Production Possibility Curve (PPC) / Production Possibility Frontier (PPF) /Transformation Curve

Like an individual, a society as a whole, has limited resources. It has to decide what to produce with
The limited resources. It has to make a choice about the quantity of different commodities.
Choice emanates from scarcity. Thus our choice is always constrained or limited by scarcity of resources.
All such choices can be made with the help of PPC.

This curve separates outcomes that are possible for the society to produce from those which cannot
be produced subject to availability of resources.

In economics, PPC is a graph which shows the different combinations of two goods that an individual
Or group can effectively produce with limited productive resources.

Assumptions of PPC
• There are only 2 types of goods produced and minimum quantity of each good to be produced.
• Technology remains constant
• Resources are fixed
• Resources are neither unemployed or underemployed.
 The concept of PPC can be understood with the help of a Production Possibility Schedule and
Production possibility curve.
Y
A

I
15
Prodn wheat cloth Opportunity B
possibil Cost
ities C

I
12
A 0 15 - ABCDEF is the
Prodn Possibility Curve/PPF
B 1 14 15 -14=1

Cloth
9 D

I
C 2 12 14 -12=2
D 3 9 12 – 9=3
E 4 5 9 – 5=4 6

I
E
F 5 0 5 – 0=5
3
I F
O I I I I I X
1 2 3 4 5
Wheat
 Unemployment and PPC

When an economy operates on PPC, it means there is no unemployment

P or underemployment of resources and all resources are efficiently used.
B It means that all goods and services are produced with least cost.
S
C
A point inside the PPC (Point ‘R’) indicates that there is under or unemploy-
Cloth

ment / underutilization of resources and prodn can be increased.

D
R In this graph Point ‘R’ shows that resources are not being used fully.
Points ‘B’, ‘C’ and ‘D’ shows the resources are fully utilized.
Point ‘S’ shows the economy’s incapability to produce with the given
P Technology and resources.
Wheat
If there is a shift from a point inside PPC to any point on PPC, it indicates
That the resources which were under utilized are now being utilized fully.
 Economic growth and PPC
In this graph Growth of an economy is indicated by a right ward
P1 shift from PP to P1P1.

P This shift is due to improvement in technology, News ways of prodn

are found, Greater savings, investment and capital formation, when
Cloth

P2 skill and efficiency of human resources increases.

A shift towards left from PP to P2P2 as shown in this graph indicates

that
There is reduction in resources due to natural calamities or war,
There prevails unemployment to a large extent.
Underutilisation of resources.
P2 P P1
Wheat
PRINCIPLES OF ENGG ECONOMICS.
1.Develop the alternatives
2.Focus on the difference
3.Use a consistent view point
4.Use a common unit of measure
5.Consider all relevant criteria
6.Make uncertainty explicit
7.Revisiting decisions.
 BASIC CONCEPTS IN ECONOMICS

ECONOMY, TYPES OF ECONOMY, TYPES OF ECONOMIC MODELS,

ECONOMIC SYSTEMS; ITS TYPES,
COST, REVENUE, PROFIT, SUPERNORMAL PROFIT, NORMAL PROFIT,
MEANING OF SHORT RUN & LONG RUN, MARGINALISM, EQUILIBRIUM,
SCIENCE – Process of exploring new knowledge
TECHNOLOGY – Application of scientific principles in practical life
OR
Use of laws of science to create new products.
ENGINEERING – Application of technology
Establishes varied application systems based on
different scientific principles.
TECHNOLOGY REFERS TO RESULTS
ENGINEERING REFERS TO PROCESS
EFFICIENCY is defined as the ratio of its output and input
TECHNICAL EFFICIENTY – Ratio of output to input of a physical system
ECONOMIC EFFICIENCY – Ratio of output to input of a business system
EE=output/input X 100 = Worth/Cost X 100
 INTRODUCTION TO ENGG. ECONOMICS

Nature and scope of economics

Economics is an important branch of social science which deals with the behavior of human
Beings in relation to economic activities.

Derived from two Greek words “Okios” – Household

“Nomia” – Management

Hence economics can be understood as “Household Management” – Managing a household

with ltd resources available in an economical manner.

Later the scope of economics has been extended to Nation’s Management.

Economics is regarded as “Queen of Social Sciences” since it has more applicability in our
Practical life.
The science of economics was born in 1776 with the publication of Adam Smith’s
“An Enquiry into Nature and Causes of Wealth of Nations”

Adam Smith is known as “Father of Economics”.

