CHAPTER 2 DEMAND AND SUPPLY Demand One of the market forces which determine price is demand. Demand is related to consumption. It represents the process through which a consumer obtains goods and services he wants to consume. According to Prof. Hibbon, "Demand means the various quantities of goods that would be purchased per time period at different prices in a given market." Benham says, "The demand for anything at a given price is the amount of it which will be bought per unit of time at that price." Bober states, "By demand we mean the various quantities of a given commodity or service which consumers would buy in one market in a given period of time at various prices, or at various incomes, or at various prices of related goods." Features of Demand (1) When the person, who is in need and desiring, is willing and able to pay for what he desires, the desire changes into demand. (2) The demand is always at a price. (3) The demand is always per unit of time. (4) The demand indicates the quantity or the amount of the commodity the consumers are prepared to buy at that particular price. Types of Demand (1) Price demand.—Price demand, other things remaining unchanged, refers to the various quantities of a commodity or service that a consumer would purchase at a given time in a market at various prices. (2) Income demand.—The income demand, other things remaining unchanged, refers to the various quantities (99 )100 PRINGPLES OF ECONOMICS FOR LAW gripe, of goods and services which would be purchased consumer at various levels of income. (8) Cross demand.—The cross demand, other thin remaining constant, refers to the quantities of g B3 or service which will be purchased with reference change in price not of this good but of othe inter-related goods. These goods are either substitute, or complementary goods. = THE LAW OF DEMAND The law of demand simply expresses the relation between quantity of a commodity demanded and its price. In Marshalj, words, "The amount demanded increases with a fall in price ang diminishes with a rise in price." According to Bilas, "The law of demand states that, othe things being equal, the quantity demanded per unit at time wil be greater, lower the price and smaller, higher the price." Prof. Samuelson says, "Law of demand states that people will buy more at lower prices and buy less at higher prices, other things remaining the same." In Ferguson’s words, "According to the law of demand, the quantity demanded varies inversely with price." by th, Assumptions of the Law According to Prof. Stigler and Boulding, the main assumptions of the law are : (1) No change in tastes and preferences, fashions of the consumers; (2) Consumer's income, both money and real income must remain the same; (3) The prices of the other commodities related to the commodity in demand should not change; | (4) There should be no change in the wealth of t? consumers; (5) Substitutes are not discovered; and (6) No anticipatory changes in prices. 4 The law of demand is represented through demon schedules. They summarise the information on prices . quantities demanded. The demand schedule may be ule individual demand schedule’ and ‘the market demand sch‘ oust "The individual demand schedule refers to the prices and 2™' a demanded of the commodity by an individual". "Market de™paRT A-MICRO ECONOMICS 101 schedule is defined as the quantities of a given commodity which all consumers will buy at all possible prices at a given moment of time". Demand always represents the demand of a particular commodity or good or service. The Demand Schedule The following table shows the individual and market demand schedule. Price Amount demanded Market (Rs.) by A only demand ee 50 5 50,000 40 15 1,50,000 30 25 2,50,000 20 35 3,50,000 If we show the demand schedule, graphically, we get a demand curve. Demand Curve The demand curve shows the maximum quantities per unit of time that consumers will take at various prices. According to R.G. Lipsey, "This curve, which shows the relation between the price of a commodity and the amount of that commodity the consumer wishes to purchase, is called demand curve." The demand curve slopes down- wards from left to right. ° QUANTITY PRICE Reasons for the law of demand or the sloping downwards of the demand curve (1) Law of Diminishing Marginal Utility—As the price of the commodity falls, consumer purchases more of the commodity so that his marginal utility from the commodity also falls to equal the reduced price. If the price rises, the opposite happens. (2) New consumers.