Elasticity of Supply

Elasticity
➢ Elasticity is a measure of the responsiveness of a variable to
changes in price or any of the variable’s determinants.
➢ When there is either increase or decrease in its price, is
explained with the help of elasticity. Managers have great
advantages by knowing elasticity of the products he is
selling. Greater response means greater elasticity and small
response indicates less elasticity.
➢ A manager is very interested in knowing whether sales will
increase by 4 percent, 10 percent or more by cutting down
price by 8 percent.
Price elasticity of supply (PES)
– Price elasticity of supply (PES) is a measure of the
responsiveness of the quantity of a good supplied to
changes in its price. PES is calculated along a given
supply curve. In general, if there is a large responsiveness
of quantity supplied, supply is referred to as being elastic;
if there is a small responsiveness, supply is inelastic.
Calculating PES

– The formula for price elasticity of supply (PES) follows

the same general form of elasticity formulae, only now
we consider the relationship between the percentage
change in the price of a good, X, and the percentage
change in quantity of X supplied.
Calculating PES
Calculating PES
– Suppose the price of strawberries increases from $3 per
kg to $3.50 per kg, and the quantity of strawberries
supplied increases from 1000 to 1100 tonnes per season.
Calculate PES for strawberries.
The range of values for PES
– Explain, using diagrams and PES values, the concepts of
elastic supply, inelastic supply, unit elastic supply,
perfectly elastic supply and perfectly inelastic supply.
Supply is price inelastic
– Supply is price inelastic when PES < 1. The percentage
change in quantity supplied is smaller than the percentage
change in price, so the value of PES is less than one;
quantity supplied is relatively unresponsive to changes in
price, and supply is price inelastic or inelastic.
Supply is price inelastic
Supply is price elastic
– Supply is price elastic when PES > 1. The percentage
change in quantity supplied is larger than the percentage
change in price, so the value of the PES is greater than
one; quantity supplied is relatively responsive to price
changes, and supply is price elastic or elastic.
Supply is price elastic
Supply is unit elastic
– Supply is unit elastic when PES = 1. The percentage change in
quantity supplied is equal to the percentage change in price,
so PES is equal to one; supply is unit elastic.
– i.e. for all three, PES =1. Any supply curve that passes
through the origin has a PES equal to unity. The reason for
this is that along any straight line that passes through the
origin, between any two points on the line the percentage
change in the vertical axis (the price) is equal to the
percentage change in the horizontal axis (the quantity).
Supply is unit elastic
Supply is perfectly inelastic
– Supply is perfectly inelastic when PES=0. The percentage
change in quantity supplied is zero; there is no change in
quantity supplied no matter what happens to price; PES is
equal to zero and supply is said to be perfectly inelastic.
– Examples, the supply of fish at the moment when fishing
boats return from sea; the season’s entire harvest of fresh
produce brought to market; the supply of Picasso
paintings.
Supply is perfectly inelastic
Supply is perfectly elastic
– Supply is perfectly elastic when PES = ∞. The percentage
change in quantity supplied is infinite; a very small
change in price leads to a very large response in quantity
supplied; supply in this case is called perfectly elastic,
Supply is perfectly elastic
–Thank you
Elasticity of Demand
 Elasticity
➢ Elasticity is a measure of the responsiveness of a variable to
changes in price or any of the variable’s determinants.
➢ When there is either increase or decrease in its price, is
explained with the help of elasticity. Managers have great
advantages by knowing elasticity of the products he is
selling. Greater response means greater elasticity and small
response indicates less elasticity.
➢ A manager is very interested in knowing whether sales will
increase by 4 percent, 10 percent or more by cutting down
price by 8 percent.
Elasticity
1. Price elasticity of demand (PED)
2. Cross-price elasticity of demand (XED)
3. Income elasticity of demand (YED)
Price elasticity of demand (PED)
Explain the concept of price elasticity of demand,
understanding that it involves responsiveness of quantity
demanded to a change in price, along a given demand
curve.
Understanding price elasticity of demand
According to the law of demand, there is a negative
relationship between price and quantity demanded. The
higher the price, the lower the quantity demanded, and vice
versa, all other things equal. We now want to know by how
much quantity responds to change in price.
Understanding price elasticity of demand
Price elasticity of demand (PED) is a measure of the
responsiveness of the quantity of a good demanded to
changes in its price. PED is calculated along a given
demand curve. In general, if there is a large responsiveness
of quantity demanded, demand is referred to as being price
elastic; if there is a small responsiveness, demand is price
inelastic.
The formula for PED
The formula for PED
Calculating PED
We can now use the formula above to calculate PED.
Suppose consumers buy 6000 DVD players when the price
is $255 per unit, and they buy 5000 DVD players when the
price is $300.
Calculating PED
Calculating PED
– You may note that the value of this elasticity of demand
depends on the choice of the initial price–quantity
combination. In the calculation above, this was taken to
be 300, 5000. If we had taken 255, 6000 as the initial
price–quantity combination, we would get a PED value of
0.94. This difficulty can be overcome by use of the
‘midpoint formula’
Calculating PED
The range of values for PED
– Explain, using diagrams and PED values, the concepts of
price elastic demand, price inelastic demand, unit elastic
demand, perfectly elastic demand and perfectly inelastic
demand.