Basic Premise of Economics

*Human wants are unlimited
*Means of satisfying these wants are scarce.
Definitions given by different economists
Adam Smith - Wealth Definition
Alfred Marshall - Welfare Definition
L Robbins - Scarcity Definition
P A Samuelson - Growth Oriented Definition
 Economics is divided into two main parts.

MICRO ECONOMICS MACRO ECONOMICS

which divides the which studies the
economy into small performance of an
Units and studies economy.
Individually. Macro Economics is
Micro economics is called as “Income Theory”
called as “Price as it deals with
Theory” as it deals determination of
with determination Income and employment.
of prices of commo-
dities and factors.
It solves 3 economic
problems.
1. What to Produce?
2. How to produce?
3. Whom to produce?
Economics is both Science as well as an Art.

It is a science as it tells us about the Cause and Effect

Relationships between variables.

It is an Art as it is used for practical application.

Economics is both a Positive Science as well as a Normative Science.

It is a Positive Science as it studies things as they are.

It is a Normative Science as it prescribes certain norms.

 CIRCULAR FLOW OF ECONOMIC ACTIVITY

An economy is an integrated system of production, exchange and consumption.

In carrying out these activities people buy and sell goods and services. Income generated in
the production process flows in a circular manner. It is called as “Circular Flow of Income”.

The modern economy uses various factors of production namely Land, Labour, Capital and
Enterpreneurship.
 Govt expenditures Govt expenditures
and transfer payments and subsidies
GOVERNMENT
Taxes Taxes

Factor Services
Factor Payments

BUSINESS
HOUSEHOLDS Savings investments FIRMS
CAPITAL
MARKET

Expenditure on Goods & Services

Flow of Goods & Services

Payment for Imports

FOREIGN
SECTOR Payment for Exports
 CIRCULAR FLOW OF INCOME IN TWO SECTOR ECONOMY

Factor Services
Factor Payments

BUSINESS
HOUSEHOLDS
FIRMS
*buy and consume
*produce and sell
goods and services
goods and services
*own and sell
*Hire and use factors
factors of
of production
production
Expenditure on Goods & Services
Flow of Goods & Services

Households spendings on goods and services through markets and revenue of goods sold will flow from markets
To business firms.
Households provide factors of production like land, labour & capital to business firms and inturn household get
Wages and profits.
ASSUMPTIONS
1. This economy has no international economic relations(Closed ECONOMY)

2. Production occurs only in business sector

3. Producers sell all that they produce, ie there is no inventory

4. Consumers spend their entire income and there is no savings.

5.There are no govt operations in the economy such as govt expenditures and taxes.
 Govt expenditures Govt expenditures
and transfer payments and subsidies
GOVERNMENT
Taxes Taxes

Factor Services
Factor Payments

BUSINESS
HOUSEHOLDS Savings investments FIRMS
CAPITAL
MARKET

Expenditure on Goods & Services

Flow of Goods & Services

CIRCULAR FLOW OF INCOME IN THREE SECTOR ECOCNOMY

This model shows the economic transactions between households, business firms and govt. sector.

1. A part of the flows between households and the business firms gets diverted to govt sector.
2. A part of the household income goes to govt sector in the form of taxes.
3. A part of the business firms’ earnings goes to govt in the form of taxes.
4. A part of the tax revenue is spent by the govt as govt expenditure on services and transfer
payments to the households
5. A part of the tax revenue is spent by govt as govt expenditure on goods and subsidies to the
business firms.

In case govt follows a deficit budget and govt expenditure is greater than revenue (G>T), the difference
Is financed from loans from the capital market. Hence money will flow from capital market to govt.

In case govt follows a surplus budget and the govt expenditure is less than the revenue (G<T), money
Will flow to capital market from govt sector.
 Govt expenditures Govt expenditures
and transfer payments and subsidies
GOVERNMENT
Taxes Taxes

Factor Services
Factor Payments

BUSINESS
HOUSEHOLDS Savings investments FIRMS
CAPITAL
MARKET

Expenditure on Goods & Services

Flow of Goods & Services

Payment for Imports

FOREIGN
SECTOR Payment for Exports

CIRCULAR FLOW OF INCOME IN A FOUR SECTOR ECONOMY

No economy in the world functions in isolation. It is linked with other economies through trade.
This brings us to the analysis of a four sector economy where besides the households, business
firms and the govt the fourth sector is the foreign sector.