—When the price of a commodity is reduced, then many other consumers who were not consuming the commodity earlier will start purchasing it now because it is within their reach now.(3) (4) 5) PRINCIPLES OF ECONOMICS FOR LAW STUDEN?, rice of a commodity ig a4 pana commodity for les. ken to be a rise in his real in hi 1 income can h, i increase in his rea 1 " income, part oe an of the cheaper commodity. Thus, wed He price falls, amount demanded rises and vic, when versa. . f rrr] —When the price of the eae ier cheaper as compared to the coe mmmodities which the consumer 1s purchasing a sult the consumer would like to substitute the pee commodity for other commodities whose prices remain the same. = Different uses of the commodity.—Commodities can be put to more uses. If their price is reduced, the commodity will be put to many other uses where it had not been used earlier and the demand will go up. If their prices rise, they are used only for the more important purpose and the demand will go down. Income effect.—As 4 reduced he can get # amount. This may be ta Exceptions to or limitations of the law of demand @ (2) Giffen goods or special type of inferior goods.—There are some commodities of consumption whieh are inferior like bread, broken rice, jowar, bajra, etc. Sir Giffen pointed out that the law of demand does not apply to the inferior goods. He could practically show that with a fall in the Price of bread its amount demanded is reduced rather than being more than before. This is called ‘Giff. q i bread falls in the mae Ge a demand for arti ir price ig }: ‘ arti «1. Price is e joag, 18 OF distinction falls wie vanay A-MICRO ECONOMICS PA’ (3) (4) The 103 Expectation of change in price in future. If people expect a rise in price in future, they will rush to purchase more of the commodity at the present price If they expect the price to fall, they will purchase less of the commodity to get benefit from the fall in price later. Ignorance on the part of consumers about quality.—A lower-price commodity may be considered inferior and purchasers buy lesser amount of it. But when its price is more, they consider it to be superior and may purchase more of the commodity than before Law of Demand has its importance in price determination in perfect competition, tax imposition and in planning for individual purchase of commodities and planning of industries regarding the production of output.‘Factors affecting demand or causes of changes in demand (1) (2) Price of the commodity.—Demand is decisively affected by the change in the price of the commodity concerned. There is inverse relation between price and the quantity demanded. - Income of the consumer.—The demand for a normal commodity goes up when income rises and falls down when income falls and thus the demand has direct relation with the income.£5 OF ECONOMICS FOR LAW STUD, PRINCIPL i he case of substitut,, —lIn ti i (3) Prices of related goods in the consumption |, (4) ) (6) @) (8) (9) ; ncrease cage tea and coffee, an iMere Ty and for the othe, one will lead to a decrease ice of one good results jp. When a decline in the pri r, they are substitute, decline in the cou : for 8 pe and ink, increas ements, @.8- seaad tor ol augment on for penis deme - nts i Eetie ae inversely related. ra, ea for a commodity does not ara ne Tice but the prices of other goods too. 7 " nd fashions Of th Tastes, preferences 5 anded also depends », consumer.—The amount dem: Era bie uate consumer's taste which includes fashion, ’ m, etc. We clas oe Wealth. Fhe Gmount demanded of a commodity i also affected by the amount of wealth. The/ wealthier are the people, higher is the demand for norma commodities. , Size and composition of population.—Increase in the size of population increases demand for necessaries of life and a change in composition of population has an effect on the nature of demand for different commodities. Money supply.—The additional money supply will add to the purchasing power of the community, and the prices will rise, demand for certain goods will be reduced and for others stimulated. The level of distribution—If the income is distributed among many, the larger is the average household income, greater is the demand for the commodities they consume. Savings.—Larger the saving, lesser the demand fot commodities. (10) Conditions of trade—The level of demand for (11) different commodities also depends upon the business conditions in the country. In boom conditions, there will be a marked increase in demand and demand goes down during depression. Expectations regarding the future.