Managerial Economics

Module-2 Demand & Supply Analysis

Analysis of Demand & Supply & Market Equilibrium

Concept of Market
 A market is a mechanism by which buyers and sellers interact to determine the price and quantity of a good or service  Demand side of the market for a product refers to all its consumers and the price they are willing to pay for buying a certain quantity of a product during a period of time.

What is Demand???  Demand is the desire or want backed up by money  Always related to price and time .

Statement of Law of Demand “All other things remaining constant. larger the quantity demanded” Dx = f (Px) . higher the price of a commodity. smaller is the quantity demanded and lower the price.

Then with the same amount of 100/.g. the consumer tends to substitute that commodity for other commodity which is relatively expensive. Thus the demand will increase.g.100/. . 50/ Substitution effect.per dozen to 50/.suppose the price of mangoes falls from Rs.the decline in the price of a commodity leads to an equivalent increase in the income of a consumer because he has to spend less to buy the same quantity of goods.Reasons for Inverse Relationship  Income effect..2 dozens at Rs. i.  For e.you can buy one more dozen.When the price of a commodity falls.e. The part of the money left can be used for buying some more units of commodity. – Suppose the price of the Urad falls. it will be used by some people in place of other pulses.per dozen..  For e.

Assumptions Underlying the Law      No change in Consumer‟s Income No change in Consumer‟s Preferences No change in Fashion No change in Price of related goods No Expectation of future price changes or shortages .

while holding constant all other relevant economic variables on which demand depends. .Individual Demand Schedule Tabular representation of Quantity of a commodity that an individual is willing and able to purchase over a given period of time at each price of the commodity.

Individual Demand Schedule Price of Com X (Rs per kg) 80 70 Quantity demanded of Com X (Qty in kg) 2 4 60 50 6 10 .

Market demand Schedule Tabular representation of Quantity of a commodity that all individuals are willing and able to purchase over a given period of time at each price of the commodity. while holding constant all other relevant economic variables on which demand depends. .

Market Demand Schedule Price in (Rs) Units of Commodity X demanded per day by Individuals A B Market Demand or Total C 4 3 2 1 1 2 3 5 1 3 5 9 3 5 7 10 5 10 15 24 .

Determinants of Individual Demand  Income  Price of Substitute & Complementary products  Taste & Preferences  Advertisement  Expectation regarding future price changes  Climatic Conditions .

Determinants of Market Demand  Price of Product  Distribution of Income & wealth  Community‟s Common Habits and Scale of Preferences  Spending Habits of People  Growth of Population  Age Structure and Sex ratio of Population  Future Expectations  Level of Taxation  Fashions  Climate Conditions  Customs  Advertisement .

the advertisement for the product (car) E.Multivariate Demand Function  Dx = D (Px. all other factors. the price expectation of the user T. a car) Px. the wealth of the purchaser          A. U) Here Dx. E. B. its own price (of the car) Py. the price of its substitutes (other brands/models) Pz. A. taste or preferences of user U. Pz. stands for demand for item x (say. W. Py. T. the income (budget) of the purchaser (user/consumer)  W. the price of its complements (like petrol) B. .

Demand equation  D= a – bP  Where „a‟ is constant parameter signifying initial demand irrespective of price  „b‟ represents slope of demand curve  functional relationship between price and demand. having minus sign denotes negative function .

Exceptions to Law of Demand  Conspicuous consumption –  The goods which are purchased for „Snob appeal‟ are called as the conspicuous consumption. shares.diamonds.g.  For e. lotteries . They would like to hold it only when they are costly and rare.g. It happens because of the expectation to increase the price in the future.  Speculative market:  in this case the higher the price the higher will be the demand. They are the prestige goods. For e.

This happens because of people‟s preference for superior commodity  Consumer‟s Psychological bias:  Many a times consumer judges the quality of a good from its price. Such consumers may purchase high price goods because of the feeling of possessing a better quality.  The exceptional demand curve shows a positive relation between the price and the quantity demanded.Contd…  Giffens goods:  It is a special type of inferior goods where the fall in the price results into the decrease In the quantity demanded. .

other factors remaining constant  When more of a commodity is purchased with a fall in price then it is known as extension of Demand and vice versa  Refer to movement along same demand curve  Increase and Decrease in Demand refers to changes in demand due to factors other than price  An increase in demand signifies that more will be purchased at a given price than before .  Refer to movement from one demand curve to another .Shifts in Demand Curve  Extension and Contraction of Demand occurs due to changes in price.

Reasons for shifts (increase or decrease in Demand) Changes in Income Changes in Taste. habits and Preferences Change in Fashions and Customs Change in Distribution of Wealth Change in Substitutes Change in demand for Complementary goods  Advertisement and Publicity Persuasion  Change in level of taxation       .

Nature of Demand  Demand for Consumer‟s goods & Producer's goods  Autonomous & Derived Demand  Demand for Durables and NonDurables (Perishables)  Joint Demand and Composite Demand .

Supply Analysis  Supply during a given period of time means the quantities of goods which are offered for sale at particular prices  Supply is what seller is able and willing to offer for sale  Supply and Stock are related but distinct terms-Supply comes out of Stock  Stock determines potential supply  Stock is outcome of production .

natural calamities.Determinants of Supply  Cost of factors of production  State of Technology  Factors outside Economic Sphere such as weather conditions. etc  Tax and Subsidy .

supply of a commodity rises with a rise in price and falls with a fall in price” .Law of Supply “Other things remaining same .

Supply schedule .

Assumptions :       Cost of production is unchanged Technology is constant Govt policies are unchanged No change in Transport costs No speculation Prices of other goods constant .

other things remaining same.Positions: Supply Curve  Extension and Contraction : refer to change in supply due to price.  Movement along the supply curve  Increase and Decrease in Supply: refer to change in supply due to determinants other than price  Shifts in Supply Curve .

Causes for change in Supply  Change in Cost of Production  Supply also depends on Natural Factors  Change in Technique of Production  Policies of Government  Business Combines .

.When market is in Equilibrium?  Equilibrium price of a commodity is price at which quantity demanded of commodity equals quantity supplied and market clears  Equilibrium is condition which once achieved tends to persist in time.

Equilibrium of Supply and Demand Price Excess Supply S E Excess Demand D D&S .

Effect of Shift in Supply or Demand Demand & Supply shifts If demand Demand curve rises shifts to right If demand Demand curve falls shifts to left If supply rises Supply curve shifts to right If supply falls Supply curve shifts to left Effect on price and quantity Both P & Q increases Both P & Q falls P falls but Q increases P increases & Q decreases .

Simultaneous shifts of Supply and Demand  New equilibrium price and quantity may be greater than. the equilibrium point shifts to right by same amount and hence equilibrium price remains same. . equal or even less than initial equilibrium levels depending on the magnitude and direction of two curves  If both D & S shift to right by same amount .

Impact of Excise tax on Price and Quantity  An excise is a tax on each unit of commodity  If collected from sellers tax causes supply curve to shift upward by the amount of tax  Result is that consumers purchase a smaller quantity at a higher price while sellers receive a smaller net price after payment of tax .

Impact of Excise tax on Price and Quantity S1 T S0 E1 Tax P1 Po E0 D Q1 Q0 .

however the effect has been opposite ie shortage of apartments .Impact of Rent Control on Housing Markets  Rent control is a type of price ceiling or maximum rent set below equilibrium price that government use for making rented housing affordable.

2 1.Rent Control create shortages S $1400 Monthly Rent $1000 $600 E Shortage D 1.6 2 Millions of Apartments .

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