Imports leads to a decrease in the circular flow of income.

Exports leads to increase in the circular flow of income.

If the exports of a country are less than its imports (X<M) there is foreign trade deficit equal to
(M-X) which is known as unfavourable balance of trade.

If the exports of a country are more than its imports (X>M) there is foreign trade surplus equal to
(X-M) which is known as favourable balancd of trade.
 Significance of Circular Flow of Income
1. Knowledge of Interdependence – we can understand interdependence between different sectors of the
economy.

2. Identification of Injections and Leakages – we can understand injections (Investment and Exports)
and leakages (saving and Imports)

3. Estimation of National Income - we can understand that how the circular flow of income facilitates the
estimation of national income.

4. Level of structure of Economic Activity – we can get information on various macro variables like national
Income, consumption, savings, investment, etc.

5. Fiscal and Monetary Policies-we can understand the importance of both Fiscal & Monetary Policies.
The importance of monetary policy can be observed when savings exceeds investment/investment exceeds
savings it means that the disequilibria can be set by suitable credit and monetary policy.
similarly, if savings and taxes amount exceeds the investment and govt spending amount should adopt such
fiscal measures as reduction in taxes. Therefore, with the help of circular flow of income and expenditure
the problem of disequilibria and the restoration of equilibrium can be observed.
 Introduction to engineering
economy
• The technological and social environments in which we live
continue to change at a rapid rate.
• In recent decades, advances in science and engineering have
transformed our transportation systems, revolutionized the
practice of medicine, and miniaturized electronic circuits so
that a computer can be placed on a semiconductor chip.
 The utilization of scientific and engineering knowledge for our
benefit is achieved through the design of things we use, such as
furnaces for vaporizing trash and structures for supporting
magnetic railways.
 However, these achievements don’t occur without a price,
monetary or otherwise. Therefore, the purpose of this COURSE
is to develop and illustrate the principles and methodology
required to answer the basic economic question of any design:
Do its benefits exceed its costs?
ENGINEERING
• is the profession in which a knowledge of the
mathematical and natural sciences gained by study,
experience, and practice is applied with judgment
to develop ways to utilize, economically, the
materials and forces of nature for the benefit of
mankind.
 ENGINEERING ECONOMICS

• Engineering economics involves the systematic evaluation of the economic merits

of proposed solutions to engineering problems. To be economically acceptable (i.e.,
affordable), solutions to engineering problems must demonstrate a positive balance
of long-term benefits over long-term costs, and they must also
• promote the well-being and survival of an organization
• embody creative and innovative technology and ideas
• permit identification and scrutiny of their estimated outcomes

 Engineering economy involves technical analysis, with emphasis on the economic

aspects, and has the objective of assisting decisions.
 This is true whether the decision maker is an engineer interactively analyzing
alternatives at a computer-aided design workstation or the Chief
Executive Officer (CEO) considering a new project.
 An engineer who is unprepared to excel at engineering economy is not
properly equipped for his or her job.
 The Principles of Engineering Economy
• The development, study, and application of any discipline must begin with a
basic foundation.
• We define the foundation for engineering economy to be a set of principles
that provide a comprehensive doctrine for developing the methodology.
• These principles will be mastered by students as they progress through this
course.

• Once a problem or need has been clearly defined, the foundation of the
discipline can be discussed in terms of seven principles.
PRINCIPLE 1: Develop the Alternatives

• Carefully define the problem! Then the choice

(decision) is among alternatives.
• The alternatives need to be identified and then defined for
subsequent analysis.
• A decision situation involves making a choice among two or
more alternatives.
• Developing and defining the alternatives for detailed evaluation is
important because of the resulting impact on the quality of the
decision.
• Engineers and managers should place a high priority on this
responsibility.
Creativity and innovation are essential to the process
 Defining Creativity and Innovation

Creativity is the act of turning new and imaginative ideas into reality. Creativity is

characterised by the ability to perceive the world in new ways, to find hidden

patterns, to make connections between seemingly unrelated phenomena, and to

generate solutions. Creativity involves two processes: thinking, then producing.

Innovation is the implementation of a new or significantly improved product,

service or process that creates value for business, government or society.

PRINCIPLE 2 :Focus on the Differences

• Only the differences in the future outcomes of the

alternatives are important.
• Outcomes that are common to all alternatives can be
disregarded in the comparison and decision.