— 18 expect their incomes to rise in the near "fonere, they may increase the demand for a commodity just now.pART A—MICRO ECONOMICS ie Prices are expected to rise in future, the demand for goods will increase now in the present. a and weather.—The climate of an area and conse ST prevailing there has a decisive effect on seh er’s demand. In cold areas, woollen cloth is ighly demanded. During hot summer days, ice is very much in demand. (18) Government policy.—Government policy affects the demand for commodities through taxation. Taxing 4 commodity increases its price and the demand goes down. Similarly, financial help from the government through subsidies increases the demand for a commodity while lowering its price. (14) Asset preferences.—It is quite obvious that if a consumer develops marked liquidity preference, his demand for goods will decrease, because he prefers to keep with him ready cash instead of buying things. Different kinds of changes in demand for a commodity There are four types of changes in demand. Two types of changes take place due to change in price and they are extension of demand and contraction of demand. Two types of changes take place due to chang. of other things and they are increase in demand and decrease in demand. ; Extension of Demand.—When other things remain the same, with a fali in the price, the amount demanded goes up or extends. There will be downward movement along the same demand curve. Contraction of Demand.—When other things remain constant, if the price of the commodity rises, demand is reduced or contracted. There will be upward movement along the same demand curve. Increase in Demand.—As a result of changes in factors other than price, the demand shifts to another demand curve which is on the right side and above. The demand curve itself moves to the right side and moves above. Decrease in Demand.—As a result of change in factors other than price, the demand shifts to another demand curve which is on the left side below. The demand curve itself moves to the left side and moves below. Thus we can find clear difference between ‘extension’ a ‘increase’ in demand and ‘contraction’ and ‘decrease’ in deman nd106 PRINCIPLES OF ECONOMICS FOR Law STUp,, " y The changes in demand can be (Fig. 2.2) observed clearly from the diagram. When price is OP, the quantity demanded is OQ. When the price 3 OP is decreased to OP,, the & quantity demanded is extended +, from OQ to OQ,. This is called ‘the extension of demand’. When the price is OP the oo quantity demanded is OQ. At the QUANTITY 1 Same price of OP, the quantity : demanded increased to OR from OQ due to change in incom, This is called ‘the increase in demand’. In similar way, the difference of contraction and decrease j, demand can be observed in reverse way. : ELASTICITY OF DEMAND The law of demand states that the demand for a commodity extends when its price falls and vice versa. But the law does ny, explain the amount of change in demand. In order to measur: the extent of change in demand, Prof. Marshall developed th: concept of ‘Elasticity of Demand’ in his book ‘Principles ¢ Economics’. Types of Elasticity of Demand The general definition of elasticity of demand is the measur of the degree of change in the amount demanded of the commodity in response to a given change in price of the commodity, prices of some related goods or changes in consumers income. Thus, elasticity of demand is of three types : (1) price elasticity of demand, (2) cross elasticity of demand and (3) income elasticity of demand. o Price Elasticity of Demand or Elasticity of Demand Price elasticity of demand is otherwise called ‘elasticity of demand’. It is defined by many economists, In the words of Marshall, "The elasticity (or responsiveness) of demand in a market is great or small accordingly as the amount demanded increases much or little for a given fall is price, and diminishes much or little for a given rise in price. According to A.L. Meyers, "The elasticity of demand is # measure of the relative change in amount purchased in respo!®* to a relative change in price on a given demand curve."par A-MICRO ECONOMICS ‘0 Kenneth Boulding says, "Elasticity of demand measures the responsiveness of demand to changes in price." AK Cairncross states, ; "The elasticity of demand for a commodity is the rate at which quantity bought changes as the price changes. Mrs. Joan Robinson says, "The elasticity of demand, at any price or at any output, is the proportional change of amount purchased in response to a small change in price, divided by the proportional change of price." Thus, Elasticity of Demand = Proportionate change in demand comand Proportionate change in price In mathematical formula it is Change in demand Change in price Original demand ~ Original price Elasticity of demand (n) = Aq + 4p _4q xk. Aq x2 q p q Ap 4p q The elasticity of demand with regard to price of commodity is always having a minus sign as the price and demand are inversely related. The minus sign is not used in writing as it is understood. Degrees of elasticity of demand.