7 12
30.00 5 15
35.00 3 18

Outline
Demand
Supply
Equi.
Dd. Elast. Equi.
Cons. Surplus
Prod. Surplus
Applications
The End
Numerical Example
Suppose the market demand and supply for Mpatua is given respectively as:
Qd = 300 − 20P and
Qs = 20P − 100 ,
where P = price (per Mpatua).
a. Graph the supply and demand schedules for Mpatua using $5 through $15 as the
value of P.
b. In equilibrium, how many Mpatua would be sold and at what price?
c. What would happen if suppliers set the price of Mpatua at $15? Explain the market
adjustment process.
d. Suppose the price of Apoku, a substitute for Mpatua, doubles. This leads to a
doubling of the demand for Mpatua. (At each price, consumers demand twice as much
Mpatua as before.) Write the equation for the new market demand for Mpatua.
e. Find the new equilibrium price and quantity of Mpatua.

Outline
Demand
Supply
Equi.
Dd. Elast. Dd. Elasticity
Cons. Surplus
Prod. Surplus
Applications
The End
If a rock band increases the price it charges for concert tickets, what impact will that
have on ticket sales?
More precisely, will ticket sales fall a little or a lot?
Will the band make more money by lowering the price or by raising the price?

Outline
Demand
Supply
Equi.
Cons. Surplus
Prod. Surplus
Applications
The End
The law of demand establishes that quantity demanded changes inversely with
changes in price, ceteris paribus.
But how much does quantity demanded change?
This is very important to understand for many economic issues.
This is what the price elasticity of demand is designed to answer.

Outline
Demand
Supply
Equi.
Cons. Surplus
Prod. Surplus
Applications
The End
Elasticity
Definition: A general concept used to quantify the response in one variable when
another variable changes.
Types of Demand
Price Elasticity of Demand.
Cross-Price Elasticity of Demand.
Income Elasticity of Demand.

Outline
Demand
Supply
Equi.
Cons. Surplus
Prod. Surplus
Applications
The End
Price Elasticity of Demand

Definition: The price elasticity of demand measures how responsive quantity
demanded is to a price change.
The price elasticity of demand is defined as the percentage change in quantity
demanded divided by the percentage change in price.
Price elasticity of demand simply as the ratio of the percentage of change in quan-
tity demanded to the percentage change in price
%change −in−quantity −demanded
Formula: %change −in−price
P
i.e.: ∗Q
∆Q
∆P .
Percentage changes should always carry the sign (plus or minus) of the change.
Positive changes, or increases, take a (+). Negative changes, or decreases, take a
(-).
The law of demand implies that price elasticity of demand is nearly always a nega-
tive number: Price increases (+) will lead to decreases in quantity demanded (-).
Outline
Demand
Supply
Equi.
Cons. Surplus
Prod. Surplus
Applications
The End

Calculating Price Elasticity of Demand
Original New % Change

Goods A
Quantity 100 95 -5%
Price 1 1.10 10%
Elasticity −5% = 0.5%
10%
Goods B
Quantity 200 140 -30%
Price 5 6 20%
Elasticity −30% = 1.5%
20%

Outline
Demand
Supply
Equi.
Cons. Surplus
Prod. Surplus
Applications
The End

Types of Elasticity of Demand
Perfectly Inelastic demand is the demand curve with an elasticity of zero.

Outline
Demand
Supply
Equi.
Cons. Surplus
Prod. Surplus
Applications
The End

A demand curve in which even the smallest price increase reduces quantity de-
manded to zero is known as a perfectly elastic demand curve.

Outline
Demand
Supply
Equi.
Cons. Surplus
Prod. Surplus
Applications
The End

How to identify perfectly elastic from Inelastic.
Figure : Elastic and Inelastic Demand

Outline
Demand
Supply
Equi.
Cons. Surplus
Prod. Surplus
Applications
The End

Fairly Elastic Demand: A demand relationship in which the percentage change in

quantity demanded is larger than the percentage change in price in absolute value
(a demand elasticity with an absolute value greater than 1).

Outline
Demand
Supply
Equi.
Cons. Surplus
Prod. Surplus
Applications
The End

Fairly inelastic demand: Demand that responds somewhat, but not a great deal,
to changes in price. Inelastic demand always has a numerical value between zero
and 1.