• For example, if your feasible housing alternatives were two

residences with the same purchase (or rental) price, price
would be inconsequential to your final choice.
 PRINCIPLE 3: Use a Consistent Viewpoint

 The prospective outcomes of the alternatives, economic and

other should be consistently developed from a defined
viewpoint
 (perspective).

 The perspective of the decision maker, which is often that of the

owners of the firm, would normally be used.

 The viewpoint for the particular decision be first defined and then
used consistently in the description, analysis, and comparison of
the alternatives.
 Principle 4:Use a Common Unit of Measure

 For measuring the economic consequences, a monetary unit such

as Rupees is the common measure.

 You should also try to translate other outcomes (which do not

initially appear to be economic) into the monetary unit.

 Using more than one monetary unit for Economic Analysis will
complicate the over all analysis of a project.
 Principle 5: Consider All relevant Criteria

 The decision maker will normally select the alternative that will best
serve the long-term interests of the owners of the organization.

 In engineering economic analysis, the primary criterion relates to

the long-term financial interests of the owners.

 This is based on the assumption that available capital will be

allocated to provide maximum monetary return to the owners.

Often, though, there are other organizational objectives you would like
to achieve with your decision, and these should be considered and
given weight in the selection of an alternative
 PRINCIPLE 6: Make Risk and Uncertainty Explicit

Risk and uncertainty are inherent in estimating the future outcomes of the
alternatives and should be recognized.

 The analysis of the alternatives involves projecting or estimating the future

consequences Associated with each of them.

 The magnitude and the impact of future outcomes of any course of action are
uncertain.

the probability is high that today’s estimates of, for example, future cash receipts
and expenses will not be what eventually occurs.

Thus, dealing with uncertainty is an important aspect of engineering economic

analysis.
 PRINCIPLE 7: Revisit Your Decisions

A good decision-making process can result in a decision that has an

undesirable outcome.

 Other decisions, even though relatively successful, will have

results significantly different from the initial estimates of the
consequences.

• Learning from and adapting based on our experience are essential

and are indicators of a good organization.
 THEORY OF DEMAND
DEMAND refers to the quantity of a good or service that the consumers are willing and able
to purchase at various prices during a period of time.
DEMAND depends on the factors like
Desire + Ability to pay + Willingness to buy

Example: If an economically poor person wants to buy a car, it is only a desire, but
not a demand as he cannot pay for the car. If a rich man wants to buy a car and is
willing to spend money to buy it, it is a demand as he will be able to pay for the car. Thus
A desire backed up by purchasing power and willingness to buy is known as demand.
DEMAND SCHEDULE is a tabular representation which shows the relationship between Price and
Quantity demanded.
The two types of demand schedule are
Individual Demand Schedule MARKET DEMAND SCHEDULE

PRICE QTY PRICE QUANTITY DEMANDED BY TOTAL MARKET DEMAND

((Rs) DEMANDED (Rs) A B C
(KgS)
5 10 8 12 10+8+12=30
5 15
4 15 12 18 15+12+18=45
4 25
3 20 17 23 20+17+23=60
3 30
2 35 2 35 25 40 35+25+40=100

1 60 1 60 35 45 60+35+45=140
 DEMAND CURVE
A Demand Curve is a graphical representation of the demand schedule.
A Demand Curve always slopes downward from left to right and has a
negative slope as shown below.
Y

l
D
5

l
P
R 4 l
I
C 3
l

E
2
l

1
l

I I I I I X
O 15 25 30 35 60
QUANTITY DEMANDED
 DETERMINANTS OF DEMAND

PRICE OF COMMODITY
TASTES AND
PREFERENCES

DETERMINANTS
CONSUMERS INCOME
OF DEMAND

ADVERTISEMENT PRICE OF RELATED

EFFECT COMMODITIES
(Complementary
goods
and Substitute goods)
 DEMAND FUNCTION
The demand for any commodity mainly depends on the price of the commodity.
The other determinants are income of consumers, tastes and preferences, prices
of related commodities.

Symbolically Demand Function can be expressed as

Dx = f (Px, Ps, Y, T, A)

where Dx = demand for good X

Px = price of good X
Ps = price of related good
Y = Income of consumers
T = Tastes and preference of consumers
A = Advertisement effect
 LAW OF DEMAND
The law of demand explains the functional relationship between price of a commodity and quantity demanded.

The law of demand is under Cateris Paribus assumption, which means that only one variable is being changed
while other things being equal or unchanged.