—There are five cases of elasticity of demand. They are : (1) Perfectly elastic or infinite elasticity—It is one in which a small change or constant price will cause an infinitely large change in amount demanded. It Y represents the demand curve, a horizontal straight line, parellel to the X-axis. ., It is rare in real life and as such it is not of any™ D practical interest. It does not come under the law of demand. A practical gy example is : DEMAND Price (Rs.) Demand (Quintals) 10 10 10 20 w4g,p 10, 10_10_ n= 50% 4 0*10° 07" The same is presented in the above diagram (Fig. 2.3) Fig. 2.3y PRINCIPLES OF ECONOMICS FOR LAW SU ey (2) Relative elastic demand.—It refers to that situati, where a small ) proportionate change in the price of a commodity is accompanied by a larger proportionate change in its quantity demanded. Relative elasticity of demand is said to be greater than unity, ie., greater than one. .A numerical example is : Price (Rs.) Demand (Quintals) 10 10 12 5 a4aq,ep 5,10_,1 Lary r 2% 30722 74 The slope of the demand curve for elastic demand is low ag | seen from above diagram. (Fig. 2.4) | (3) Unitary elasticity of demand.—It refers to that situation where a given y proportionate change in price is accompanied by an equally proportionate change in the quantity demanded. The unitary elastic demand curve is the rectangular hyperbola as shown in the diagram. (Fig. 2.5) A numerical PRICE PRICE example is : 0 QUANTITY x Price (Rs.) Demand (Quintals) 10 10 12 8 A 2.10 | Tap%q 2 %10™ (4) Relatively inelastic demand.—It refers to tha | situation where a big proportionate change in the price of a commodity is accompanied by a smallet proportionate change in its quantity demanded:parr A-MICRO ECONOMICS 109 Relatively inelastic demand Y is said to be less than unity, ‘fp Fig. 2.6 ie., less than one. The slope of the relatively inelastic demand curve is high as § seen from the diagram. 2 (Fig. 26) A numerical ™ example is : Price (Rs.) Demand 10 (Quins) 0 QUANTITY 12 9 -Agye 1,101 4 Ap *q 2% 1072 <1 (5) Perfectly inelastic demand.—It refers situation where — even substantial changes in prices leave the demand ‘ unaffected. The perfectly inelastic demand is zero. The perfectly _ inelastic 8 demand curve is a vertical 2 straight line parallel to the OY-axis. It is rare in real life and not of any practical o QUANTITY interest. It does not come i under the law of demand. A Fig. 2.7 numerical example is : to that PERFECTLY INELASTIC n= 0 Price (Rs.) Demand (Quintals) 10 10 12 10 n= 49x2 0.10 _9 Aap q 2” 10FACTORS EFFECTING ‘PRICE ELASTICITY OF DEMAND’ OR ‘ELASTICITY OF DEMAND’ The following are the factors effecting the elasticity of demand : (1) Prevailing price level elasticity of demand depends prevailing in the market is re . 1 the view-point of common consumers. Highly priced commodities such as diamonds, and low priced commodities such as salt have low price elasticity because a change in their price has very little effect’ on™, their consumers. of the commodity.—Price upon whether the price Jatively high or low fromprciPLEs OF ECONOMICS FOR LAW Srupg,, jity.—Price elasticity mmod) (2) Nature of the © that of luxuries is me e necessaries of life is low, while high. 7 (8) Availability of substitutes—If a commo ity has clos, substitutes available at reasonable prices, then thy | demand for the commodity will be quite price elastic | (4) Level of income of the consumers of th, | commodity.—Price elasticity of demand from the high | income class for high quality goods is low and from the | poorer classes is very high. 7 (6) Habitual necessities—Those commodities whose consumption is a habit with consumers like cigarette, and liquor have low price elasticity. (6) Possibility of postponing the purchase of q_ commodity.—Price elasticity of a good whose purchase can be postponed will be high. | (7) Number of uses ofa commodity.—The greater the number of uses to which a commodity is put, the higher is the elasticity of demand. (8) Time period under consideration.—Price elasticity in the short period is low, while in the long period it will be relatively higher. (9) Place of the commodity in the consumer's budget.