– The value of PED involves a comparison of two numbers:
the percentage change in quantity demanded (the
numerator in the PED formula) and the percentage
change in price (the denominator). This comparison
yields several possible values and range of values for
PED.
Price inelastic demand
Demand is price inelastic when PED < 1 (but greater than
zero). The percentage change in quantity demanded is
smaller than the percentage change in price, so the value of
PED is less than one; quantity demanded is relatively
unresponsive to changes in price, and demand is price
inelastic.
Figure (a) illustrates price inelastic demand: the percentage
change in quantity demanded (a 5% decrease) is smaller
than the percentage change in price (a 10% increase),
therefore, PED is less than one.
Price inelastic demand
Price elastic demand
– Demand is price elastic when PED > 1 (but less than
infinity). The percentage change in quantity demanded is
larger than the percentage change in price, so the value of
PED is greater than one; quantity demanded is relatively
responsive to price changes, and demand is price elastic.
In Figure (b) the percentage change in quantity demanded
(–10%) is larger than the percentage change in price
(5%), therefore PED is greater than one.
Price elastic demand
Unit elastic demand
– Demand is unit elastic when PED = 1. The percentage
change in quantity demanded is equal to the percentage
change in price, so PED is equal to one; demand is then
unit elastic. Figure (c) shows a unit elastic demand curve,
where the percentage change in quantity demanded (–5%)
is equal to the percentage change in price (5%).
Unit elastic demand
Perfectly inelastic demand
– Demand is perfectly inelastic when PED = 0. The
percentage change in quantity demanded is zero; there is
no change in quantity demanded, which remains constant
at Q1 no matter what happens to price; PED is then equal
to zero and demand is perfectly inelastic.
– For example, a heroin addict’s quantity of heroin
demanded is unresponsive to changes in the price of
heroin. Figure (d) shows that a perfectly inelastic demand
curve is vertical.
Perfectly inelastic demand
Perfectly elastic demand
– Demand is perfectly elastic when PED = infinity. When a
change in price results in an infinitely large response in
quantity demanded, demand is perfectly elastic. As shown
in Figure (e) the perfectly elastic demand curve is
horizontal. At price P1, consumers will buy any quantity
that is available. If price falls, buyers will buy all they can
(an infinitely large response); if there is an increase in
price, quantity demanded drops to zero.
Perfectly elastic demand
2. Cross-price elasticity of demand (XED)
– The concept of cross price elasticity of demand,
understanding that it involves responsiveness of demand
for one good (and hence a shifting demand curve) to a
change in the price of another good.
– Cross-price elasticity of demand (XED) is a measure of
the responsiveness of demand for one good to a change in
the price of another good, and involves demand curve
shifts. It provides us with information on whether demand
increases or decreases, and on the size of demand curve
shifts.
The formula for XED

– The formula for cross-price elasticity of demand has the

same basic form as the formula for PED, only now we
consider the relationship between the percentage change
in quantity demanded of one good (X) and the percentage
change in the price of another good (Y)
The formula for XED
Interpreting cross-price elasticity of
demand
– Show that substitute goods have a positive value of XED
and complementary goods have a negative value of XED.
Explain that the (absolute) value of XED depends on the
closeness of the relationship between two goods.
– Cross-price elasticity of demand provides two kinds of
information: the sign of XED: unlike PED, whose minus
sign is ignored, cross-price elasticity of demand is either
positive or negative, and the sign is very important for its
interpretation.
Calculating XED in the case of
substitutes
➢ Suppose the price of coffee increases from $10 per
kilogram (kg) to $12 per kg and the amount of tea
purchased increases from 1500 kg to 1650 kg. What is the
XED?

➢ XED is +0.5; the positive sign tells us that coffee and tea
are substitutes.
Calculating XED in the case of
complements
➢ Suppose the price of pencils increases from $1.00 per
pencil to $1.30 and the quantity of erasers purchased falls
from 1000 erasers to 800. What is the XED?

➢ XED is –0.67; the negative sign tells us that pencils and

erasers are substitutes.
Zero XED: unrelated products
➢ If cross-price elasticity of demand is zero (XED = 0) or
close to zero, this means that two products are unrelated
or independent of each other. For example, potatoes and
telephones are unrelated to each other: a change in the
price of one is unlikely to affect demand for the other.
3. Income elasticity of demand (YED)
➢ Income elasticity of demand(YED) is a measure of the
responsiveness of demand to changes in income, and
involves demand curve shifts. It provides information on
the direction of change of demand given a change in
income (increase or decrease) and on the size of the
change (size of demand curve shifts)
Calculating YED

➢ The formula for YED has the same basic form as the
other elasticity formulae, and shows the relationship
between the percentage change in quantity demanded of a
good, X, and the percentage change in income, which we
abbreviate as Y
Calculating YED
Calculating YED
– Suppose your income increases from $800 per month to
$1000 per month, and your purchases of clothes increase
from $100 to $140 per month. What is your income
elasticity of demand for clothes?
The sign of income elasticity of
demand: normal or inferior goods
– YED > 0 Income elasticity of demand is positive (YED> 0) when
demand and income change in the same direction (i.e. both increase
or both decrease). A positive YED indicates that the good in
question is normal.