Outline
Demand
Supply
Equi.
Cons. Surplus
Prod. Surplus
Applications
The End

Unitary elasticity A demand relationship in which the percentage change in quan-

tity of a product demanded is the same as the percentage change in price in abso-
lute value (a demand elasticity of 1).

Outline
Demand
Supply
Equi.
Cons. Surplus
Prod. Surplus
Applications
The End

Figure : Different Elasticities of Demand

Outline
Demand
Supply
Equi.
Cons. Surplus
Prod. Surplus
Applications
The End

Slopes of Elasticity of Demand
Perfectly Inelastic demand: ep = 0.

Perfectly elastic demand: ep = ∞.
Fairly Elastic Demand: 1 < ep < ∞.
Fairly inelastic demand: ep < 1.
Unitary elasticity: ep = 1.

Outline
Demand
Supply
Equi.
Cons. Surplus
Prod. Surplus
Applications
The End
Elasticities along the Demand Curve

Elasticities along the Demand Curve

Outline
Demand
Supply
Equi.
Cons. Surplus
Prod. Surplus
Applications
The End

Forms of Elasticity of Demand
There two ways of calculating Price elasticity of demand.

Point and Arc elasticity formula.
P
Point elasticity is when we use the general Price elasticity formula: ∗Q
∆Q
∆P .
Arc elasticity is usually used when change in prices are relatively high. It is given
P1 +P2
∆P ∗ Q1 +Q2
as: ∆Q
The Arc elasticity measures the average price elasticity.

Outline
Demand
Supply
Equi.
Cons. Surplus
Prod. Surplus
Applications
The End
The Arc method of calculating Elasticity of Demand

Arc Elasticity of Demand

Outline
Demand
Supply
Equi.
Cons. Surplus
Prod. Surplus
Applications
The End
Demand and Total Revenue
Once the market demand for various goods and services are known, it becomes
quite easy to estimate the revenue that firms are likely to obtain
This is because total consumer spending is equivalent to total business receipts or
revenue from sales.
Total Revenue is derive from Total Consumer Spending (TCS):
TCS = TR = P ∗ Q
If the market demand is linear the total-revenue curve will be a curve which initially
slopes upwards, reaches a maximum and then starts declining.

Outline
Demand
Supply
Equi.
Cons. Surplus
Prod. Surplus
Applications
The End
Price Elasticity and Revenue
The total revenue can be computed by multiplying price by the corresponding quan-
tity
The Marginal revenue is of particular interest in this analysis.
Marginal Revenue is the change in TR that occurs as a result of selling an additional
unit of the commodity.
The slope of the TR curve gives us the MR.

Outline
Demand
Supply
Equi.
Cons. Surplus
Prod. Surplus
Applications
The End

Price Elasticity and Revenue
Figure : Price Elasticity and Revenue

Outline
Demand
Supply
Equi.
Cons. Surplus
Prod. Surplus
Applications
The End
Marginal Revenue And Price Elasticity
TR = PQ
but we know from demand function that P = f (Q )
hence TR = PQ = [f (Q )]Q
To get the MR, we differentiate TR using the product rule:
dTR dQ dP
dQ = P dQ + Q dQ
dP
MR = P + Q dQ
but we know from the point elasticity formula that:
ep = − dQ P
dP ∗ Q
multiplying both sides by − Q
P
−Q dQ P
P ep = − dP ∗ Q ∗ − P
Q
−Q
P ep =
dQ
dP

Outline
Demand
Supply
Equi.
Cons. Surplus
Prod. Surplus
Applications
The End
rearranging terms:
dP
− epPQ = dQ
dP
substituting dQ into MR,
dP
MR = P + Q dQ
MR = P − Q epPQ
P
MR = P − ep
1
MR = P (1 − ep )

Outline
Demand
Supply
Equi.
Cons. Surplus
Prod. Surplus
Applications
The End
We noted that when the demand curve is falling the TR curve initially rises, reaches
a maximum and then starts declining.
If ep > 1, the total revenue curve has a positive slope - thus is still increasing and
has not reached maximum point.
If ep = 1, TR curve reaches maximum level, because at this point the slope of
MR = 0.
If ep < 1, the TR curve has a negative slope or falling and MR < 0.