—The demand for newspaper, tooth paste, ete, is less elastic as the prices rise. The consumer is not worried about his budget as the amount spent on them is very meagre amount. (10) Joint demand.—Price elasticity for a commodity is dependent upon the nature of price elasticity of jointly-demanded commodities. IMPORTANCE OF PRICE ELASTICITY OF DEMAND (1) Determination of price and output.—If the deman' is less elastic, price will be higher. If the demand § elastic, a lower price is fixed. (2) Price discrimination.—A monopolist adopts a pam discrimination policy only when the elasticity : demand from different consumers or sub-markets different . (8) Taxation.—The Minister of Finance can be more sus of his revenue if he taxes those commodities for whid the demand is inelastic.PART A-MICRO ECONOMICS 5 pt of elasticity of demand of joint products guided ature ignoring the separate (4) Joint products.—The conce finds applicability in the cag mostly by demand and its n. costs. (5) Use of the conce; price elasticity is shares of factors process. pt in factor pricing.—The idea of helpful in explaining the relative of production in the production (6) Use in international trade—A country benefits from such exports as have Price inelastic demand for a rise in price and elastic demand for a fall in price. For imports the opposite holds, (7) Poverty in plenty.——The incomes of farmers are lower in a year of exceptionally good harvest because of the sudden drop in the price of their produce as compared to the incomes in a year when the harvest is rather poor. This is called ‘the paradox of poverty’. This paradox is easily explained by the inelastic nature of demand for most agricultural products. Since the demand is inelastic, prices of agricultural products are lower when their supply is high. (8) Pricing policy for public utilities.—A suitable policy for the products of enterprise is to charge consumers according to their elasticity of demand for the public utility. (9) Determination of sale policy for super markets.—The policy adopted is to charge a slightly lower price for goods whose demand is quite elastic. As a result of the greater sales, the costs are easily covered, (10) Effect of use of machinery on _ labour employment.—Machines do not always reduce the demand for labour. It all depends on the price elasticity of demand for their products. INCOME ELASTICITY OF DEMAND According to Watson, "Income elasticity of demand means the ratio of the percentage change in the quantity demanded to the percentage changes in income." The income elasticity of demand for a good other things remaining constant, is the ratio of the percentage change in the amount spent on the commodity to a percentage change in consumer's income. Income elasticitypRINGIPLES OF ECONOMICS FOR LAW STUDENTs 116 nd to chi hi responsiveness of dema) in dean d measures the proportionate chai te Cl Income elasticity = “Proportion Ag _ dg Av oe ; Ey=q *y : Ay mand, Aq is the change Where By is ince” a d, y is original income and ty in demand, 4 18 the orig y ange in income, i oO OX-axis aS shown 10 the (QUANTITY OF DEMAND eas diagram. Fig. 2.12 (2) Positive income elasticity of demand ‘or income elasticity of demand greater than unity.—When the ded of a commodity increases with increase in income and vice versa, the demand is d. It is greater than , positive income elasticity of deman' gr ; Qe unity. The income demand curve of positive income elasticity is positively sloping from left upwards to the right as shown in the diagram. (3) Unity income elasticity of demand.—It is equal to , unity or on when the proportion of income spent on 4 good remains the same even though income has increased. (4) a elasticity of demand less than unity—This refers to the situation where the consumer spends # smaller proportion of his money-income on eee in question when he becomes rich and more \ P ees a income elasticity of demand is les ee ag ine e case of necessaries, the expenditur? consumer’ eases in a smaller proportion when the anand Sere goes up. The income elasti’ the ri e is steeply sloping from left ards e right as shown in the diagram. upw Zero income elasticity or : rf q tic income demand.