– YED < 0 A negative income elasticity of demand (YED < 0)
indicates that the good is inferior: demand for the good and income
move in opposite directions (as one increases the other decreases).
– Examples include bus rides, secondhand clothes and used cars; as
income increases, the demand for these goods falls as consumers
switch to consumption of normal goods.
Income elasticity of demand:
necessities and luxuries
– YED < 1: Necessities If a good has a YED that is positive but
less than one, it has income inelastic demand: a percentage
increase in income produces a smaller percentage increase in
quantity demanded. Necessities are income inelastic goods.
– Example, such as food, clothing and housing, tend to have a
YED that is positive but less than one; they are normal goods
that are income inelastic. In the case of food, as income
increases, people buy more food but the proportion of income
spent on food increases more slowly than income.
Income elasticity of demand:
necessities and luxuries
– YED > 1: Luxuries If a good has an YED that is greater
than one, it has income elastic demand: a percentage
increase in income produces a larger percentage increase
in quantity demanded. Luxuries are income elastic goods.
– Example, such as travel to other countries, private
education and eating in restaurants are income elastic: as
income increases, the proportion of income spent on such
goods increases faster than income
–Thank you
COST
 Cost of production
➢ The expenses incurred on all inputs of production–both factor
inputs and non-factor inputs are known as the cost of
production.
➢ Land, labour, capital and organization are the factors of
production called factor inputs.
➢ Raw materials, fuel, equipments, tools etc are non factor inputs.
➢ Factor inputs are the services of factors of production whereas
non-factor inputs are the non-durable goods and services which
are used by the producers.
 Cost of production
➢ Thus, cost is a function of various factors.
C = f (Q, T, Pf)
➢ C is the total cost of production
➢ Q is output;
➢ T is technology
➢ Pf is the prices of factors of production.
Real Cost and Nominal Cost
➢ Real costs refer to those payments, which are made to
factors of production for the work and efforts in rendering
their services. Real cost is estimated in terms of the pain
and sacrifices of labour.
➢ Nominal cost is the money cost (expenses) of production
incurred on various inputs of production.
Explicit
➢ Explicit costs are the paid out costs. These are the
payments made for productive resources purchased or
hired by the firm.
➢ Example: wages paid to the laborer's, rent paid for the
premises, payments made for the raw materials, premium
paid towards insurance against fire, payments to workers
etc.
Implicit Costs
➢ Implicit costs of production, on the other hand, are the
costs of self-owned and self-employed resources. These
costs are normally ignored while calculating the expenses
of a producer.
➢ Example: tailors’ own sewing machines and own labour.
Explicit and Implicit Costs: An example
You need $100,000 to start your business.
The interest rate is 5%.
– Case 1: borrow $100,000
– explicit cost = $5000 interest on loan
– Case 2: use $40,000 of your savings,
borrow the other $60,000
– explicit cost = $3000 (5%) interest on the loan
– implicit cost = $2000 (5%) foregone interest you could have earned
on your $40,000.
– In both cases, total (exp + imp) costs are $5000.
Opportunity/Alternative/ Transfer Cost
➢ Opportunity cost of a decision may be defined as the cost
of next best alternative sacrificed in order to take this
decision. In short, the opportunity cost of using resources
to produce a good is the value of the best alternative or
opportunity forgone. Opportunity costs include both
explicit and implicit costs.
➢ For example, if with a sum of Rs. 2000, a producer can
produce a bicycle or a radio set and decides to produce a
radio set. In this case, opportunity cost of a radio set is
equal to the cost of a bicycle that he has sacrificed.
Short Run Cost
➢ Short-run is a period of time within which the firm can
change its output by changing only the amount of
variable factors.
➢ Example: labour and raw materials etc.
➢ In short period, fixed factors such as land, machinery etc,
cannot be changed.
Long Run Cost
➢ The long run costs are the costs over a period in which
all factors are changeable. Thus, costs of production on
all factors (in the long run all factors become variable) are
long run costs.
➢ Example: changing the quantity of production, decreasing
or expanding a company, and entering or leaving a
market.
Fixed Cost
➢ The salaries and other expenses of administrative staff.
➢ The salaries of staff involved directly in the production,
but on a fixed term basis.
➢ The expenses for maintenance of buildings and land.
➢ The expenses for the maintenance of the land on which
the plant is installed and operates.
Total Fixed Cost (TFC)
➢ Total fixed cost is the sum of expenses incurred on those
inputs that remain same at different levels of output. It is
a straight line parallel to output or x-axis. TFC is the total
fixed cost curve parallel to x-axis indicating that it
remains constant at all levels of output.
➢ For example, suppose a company leases office space for
$10,000 per month, rents machinery for $5,000 per
month, and has a $1,000 monthly utility bill. In this case,
the company's total fixed costs would be $16,000.
Total Fixed Cost (TFC)
➢
Total Variable Cost (TVC)
➢ Total variable cost is the sum of expenses incurred on those
factor inputs whose quantity varies with a change in the level
of output. It has inverse-S shape. Total variable costs increase
as the level of output increases.
➢ For example, if it costs $60 to make one unit of your product
and you've made 20 units, your total variable cost is $60 x 20,
or $1,200.