Outline
Demand
Supply
Equi.
Cons. Surplus
Prod. Surplus
Applications
The End
Factors affecting Elasticity of Demand
Availability of close substitutes.

Type of goods - Necessities versus luxuries.
Definition of the market.
Proportion of income devoted to the product.
Time horizon.

Outline
Demand
Supply
Equi.
Cons. Surplus
Prod. Surplus
Applications
The End
Factors affecting Elasticity of Demand
Availability of close Substitutes: The larger the number of close substitutes, de-
mand tend to be more elastic.
Type of good:
if luxury, demand is elastic.
if necessity, demand is inelastic.
Definition of the market: The more narrowly defined the market, demand tend to be
more elastic.
Time dimension: short time and long time.
short time: no time to adjust, demand is inelastic.
long time: we have time to adjust, demand is elastic.

Outline
Demand
Supply
Equi.
Cons. Surplus
Prod. Surplus
Applications
The End
Other type of Elasticities

Cross-Price Elasticity of Demand
Measures the extent to which Changes in the price of one commodity is affects the
quantity demanded of another commodity.
∆Qx Py
exy = ∆Py ∗ Qx .
The coefficient of exy could either be positive or negative depending on the type of
commodity.
If the two commodities in question are substitute it would be positive.
If the two commodities in question are complements it would be negative.

Outline
Demand
Supply
Equi.
Cons. Surplus
Prod. Surplus
Applications
The End
Other type of Elasticities

Income Elasticity of Demand
measure of the relationship between a relative change in income and the conse-
quent relative change in quantity demanded, ceteris paribus.
∆Qx M
eM = ∆M ∗ Qx .
If the income elasticity is positive, then the good in question is a normal good
because the change in income and the change in quantity demanded move in the
same direction.
If the income elasticity is negative, then the good in question in an inferior good
because the change in income and the change in quantity demanded move in op-
posite directions.

Outline
Demand
Supply
Equi.
Dd. Elast. Consumer Surplus
Cons. Surplus
Prod. Surplus
Applications
The End
Consumer Surplus
Equilibrium Prices and Consumers willingness to pay.

Willingness to pay: the maximum amount that a consumer will pay for a good.
It measures how much the buyer values the good or service.
The difference between what you paid, and what you were willing and able to pay.

Outline
Demand
Supply
Equi.
Cons. Surplus
Prod. Surplus
Applications
The End
Consumer Surplus
Figure : Consumer Surplus
The market demand curve depicts the various quantities that buyers would be will-
ing and able to purchase at different prices.
The area below the demand curve and above the price measures the consumer
surplus in the market.
Outline
Demand
Supply
Equi.
Cons. Surplus
Prod. Surplus
Applications
The End
Consumer Surplus
Consumer surplus: is the difference between the maximum amount a person is

willing to pay for a good and its current market price.
The consumer surplus earned by the people willing to pay $5.00 for a hamburger
is approximately equal to the shaded area between point A and the price, $2.50.

Outline
Demand
Supply
Equi.
Cons. Surplus
Prod. Surplus
Applications
The End
Using Demand Curve to Measure Consumer Surplus
Figure : Consumer Surplus

Outline
Demand
Supply
Equi.
Dd. Elast. Producer Surplus
Cons. Surplus
Prod. Surplus
Applications
The End
Producer Surplus
Supply curve in a market shows the amount that firms willingly produce and supply
to the market at various prices.
When the price charged by producers is sufficient to cover the costs or the opportu-
nity costs of production and give producers enough profit to keep them in business.
The amount a seller is paid, minus the seller’s cost.
It measures the benefit to sellers participating in a market.
Cost: the value of everything a seller must give up to produce a good.