—Whe perfectly inelas n the demand for a commodit! (5)ee gMIORO ECONOMICS pak be zero) income inelasticity The zero income. demand curve is a vertical straight line parallel to the OY-axis as shown in the diagram Negative income elasticity.When the elaatic 6 amount Y diminishes with an increase D : mer, the demand is said to he negative income elasticity. The Negative income elasticity is less than zero. The commodity is said to be an inferior one. The Negative income-demand curve is sloping from left downwards to the right as shown in the diagram. CROSS ELASTICITY OF DEMAND When the demand for a commodity changes with a change in the price of another related commodity, it is called ‘cross elasticity of demand’. Prof. Ferguson says, "The cross elasticity of demand is the proportional change in the quantity of X demanded resulting from a given relative change in the price of the relative good Y". It can be stated as Proportionate change in demand of the commodity X Proportionate change in the price of commodity Y writing in symbols, Exy = Aq, AP, E: = += ne a P, ~ 4a, Py a, AP, ~ Am Py OP, ed: Where p and q have their usual meaning of price and quantity and A is the small change in them. The relative goods consist of substitute goods and complementary goods. Substitute goods.—Tea and coffee are substitute goods. They will be substitute or rival goods if a reduction in the price of Y decreases the demand for X, and also if a rise in price of Y increases the demand for X. The cross elasticity of demand for these goods is negative. Complementary _ goods—Milk and sugar are complementary goods. The two commodities will be Complementary, if a fall in the price of Y increases the demand118 PRINCIPLES OF ECONOMICS FOR LAW STUDEN $ for X and conversely, if a rise in the price of one commodity decreases the demand for the other. The cross elasticity ' complementary goods is positive. IIE SE TEE ESTEE Eesti ESTERS SETESS SES COC ETE CECTSUPPLY Price is determined by the forces of ‘demand’ and ‘supply’. They are called market forces. Supply indicates the amount of the goods offered for sale at a given price. Supply changes with the change in price. Supply is a flow of goods in the market. Meyers states, "We may define supply as a schedule of the amount of a good that would be offered for sale at all possible prices at any one instant of time, or during any one period of time, for example, a day, a week and so on, in which the conditions of supply remain the same." SUPPLY AND STOCK Supply differs from the stock, stock is the total volume of commodity produced and kept ready for sale at a short notice and supply means the quantity which is actually brought into the market to sell at that price. Thus, supply is made from the stock. Parameters or determinants of supply (causes of change im supply) (1) Prices of the commodity—The supply of the commodity depends on the price of that commodity. Higher the price greater is the supply. (2) Price of other commodities.—The supply of the commodity also depends on the prices of other commodities. If the prices of other goods are more attractive, then, they are demanded more and the demand of this commodity goes down. Cost of production.—Supply is influenced by the cost of production. Cost of production of a commodity may rise due to increase in the cost of the various factors of production. This will result in a decrease in supply. (3 =122 (4) (5) (6) (7) (8) (9) PRINCIPLES OF ECONOMICS FOR LAW STUDgy,, 1 in the price of such factors production will lead to greaver production ang increase in supply. consequently an ly depends on the stay, State of technology.—Supply nalay, loward € of technology. Improvement 10 ee OSt of production and increases supP IY: b Means of communication.—Improvemen in’ th, means of communication and ep may ‘nerea, the supply of a particular commodity by expanding the market pavourable natural conditions like bette, rainfall, etc. would increase the supply of foodgrain; and the larger supply of agricultural products provid, lower costs for the production of industrial goods and increase in their supply. Producers’ goals.—The supply of goods is determine by the goals set by the producing firms for themselves They can decide to produce more or less on the basis of their ideology. Political disturbances.—Political disturbances o, wars may disorganise channels of trade and there will be fall in supply due to lack of safety. Agreement among the producers.—Supply may le consciously decreased or increased by agreement among the producers. Conversely, a fall (10) Number of sellers.—Entry of more sellers will increase the supply and the exit of sellers will decrease the supply. (11) Taxation.—Taxation on output, sales, imports, etc also affect the supply. (12) Monopoly control.—in monopoly the supply of goods are lesser than the su ; pply of goods in_ perfect competition. (18) Seller’s price expectation.—If the sellers feel that Supply function.