➢ In the long period, all costs are variable costs and
variable costs always vary with output, so that when
output is zero, variable costs are also zero.
Total Variable Cost (TVC)
Total Cost (TC)
➢ Total cost to a producer for the various levels of output is
the sum of total fixed costs and total variable costs, i.e.,
➢ Total cost (TC) is the sum of total fixed cost and total
variable fixed cost.
TC = TFC+TVC
Average Fixed Cost (AFC)
➢ Average fixed cost is total fixed cost divided by total output. It
is per unit cost on fixed factors.
➢ AFC = TFC / TQ, where, TQ is the total output.
➢ The average fixed cost (AFC) is the fixed cost that does not
change with the change in the number of goods and services
produced by a company.
➢ Example: when the quantity of the output differs from 5
shirts to 10 shirts, fixed cost would be 30 dollars. In this
case, average fixed cost of producing 5 shirts would be 30
dollars divided by 5 shirts, which is 6 dollars.
Average Fixed Cost (AFC)
➢
Average Variable Cost (AVC)
➢ The average variable cost is found by dividing the total
variable costs by the total units of output, i.e., it is per
unit cost of the variable inputs.
➢ AVC = TVC / TQ
➢ Average variable cost falls initially, reaches a minimum
when the plant is operated optimally and rises after the
point of normal capacity has been reached.
Average Variable Cost (AVC)
➢ To calculate average variable cost (AVC) at each output
level, divide the variable cost at that level by the total
product.
➢ For example, the VC of $5000 is divided by the TP of 45
to get an AVC of $111.
Average Variable Cost (AVC)
➢
Average Total Cost (ATC/AC)
➢ ATC is the per unit cost of both fixed and variable inputs.
Average total cost of production can be obtained by
dividing total cost by the units of output, i.e.,
Average Total Cost (ATC/AC)
➢
Average Total Cost (ATC/AC)
➢ A typical average cost curve has a U-shape, because
fixed costs are all incurred before any production takes
place and marginal costs are typically increasing, because
of diminishing marginal productivity.
Marginal Cost
➢ Marginal cost is the addition to the total cost as a result
of a unit (one unit) increase in the output.
MCN =TCN– TCN–1
➢ Where, N is the number of units of output. Alternatively,
marginal cost can also be expressed as follows:
Marginal Cost
➢ Business A is producing 100 units at a cost of $100. The
business then produces at additional 100 units at a cost of
$90. So the marginal cost would be the change in total
cost, which is $90. Divided by the change in quantity,
which is the additional 100 units. That gives us: $90/100,
which equals $0.90 per unit as the marginal cost.
Marginal Cost
➢
–Thank you
REVENUE
Revenue
➢ Revenue refers to the payments received by an
entrepreneur from the sale of the goods produced.
Example
➢ If a producer can sell during a week 200 pens at the price
of Rs.5 each his total revenue during the week equals Rs.
5 × 200 = Rs. 1, 000.
Total Revenue
➢ Total revenue refers to the total amount of money that a
firm receives from the sale of its products.
➢ By selling 20 apples at the rate of Rs. 5 each, the total
revenue he gets is 20 × 5 = Rs. 100.
➢ Thus, TR = Q × P,
➢ Where Q is total quantity sold and P stands for price per
unit.
 Average Revenue
➢ Average revenue is obtained by dividing total revenue
earned by the total number of units sold by a producer.
Average revenue curve of a firm is same thing as the
demand curve of the consumer. Thus, it means price of the
product. Symbolically,
➢ AR =TR / TQ
➢ For example, if your firm's total revenue is $200, and you
are selling 100 products, then your average revenue is $200
divided by 100, or $2.
 Marginal Revenue
➢ Marginal revenue is the change in total revenue resulting
from a unit (one unit) change in the output sold.
MR =∆TR / ∆TQ
MR = TRn – TRn-1
➢ TRn is the current or selected value of total revenue and
TRn-1 is the previous value of total revenue.
 Marginal Revenue
For example,
➢ TR of selling first unit of a product is Rs. 12 and TR of
selling one more unit is Rs. 20, then TRn and TRn-1 are 20
and 12 respectively. Thus, MR = 20 – 12 = 8.
➢ It means, by selling one more unit the seller gets additional
revenue of Rs. 8.
Relationship Between AR and MR
(Under imperfect competition, AR > MR)
➢
Relationship Between AR and MR
(Under imperfect competition, AR > MR)
➢
Why does AR and MR slope
downward?
➢ The AR curve slopes downward showing less price with
an increase in sales of output. It represents that a
monopoly firm must lower the price or AR of product to
sell more of it. Also, If AR falls, MR would also fall but
faster than the AR resulting in MR < AR.
Relationship Between AR and MR
(Under perfect competition AR = MR)
➢
Relationship Between AR and MR
(Under perfect competition AR = MR)
➢
Relationship Between AR and MR
(Under perfect competition AR = MR)
➢ It means firm's additional revenue (MR) from the sale of
every additional unit of the commodity will be just equal
to the market price (i.e. AR). Hence average revenue and
marginal revenue become equal (AR=MR) and constant
in that situation. Consequently the AR and MR curve will
be same and would be horizontal or parallel to the x-axis.