Outline
Demand
Supply
Equi.
Cons. Surplus
Prod. Surplus
Applications
The End
Producer Surplus
Figure : Producer Surplus
At the current market price of $2.50, producers will produce and sell 7 million ham-
burgers.
There is only one price in the market, and the supply curve tells us the quantity
supplied at each price.
The first million hamburgers would generate a producer surplus of $2.5 minus
$0.75, or $1.75 per hamburger: a total of $1.75 million.
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Demand
Supply
Equi.
Cons. Surplus
Prod. Surplus
Applications
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Producer Surplus
The second million hamburgers would also generate a producer surplus because
the price of $2.50 exceeds the producers total cost of producing these hamburgers,
which is above $0.75 but much less that $2, 50.
Producer surplus is the difference between the current market price and the cost of
production for the firm.
Just as consumer surplus is related to the demand curve, producers surplus is
closely related to the supply curve.
The area below the price and above the supply curve measures the producer sur-
plus in a market.

Outline
Demand
Supply
Equi.
Cons. Surplus
Prod. Surplus
Applications
The End
Using Demand Curve to Measure Producer Surplus
1
PS = 2 × base × height
1
R Q∗
PS = 2 × (Q2 − 0) × (P2 − A)=P*Q- 0 f (Q )dQ
Outline
Demand
Supply
Equi.
Cons. Surplus
Prod. Surplus
Applications
The End
Producer Surplus
As price rises, producer surplus increases for two reasons:

Those already selling the product will receive additional producer surplus because
they are receiving more for the product than before.
Since the price is now higher, some new sellers will enter the market and receive
producer surplus on these additional units of output sold.

Outline
Demand
Supply
Equi.
Cons. Surplus
Prod. Surplus
Applications
The End
Measuring Total Consumer and Producer Surplus
Competitive Markets Maximize the Sum of Producer and Consumer Surplus.
Figure : Total Consumer Producer Surplus
This is used to measure deadweight loss: The total loss of producer and consumer
surplus from underproduction or overproduction.

Outline
Demand
Supply
Equi.
Dd. Elast. Applications
Cons. Surplus
Prod. Surplus
Applications
The End
Applications of Demand and Supply

Influence of Government Policies on Market Outcomes
Price controls are legal restrictions on how high or low a market price may go.
2 kinds of price controls:
Price Ceilings: a maximum price sellers are allowed to charge for a good. It’s an
upper limit for the price.
Price Floors: a minimum price buyers are required to pay for a good. Its a lower
limit for the price.

Outline
Demand
Supply
Equi.
Cons. Surplus
Prod. Surplus
Applications
The End
Applications of Demand and Supply

Why Price controls?

During crisis times, emergencies or wars the government wants to protect the con-
sumers from rapidly increasing prices.
If the equilibrium wage given by supply and demand for low skilled workers is below
poverty level, the government can set a minimum wage.

Outline
Demand
Supply
Equi.
Cons. Surplus
Prod. Surplus
Applications
The End

Price ceiling:
Figure : Price ceiling

Outline
Demand
Supply
Equi.
Cons. Surplus
Prod. Surplus
Applications
The End

Effects of Price Ceiling
Because of these ceilings, we are faced with a shortage.

The shortage will lead to inefficiencies.
A market or an economy is inefficient if there are missed opportunities: some peo-
ple could be made better off without making other people worse off.
Inefficient Allocation to Consumers.
Wasted Resources.
Inefficiently Low Quality.
Black Markets.

Outline
Demand
Supply
Equi.
Cons. Surplus
Prod. Surplus
Applications
The End

Inefficient Allocation to Consumers
People who really want the good and are willing to pay a high price don’t get it, and
those who are not so interested in the good and are only willing to pay a low price
do get it.
Example: rent control. In such case people get the apartment usually through luck
or personal connections.

Outline
Demand
Supply
Equi.
Cons. Surplus
Prod. Surplus
Applications
The End

Wasted Resources
People spend money, time and expend effort in order to deal with the shortages
caused by the price ceiling.
You waste a lot of time looking for a good in case of shortage, the time has it’s
value! You can work or just rest, do something better than look for a good you can’t
find.

Outline
Demand
Supply
Equi.
Cons. Surplus
Prod. Surplus
Applications
The End

Inefficiently Low Quality
Price ceilings often lead to inefficiency in that the goods being offered are of ineffi-
ciently low quality.
In case of rent controls, the landlords will not improve the conditions of the apart-
ments, there is no incentive since the rental fee is low but the main reason is that
since there is a shortage, people are willing to rent the apartment as it is, even in
bad condition!