—The supply is i factors. Thus the supply is the function the prices will rise in the future, they will reduce the supply now. If they expect the fall in price in future, they will hurriedly increase the supply now. fluenced by the above ° \f tors. It can be stated in an equation as below. tthe shove ted Sa = {Pp Pr. mv, T, FMT 2)yar AMICRO ECONOMICS S, = quantity of sypply of the f = represents the functional Pp, = Price of the good n. good n. relationship. ~ 1-0) = Prices of other goods Technology F, = Price of factors of production which are included i cost MT = time period. In a simple form we can say, the supply function, other things remaining constant, is S, = ¢ (P,). ‘This means that the quantity supplied of a good varies directly with the price The law of supply The relation between price and supply law of supply. It can be stated as below. “Other things remaining the same, as the price of a commodity rises, its supply is extended, and as the price falls, its supply is contracted". The quantity offered for sale, i.e., supply varies directly with price, This can be explained by the supply schedule. Supply schedule is explained by the Table Price of A (Rs.) Quantity supplied (Quintals) 10 40 9 35 8 30 7 25 6 20 5 15 It will be seen from the table that when price is as high as Rs.10, as much as 40 quintals of A is offered for sale. As the price falls, the amount of supply decreases. The supply schedule can be represented by supply curve. Supply curve In the diagram (Fig. 2.15), prices are represented on OY-axis and the quantities of supply are represented on OX-axis. SS, is the supply curve. At point E on supply curve, thePRINCIPLES OF ECONOMICS FOR LAW STUDEN quantity of supply is OM at price OF, When the price 18 increased to OP, the supply is also increased to OM, and when the price 18 reduced to OP), the supply is also reduced to OM, Q It should be noted that the * supply curve slopes downwards from right to left as contrasted with the demand curve, which slopes | downwards from left to right. They 0 QUANTITY OF SUPPLY both move in opposite direction. Fig. 215 - t r r x w of supply ler forecasts the fall of prices in future, more even at the present lower Exceptions to the la (1) When the se he prepares to sell price. (2) When the pric supply of labour CHANGES IN SUPPLY Supply of a commodity changes with the change in price of that commodity. The changes of supply due to change in price are : y, Sos 5 (1) Extension of supply.—The supply is said to be extended when more supply is made as price rises. Thed movement is on the same® curve upwards as seen from the diagram. (Fig. 2.16) This is due to the law of supply. e of labour (i.e, wage) increases, the decreases instead of increasing. . (2) Contraction of o MMMM, x supply.—tThe supply is said QUANTITY OF SUPPLY to be contracted when less Fig. 2.16 supply is made as prices fall. The movement is on the same supply curve downwards as seen from the diagram. This also happens due to the law of supply. Supply of a commodity will also change due to change in oa bine such i prices of other commodities, costs of factors of production, technology, etc. The changes of 1 to changes in other factors are : nan (1) Increase in supply.—Supply is said to be increaseds—MIC (2) RO ECONOMICS 125 when, at the same price, more is offered for sale, or the same quantity is offered at a lower price. The movement, due to this change, shifts to another supply curve. This is due to the influence of other factors other than the price. The supply curve shifts down or to right of the original curve when there is increase in supply, as shown in the diagram. Decrease in supply.—The supply is said to decrease. when, at the same price, less is offered for sale or the same quantity is offered at a higher price. The movement shifts the supply curve. This decrease is duc to the influence of other factors other than the price of that commodity. The supply curve shifts towards left or above the original supply curve when there is decrease in supply as shown in the diagram. There is difference between ‘increase in the quantity supplied’ supplied’ means that more is being offered at a higher price. ‘Increase in supply’ means that more is being offered at the same price due to the effect of other factors other than price. In the similar way, ‘decrease in the quantity supplied’ is due to change in price and ‘decrease in supply’ is due to change in other factors other than price. : and ‘increase in supply’. ‘Increase in the quantityDETERMINATION OF PRICES (Price Mechanism) PERFECT COMPETITION price-output determination under perfect etition.