–Thank you
Market
 Market
➢
❖ Traditionally a market means a place
where sellers and buyers exchanging
goods and services at a given price.

❖ Due to the development of science and

technology, the term market refers not
necessarily to the place.
Based on Competition
Perfect competition
➢ A Market situation in which a large number of buyers and
sellers buying and selling homogeneous product at
uniform price.
Example
➢ Agriculture: In this market, products are very similar.
Carrots, potatoes, and grain are all generic, with many
farmers producing them. As the product is homogenous,
it is easy to buy some land and farm it. Additionally, it is
also easy to leave the market too. So the market has key
signs of perfect competition.
Perfect competition
Example
➢ Online shopping: the internet allows customers to
compare and gather ‘perfect information’ on a product.
Consider a specific book: there are many buyers and
many distributors. In this case, it may include Amazon,
Flipkart, or Myntra. At the same time, there are generally
little differences in price.
Perfect competition
Example
➢ Foreign Exchange Markets: As there is only one US
Dollar, one Great British Pound, and one Euro, the
product is homogenous. Additionally, there are many
sellers and buyers in the market. Furthermore, it is easy
to buy some currency, and easy to sell it too.
➢ There is an exception in the fact that traders may not have
‘perfect information’. Normal buyers and sellers may be
at a disadvantage compared to professional traders
Perfect Competition
➢ A market is said to be perfect when there is a large
number of buyers and sellers of the product and there is a
complete absence of rivalry among the firms. The firms
sell products which are homogeneous.
Characteristics of perfect competition
– Large Number of Buyers and Sellers
– Homogeneous products
– Free entry and exit of firms
– Perfect knowledge of market conditions
– Perfect mobility of factors of production
– Uniform price
– No government regulation
– Absence of selling and transportation costs
1. Large number of buyers and sellers
➢ The number of buyers and sellers must be so large that
none of them individually is in a position to influence the
price and output of the industry as a whole.
– No single seller or buyer influence the price.
– Price will decided by industry (Demand & Supply)
– Firm is a price taker
2. Homogeneous product
– Each firm produces and sells a homogeneous product so
that no buyer has any preference for the product of any
individual seller over others.
– Same physical characteristics.
– Same Quality and Quantity.
3. Free entry or exit of the firms
➢ The firms should be free to enter or leave the industry. It
implies that whenever the industry is earning excess
profits, attracted by these profits some new firms enter
the industry. In case of loss being sustained by the
industry, some firms leave it.
– Firms will enter into industry during profits.
– Firms will exit during loses.
4. Perfect knowledge of market
conditions
➢ Buyers and sellers have full knowledge of the price at
which transactions take place in the market.
– Perfect knowledge about marketing conditions.
– Ex: price, quality etc..
5. Perfect mobility of the factors
➢ Factors of production can freely move from one firm to
another in the industry. They can also move from one job
to another and in this way there is a scope for learning
newer skills.

➢ Factors are completely mobile.

6. Uniform price
➢ At a particular time uniform price of a commodity
prevails all over the market.
➢ Markets fallow uniform price determined by invisible
hand (Demand & Supply).
7. No government regulation
➢ The next condition is that there is complete openness in
buying and selling of goods. Sellers are free to sell their
goods to any buyers and the buyers are free to buy from
any sellers. In other words, there is no discrimination on
the part of buyers or sellers.
➢ Taxes, subsidies, rationing of essential goods etc.
8. Absence of selling and
transportation costs
➢ Selling and other promotional costs are not present in
perfect market.
➢ Absence of Transport Costs: This condition is essential
for the existence of perfect competition which requires
that a commodity must have the same price everywhere at
any time. If transport costs are added to the price of the
product, even a homogeneous commodity will have
different prices depending upon transport costs from the
place of supply.
8. Absence of selling and
transportation costs
➢ Absence of Selling Costs: Under perfect competition, the
costs of advertising, sales-promotion, etc. do not arise
because all firms produce a homogeneous product.
Price-Output determination under
Perfect Competition
➢ Under a perfectly competitive market, market price of a
product in the industry is determined by the interaction of
supply and demand.
➢ The market price is not fixed by either the buyer, seller,
firm, industry or the government.
➢ Demand and Supply act as market forces to determine the
equilibrium price of the product.
 Price-Output determination under
Perfect Competition
➢ Equilibrium price under perfect competition is determined
not by the seller/firm but by the industry (all firms together).
The price determined by the industry is accepted by all
firms. Thus, individual seller/firm is a price taker under
perfect market.
Relationship Between AR and MR
(Under perfect competition AR = MR)
Price-Output determination under
Perfect Competition
Price-Output determination under
Perfect Competition
➢ In the diagram, O-6 indicates equilibrium price and O-60
is equilibrium output.
➢ O-6 price will be accepted by all firms in the perfect
market and sell any amount of good at this price. Hence,
average revenue curve faced by an individual firm is
horizontal straight line parallel to the x-axis or perfectly
elastic.
➢ Even, if the price changes, there will be automatic
adjustments in supply and demand, restoring the original
equilibrium position.
Price-Output determination under
Perfect Competition
➢ When the price rises from O6 to O8, there will be excess
supply over demand. Excess supply of goods pushes
down the price from O8 to O6, the original price.