Outline
Demand
Supply
Equi.
Cons. Surplus
Prod. Surplus
Applications
The End

Black Markets
A black market is a market in which goods or services are bought and sold illegally
- either because it is illegal to sell them at all or because the prices charged are
legally prohibited by a price ceiling.
If someone for example bribes (gives extra money) to the apartment owners he will
get the apartment, but the honest people that don’t break the law will never find one
this way!

Outline
Demand
Supply
Equi.
Cons. Surplus
Prod. Surplus
Applications
The End

Price Floors:
a minimum price buyers are required to pay for a good. Its a lower limit for the price.
The minimum wage is a legal floor on the wage rate, which is the market price of
labor.

Outline
Demand
Supply
Equi.
Cons. Surplus
Prod. Surplus
Applications
The End

Effects of Price Floors
Inefficient Allocation of Sales Among Sellers: Price floors lead to inefficient

allocation of sales among sellers: those who would be willing to sell the good at the
lowest price are not always those who actually manage to sell it.
Wasted Resources: Like a price ceiling, a price floor generates inefficiency by
wasting resources.

Outline
Demand
Supply
Equi.
Dd. Elast. The End
Cons. Surplus
Prod. Surplus
Applications
The End
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Lecturer: Dr. Adams Sorekuong Yakubu Adama (Ph.D)

University of Cape Coast

Dr. Adams Adama (UCC) ECON 101

Lecture 4: Theory of Demand and Supply

Definition and Determinants

Dr. Adams Adama (UCC) ECON 101

The income available to the household.

Dr. Adams Adama (UCC) ECON 101

Dr. Adams Adama (UCC) ECON 101

Why the Law of Demand

Dr. Adams Adama (UCC) ECON 101

Demand and Quantity Demanded

Dr. Adams Adama (UCC) ECON 101

Change in Quantity Demanded

Change in Quantity Demanded: A movement along a demand curve is the graph-

Dr. Adams Adama (UCC) ECON 101

Change in demand: A shift in demand is the graphical representation of the effect

Dr. Adams Adama (UCC) ECON 101

Market and Individual Demand

Individual demand: A shift in demand is the graphical representation of the effect

Dr. Adams Adama (UCC) ECON 101

Dr. Adams Adama (UCC) ECON 101

Dr. Adams Adama (UCC) ECON 101

Dr. Adams Adama (UCC) ECON 101

Shifts Versus Movement along a supply curve

A change in price and only in price.

Figure : Movement along supply curve

Dr. Adams Adama (UCC) ECON 101

Shifts Versus Movement along a supply curve

Caused by changes in the determinants to the supply curve.

Figure : Movement along supply curve

Dr. Adams Adama (UCC) ECON 101

Price of the goods.

Dr. Adams Adama (UCC) ECON 101

At any given time in the market, the following conditions prevail:

Dr. Adams Adama (UCC) ECON 101

Figure : Equilibrium Demand and Supply

Dr. Adams Adama (UCC) ECON 101

Dr. Adams Adama (UCC) ECON 101

Dr. Adams Adama (UCC) ECON 101

When excess demand occurs in an unregulated market, there is a tendency for

Dr. Adams Adama (UCC) ECON 101

Dr. Adams Adama (UCC) ECON 101

Dr. Adams Adama (UCC) ECON 101

Dr. Adams Adama (UCC) ECON 101

Dr. Adams Adama (UCC) ECON 101

Dr. Adams Adama (UCC) ECON 101

Dr. Adams Adama (UCC) ECON 101

Dr. Adams Adama (UCC) ECON 101

Dr. Adams Adama (UCC) ECON 101

Dr. Adams Adama (UCC) ECON 101

Price Elasticity of Demand

Price Elasticity of Demand

Original New % Change

Dr. Adams Adama (UCC) ECON 101

Price Elasticity of Demand

Perfectly Inelastic demand is the demand curve with an elasticity of zero.

Dr. Adams Adama (UCC) ECON 101

Price Elasticity of Demand

Dr. Adams Adama (UCC) ECON 101

Price Elasticity of Demand