—Mrs. Joan Robinson says, "When the number of ; being large, SO that a change in the output of any of them has 2 negligible effect upon the total output of the commodity, the commodity 1s perfectly homogeneous in the sense that the buyers are alike in respect of their preferences between one firm and its rivals, then competition is perfect, and the elasticity of demand for the individual firm is infinite." Thus, perfect competition is a type of market in which there is a large number of buyers and sellers. All the producers sell homogeneous goods. There is no need of selling costs. Firms produce only a small portion of the total output of the industry. There is complete absence of transport cost of the product. Both buyers and sellers have perfect knowledge about the conditions in which they are operating. Factors of production can freely move from one occupation to another and from one place to another. The firms can freely enter in and exit from the industry. A single firm cannot affect the price by its individual efforts. Price is fixed by the industry through the demand and supply forces. The equilibrium price is determined in perfect competition at a point where the demand for and supply of the total industry are equal to each other. A numerical example of price fixation in perfect competition is given below.Price (Rs.) Demand for output PRINCIPLES OF ECONOMICS FOR Lay SN 8 Demand and supply schedule of a commodity Supply of ou; z (crores) (crores) 10 100 20 20 80 40 30 60 60 40 40 80 20 100 50 Demand decreases when the price increases, whereas th increases when the price increases. When the tle 7 fae 80/- demand is more than the supply and when price is above Rs. 30/- the demand is less than the Supply, A Rs. 30/- the demand for and the supply of the output are eqy, This is known as the ‘equilibrium price’. Greater supply than its demand will reduce the greater demand than supply will raise 4 the price. When the demand for and supply of output is equal, the price is a fixed. Under perfect competition, price $ is determined by the interaction of the E forces of demand for and supply of goods. This can be explained through the diagram in Fig. 4.1. In the diagram quantity J demanded and supplied is taken on 2 QUANTITY OX-axis. Price of the good is shown on Fig. 4.1 OY-axis. DD and SS are the demand and supply curves respectively. E is the equilibrium point where demand curve and supply curve intersect each other. By drawing a perpendicular from the point of intersection to OX-axis, we get the equilibrium quantity demanded and supplied, i.e., OM. Perpendicular drawn on OY-axis from point E shows the equilibrium price OP. Price anj Effect of change in demand on price If demand of a commodity increases, price also increases. The demand curve moves upwards. If the demand of a commodity decreases, Price also decreases. The demand curve moves downwards. Here the supply of a commodity is taken as constant. The effect of change in demand on the price of the commodity * shown through a diagram given below.ar A-MICRO ECONOMICS 153 In the oar eka 4.2), SS is supply curve. Vhen the demand the e is a E is the point of librium. The equality between the ry caand curve DD and supply curve ¥ 3 gives the equilibrium output OM ° and the equilibrium price OP. 7 Suppose demand for the good increases for some reason or the other, PA It will shift the demand curve upward, ° MMM, s ie. to D,D,. Now price is determined QUANTITY at OP,. This OP, price is higher than Fig. 4.2 the previous price OP. ‘Thus an increase in demand raises the price. Similarly, a fall in demand curve to D,D, will lower the price to OP,. Thus, price varies directly with a change in demand. Effect of change in supply on price There is inverse relationship between the price of the commodity and its supply. When supply increases, price falls and when supply decreases, price rises. This concept can be shown through a diagram (Fig. 4.3) given below. When the demand curve DD intersects the SS supply curve, OM is the equilibrium output and OP is the equilibrium price. DD demand curve * temains the same. When the supply # » increases, the supply curve moves downwards and when the supply», decreases, the supply curve moves upwards. When supply increases to Ss, S; price falls to OP,. Similarly, a fall ¢ in the supply of the commodity leads ‘0 an increase in its price to OP,. An Fig. 4.3 crease in the supply of a commodity lowers its prices, demand or the commodity remaining constant. In the similar way, a decrease in the supply of commodity S its prices, demand for the commodity remaining constant. comn 3"ay there is an inverse effect of changes in supply of a ™Modity on its price. Taise,