➢ Similarly, if the price decreases from O6 to O4, there will
be excess demand over supply. The excess demand
pushes up the price from O4 to O6, the original price.
➢ Therefore, equilibrium between demand and supply
determine the market price.
Price-Output determination under
Perfect Competition
➢ Under Perfect Competition, as the firm will not have any
independence in fixing the price of the products or
services.
➢ If the firm charges more price, it will incur losses and if it
charges less prices, it will loose its sales.
➢ The price line of the firm will be horizontal and indicates
AR=MR. This is because same price is charged by the
firm irrespective of changes in the demand.
Imperfect competition
➢ Is a market situation where there are large number of
sellers, selling differentiated and close substitute goods at
different prices.
Example
➢ Imperfect competition often exists as a result of
extremely high barriers to entry for new suppliers. For
example, the airline industry has high barriers to entry
due to the extremely high cost of aircraft.
Monopoly Market
➢ The word ‘Monopoly’ has been derived from the two
Greek words, ‘Monos’ which means single, and ‘polus’
which means a seller,
➢ Monopoly is a market situation where there is single
seller of a product and he has full control over the supply
of that commodity. He/she produces such a product which
has no close substitutes..
Monopoly Markets
➢ Monopoly: where there are many buyers but only one
seller.
Main causes
➢ Firstly, ownership of strategic raw materials, or exclusive
knowledge of production techniques.
➢ Secondly, patent rights for a product or for a production
process.
➢ Thirdly, government licensing or the imposition of
foreign trade barriers to exclude foreign competitors.
➢ Fourthly, the size of the market may be such as not to
support more than one plant of optimal size.
Characteristics of Monopoly
➢ One seller in the market
➢ Absence of competition
➢ No close substitute to the product offered
➢ Producer has complete control over the output and supply
of the product
➢ Monopolist is the Price-maker.
➢ No difference between firm and industry
Nature of demand and revenue
– Under monopoly, it becomes essential to understand the
nature of demand curve facing a monopolist.
– In a monopoly situation, there is no difference between
firm and industry. Therefore, under monopoly, firm’s
demand curve constitutes the industry’s demand curve.
– Since the demand curve of the consumer slopes
downward from left to right, the monopolist faces a
downward sloping demand curve.
Nature of demand and revenue
– It means, if the monopolist reduces the price of the
product, demand of that product will increase and vice-
versa.
– If the demand of his product is inelastic he can charge
higher price and if the demand is elastic, he has to charge
relatively lower price.
Average Revenue and Marginal
Revenue
Average Revenue and Marginal
Revenue
➢ AR is equal to price. MR is less than AR.
➢ The demand curve in the Monopoly market is Average
Revenue (AR), which slopes downward.
➢ Under monopoly, the slope of AR curve is downward,
which implies that if the high prices are set by the
monopolist, the demand will fall.
➢ In addition, in monopoly, AR curve and Marginal
Revenue (MR) curve are different from each other.
However, both of them slope downward.
Average Revenue and Marginal
Revenue
Average Revenue and Marginal
Revenue
➢ In Fig. 1 average revenue curve of the monopolist slopes
downward from left to right.
➢ Marginal revenue (MR) also falls and slopes downward
from left to right.
➢ MR curve is below AR curve showing that at OQ output,
average revenue (= Price) is PQ where as marginal
revenue is MQ.
➢ That way AR > MR or PQ > MQ
Profit-Maximization
➢ Like a competitive firm, a monopolist maximizes profit
by producing the quantity where MR = MC.
➢ Once the monopolist identifies this quantity, it sets the
highest price consumers are willing to pay for that
quantity.
➢ It finds this price from the D curve.
Monopoly firm earns economic profit
Monopoly firm earns normal profit
Monopoly firms suffers economic losses
 Monopolistic Markets
➢ Monopolistic competition: where there are many sellers
producing highly differentiated products.
Example
➢ Automobiles and soft drinks
Monopolistic Competition
➢ The model of monopolistic competition describes a
common market structure in which firms have many
competitors, but each one sells a slightly different
product.
➢ Monopolistic Competition market is a structure in which
a large number of small sellers sell differentiated products
which are close but not perfect substitutes for one
another.
Characteristics of Monopolistic
➢ Large number of firms: The number of firms which
constitutes an industry is fairly large.
➢ Similar products but not identical: the products produced
are similar to one another but are not identical.
➢ Free Entry and Exit: Firms under monopolistic
competition are free to enter and leave the industry at any
time.
Characteristics of Monopolistic
➢ Individual Pricing by a Firm: In this type of market, every
individual producer has his own independent price policy.
➢ Selling Costs: Every firm tries to promote its sales
through expenditure on advertisement and on other
promotional activities such as sales men’s incentives,
gifts etc.
Monopolistic Competition in the
Short Run
➢
Monopolistic Competition in the
Short Run
➢ The firm in the Monopolistic competition achieves
equilibrium when MC=MR.
➢ The AR curve and MR curve are different and slope
downwards from left to right.
➢ AR=Demand=Price.
➢ The firm earns profits if Price > AC.
Monopolistic Competition in the
Long Run
➢
Monopolistic Competition in the
Long Run
➢ Long run is a period of time where a firm will get adequate time to
make any changes in the productive process.
➢ In the long run, a firm can earn only normal profits.
➢ If AR > AC, there will be super normal profits. This leads many
firms enter into the market. Entry of new firms- increase in total
number of firms in the industry- increased production-fall in prices-
decline in profit ration.
➢ If AR < AC, there will be losses. Some firms who cannot sustain
the losses exit the industry.
➢ Therefore, entry and exit of firms continue till AR=AC which leads
firms to earn normal profits
Oligopoly Markets
➢ Oligopoly, in which there are few sellers of a product.
Example
➢ Pure oligopoly:
cement, gas, steel industries.
➢ Differentiated oligopoly:
Network providers (Jio, Airtel and BSNL).
Motor bikes and instant coffee.
 Characteristics of Oligopoly Market
➢ Small number of large firms: The number of firms in the market
are small but the size of each firm is large. The market share of
each firm is large enough to dominate the market
➢ Interdependence: Since the number of firms is very few, any
change in price, output, product of a firm is directly effected by
the other firm’s policies.
➢ Conflicting attitude of the firms: Firms may unite together to
overcome the disadvantage of competition or may operate
individually to maximize their profits. These attitudes of the firms
create uncertainty in the market.
 Characteristics of Oligopoly Market
➢ Price rigidity: Generally the firm does not change its price
under oligopoly market because of the fact that if one firm
changes its price, other firms may also follow the same
pricing technique.
➢ Aggressive and defensive marketing methods: Firms
follow aggressive or defensive advertisement methods to
increase their market share.
Kinked Demand Curve in Oligopoly
Market
➢
 Kinked Demand Curve in Oligopoly
Market
➢ The Demand Curve or the Average Revenue Curve is
made of two segments.
➢ The first segment is made of Relatively Elastic Demand
and the second segment is Relatively Inelastic demand.
➢ The Kink in the demand curve leads to indeterminateness
in the demand.
➢ The seller thinks to follow the prevailing price and not to
make any price changes because rising of price would
decrease the demand. Therefore, the demand curve is
relatively elastic at this stage.
Kinked Demand Curve in Oligopoly
Market
➢ On the other hand, if the seller decreases the price, he
would not be able to sell more products as the rivals
would also reduce their product’s prices.
➢ Hence the seller will not expect much rise in his sale
with price reduction
Price-Output determination under
Oligopoly
➢
Price-Output determination under
Oligopoly
➢ The Kinked AR curve implies discontinued MR curve.
The Kinked Marginal Revenue curve explains the
phenomenon of price rigidity in the Oligopoly market.
➢ Because of discontinuous MR curve, there is no change
in equilibrium output, even though marginal cost changes
hence, there is price rigidity. OP does not change
➢ The price-output combination at the kink tends to remain
unchanged even though MC may change.
Duopoly Markets
➢ Duopoly: in which there are two sellers of a product.
Example
➢ Mastercard and Visa
➢ Pepsi and Coca-Cola
➢ Amazon and Flipkart
➢ Uber and Ola
➢ Swiggy and Zomato
Duopoly Markets
➢ The word “Duo” means two and “Poly” means “Sell”.
Hence, Duopoly is a market structure with two sellers
exercising control over the supply of commodities.
➢ Duopoly is a form of Oligopoly market.
➢ Each seller in the market knows that whatever the price
changes in the product would effect the rival’s product
policies.
➢ The action from one seller will result in the reaction from
other seller.
Duopoly Markets
➢ Each seller attempts to make a correct guess of his rival’s
motives and actions.
➢ The two firms may either resort to competition or come
together.
➢ Resorting to competition leads to cut-throat competition
in the market.
➢ Coming the businesses together results in fixing the same
price and restricting the competition only to
advertisement.
–Thank you
Break Even Analysis
Break Even Analysis
➢ Tells how many units of a product must be sold to cover
the fixed and variable costs of production.
➢ The break-even point is considered a measure of the
margin of safety.
Why is it called break-even point?
➢ Break-even point (BEP) is a term in accounting that
refers to the situation where a company's revenues and
expenses were equal within a specific accounting period.
It means that there were no net profits or no net losses for
the company.
➢ This is the point where your total revenue (sales or
turnover) equals total costs. At this point there is no profit
or loss
Fixed cost
➢ Means that does not change with an increase or decrease
in the amount of goods and services produced.
Example
➢ Staff salaries
➢ Machinery
➢ Expenses for land maintenance
➢ Expenses for repairs
Variable cost
➢ Variable cost is an expense that change in proportion to
production output.
Example
➢ Raw material
➢ Cost of direct labour
➢ Expenses for fuel
When production increase and variable cost increase
When production decrease and variable cost decrease
Calculations for Break-Even Analysis
➢ To calculate the break-even point in units use the
formula:
Break-Even point (units) = Fixed Costs ÷ (Sales price per
unit – Variable costs per unit)
➢ In sales dollars using the formula:
Break-Even point (sales dollars) = Fixed Costs ÷
Contribution Margin
Breakeven analysis example
➢ Fixed cost ₹1,00,000. The variable cost linked with manufacturing
one pen is ₹2 per unit. So, the pen is sold at a premium price of
₹12.
➢ Break-even point = Fixed cost / Price per cost – Variable cost
= ₹1,00,000/(₹12 – ₹2)
= 1,00,000/10
= 10,000
➢ Therefore, given the variable costs, fixed costs, and selling price of
the pen, company X would need to sell 10,000 units of pens to
break-even.
Example
➢ Fixed cost = 60,000
➢ Fixed selling cost = 12,000
➢ Variable manufacturing cost per unit = 12
➢ Variable selling cost per unit = 3
➢ Selling price per unit = 24
Fixed cost = 60,000+12,000 = 72,000
Variable cost per unit = 12+3 = 15
Selling price per unit = 24
Break-Even point = Fixed Costs ÷ (Sales price per unit –
Variable costs per unit)
BEP = 72000/24-15
=72000/9 = 8000 units (8,000*9 = 72,000)
BEP (in sale values) = 8,000 ˣ 24 = 1,92,000
Number of unit that must be sold to earn profit of 90,000.
= Fixed Costs + Profit ÷ (Sales price per unit – Variable
costs per unit)
= 72000 + 90,000 / 24-15
= 1,62,000 / 9
= 18,000 units.
= 18,000*9 = 1,62,000
–Thank you
National Income
National Income
➢ National Income is total amount of goods and services
produced within the nation during the given period say, 1
year.
➢ It is the total of factor income i.e. wages, interest, rent,
profit,
➢ Received by factors of production i.e. labour, capital, land
and entrepreneurship of a nation.
Definition
➢ GDP is the market value of all the final goods and
services produced within a country for a given time
period.
➢ Measurement of economic activity involves measuring
an economy’s national income or the value of output, and
is referred to as ‘national income accounting’. The output
of an economy is referred to as ‘aggregate output’, which
means total output. Knowing national income and the
value of aggregate output is very useful.
Why do we study national income?
➢ Assess an economy’s performance over time (are income
and output increasing over time; are they decreasing?).
➢ Make comparisons of income and output performance
with other economies.
➢ Establish a basis for making policies that will meet
economic objectives.
Calculating the GDP
➢ The word “domestic” in Gross Domestic Product pertains to the
fact that only the goods and services produced within a country are
counted in the GDP.
➢ For example – an Indian company – Haldiram produces potato
chips and USA company PespiCo also produces potato chips in
India. Since both these companies produce chips within India –
their product will be considered for calculation of GDP of India.
➢ Similarly – Tata motors producing Car in Gujarat is counted in
India’s GDP. But, Tata motors producing Car in UK is not counted
in India’s GDP
Measurement of National Income
1. Expenditure approach
2. Income approach
3. Output approach
Expenditure approach
➢ The expenditure approach measures the total amount of
spending to buy final goods and services in a country
(usually within a year). The term ‘final’ refers to goods
and services ready for final use.
Expenditure approach
 For example
➢ Food items like meat and vegetables are intermediate goods for
a restaurant that uses them to prepare a meal, and the meal is the
final good.
➢ If in measuring expenditures we included spending on the food
items plus spending on the meal, this would involve double
counting and the value of aggregate output would be
exaggerated.
➢ On the other hand, meat and vegetables bought by a household
for consumption count as final goods, since they are not used as
inputs for the production of another good or service.
Income approach
➢ The income approach adds up all income earned by the
factors of production within a country over a time period
(usually a year): wages earned by labour, rent earned by
land, interest earned by capital, and profits earned by
entrepreneurship. When all factor incomes are added up,
the result is national income.
Income approach
Difficulties of the Income Method
➢ To estimate mixed income of self employed people is not
an easy task. It is difficult to get reliable information from
unincorporated sector/unorganized sector.
➢ Income tax returns (account of incomes of an individual)
are the basis of calculation of income received in the
country. In underdeveloped countries a very small
proportion of income earners actually pay taxes.
Therefore, income method may be of limited use in such
countries.
Output approach
➢ The output approach measures the value of each good
and service produced in the economy over a particular
time period (usually a year).
Output approach
For example
➢ A sells raw materials for $700 to firm B. Firm B uses the raw
materials and produces an intermediate good that it sells to firm C
for $1100. Firm C uses this intermediate good to produce a final
good that it sells for $1700. How much value has been added in
this process? Firm A added $700 of value. Firm B added $400 of
value (=$1100−$700), and firm C added $600 of value (=$1700
−$1100). When we add these up we obtain: $700+$400+$600
=$1700.
➢ Note that the sum of the values that were added in each step of the
production process is exactly equal to the value of the final
product.
For example
➢ If we had added up the values of the two intermediate
products and the final product, we would have: $700+$1
100+$1700 = $3500, which greatly exaggerates the value
of the product due to double counting. By counting only
values added in each step of the production process, the
problem of double counting is avoided.
Difficulties of the Output Method
➢ Prices are not stable. These change frequently. In such situations,
finding value of inventories becomes quite difficult.
➢ It is difficult to determine the prices of goods which do not enter
market and are kept for self-consumption.
➢ A clear cut distinction between the intermediate goods and the final
goods is always not possible. Final goods for some may be
intermediate goods for others.
➢ In case the value of a capital good rises or falls due to changes in
market conditions, it becomes difficult to estimate the depreciation.
–Thank you