The Law of Demand states that “if the price of a commodity falls, the quantity demanded of it will rise, and
if the price of the commodity rises, its quantity demanded will decrease”

This shows that there is an inverse relationship between price and quantity demanded. Here price is an
independent factor and demand is dependent factor.

Assumptions of the law: 1) No change in the consumers’ income

2) No change in consumers’ tastes and preferences
3) No changes in the prices of related goods.
4) consumers have perfect knowledge of the market
5) consumers are rational human beings.
 EXCEPTIONS TO LAW OF DEMAND
According to law of demand, there exists an inverse relationship between price of a commodity and its
Quantity demanded. However there are certain exceptions to this rule which are :

1. Giffen Goods Y
2. Conspicuous consumption (Veblen Effect)
3. Fear of shortage
4. Fear of future rise in price D
5. Speculation 25

I
PRICE (Rs.)
6. Emergency
20

I
7. Ignorance of consumers.
15

I
10

I
5 D

I
O I I
1 2
I
4
I
6
I
9
I
11
X
QUANTITY DEMANDED (in Kgs)
 MOVEMENT ALONG THE DEMAND CURVE

Y Y
D D
A B
8 8

PRICE
PRICE

2 A
2 B
D D
0 X O X
10 KGS 30 KGS 10 KGS 30 KGS

QUANTITY QUANTITY
DEMANDED DEMANDED
DIFFERENCE BETWEEN MOVEMENT ALONG THE DEMAND CURVE AND SHIFT OF THE DEMAND CURVE

BASIS OF DIFFERENCE MOVEMENT ALONG SHIFT OF THE DEMAND

THE DEMAND CURVE CURVE
Meaning Change in the quantity Change in demand
demanded because of because one or more
change in price; other factors influencing
factors remaining demand changes other
constant than price
Effect Expansion and Increase or decrease in
contration of demand demand
Demand curve Remains the same. Shifts to the right in
Downward movement case of increase in
indicates expansion and demand and to the left
upward movement in case of decrease in
indicates contraction demand.
 SHIFTS OF THE DEMAND CURVE
INCREASE in Demand Y DECREASE in Demand
Y D1
D
D D1

5 5

PRICE
PRICE

D1
D
D
D1

O X O X
10 KGS 30 KGS 10 KGS 30 KGS

QUANTITY QUANTITY
DEMANDED DEMANDED
Reasons
Reasons Fall in Income, fall in price of substitutes
Rise in Income, Rise in price of substitutes
Raise in the price of complement,
Fall in the price of complement,
Decrease in population
Increase in population
 ELASTICITY OF DEMAND
The Law of Demand simply explains the inverse relationship between Price and Demand. In other
words it tells us the direction of change in Price and Quantity demanded.

In order to understand the quantitative changes in Price and Demand, we need to study the
concept of Elasticity of Demand.

Elasticity is an index of reaction.

There are 3 types of Elasticity of Demand

1. Price Elasticity of Demand
2. Income Elasticity of Demand
3. Cross Elasticity of Demand

Price Elasticity of Demand

It is generally defined as the responsiveness of demand to a given change in price of a commodity.
Price Elasticity of Demand is a ratio of two pure numbers, the numerator is the percentage
in quantity demanded and the denominator is the percentage change in price of the commodity
 It is measured by using the following formula

Percentage change in quantity demanded

Ep =
Percentage change in price

For example, when quantity demand increase by 80% as a result of 20% fall in price, the Elasticity of Demand
will be
80
Ep = = -4
-20

It implies that at the present level with every change in price, there will be a change in demand four times
inversely.

Generally, the co-efficient of price elasticity of demand always holds a negative sign because there is
an inverse relationship between price and quantity demanded.
 THE FIVE DEGREES OF PRICE ELASTICITY OF DEMAND
Y Y Y
D
D
D
5%

PRICE

PRICE
PRICE

10%
D 5%

5% D
10% D
X 5% X
O QUANTITY
O O X
QUANTITY QUANTITY
DEMANDED DEMANDED
DEMANDED
THIS GRAPH IS SHOWING THIS GRAPH IS SHOWING THIS GRAPH IS SHOWING
THE CASE OF THE CASE OF THE CASE OF
RELATIVELY ELASTIC RELATIVELY INELASTIC UNITARY ELASTIC
Numerical co efficient is Numerical co efficient is Numerical co efficient is
Ep > 1 Ep < 1 Ep = 1
 Y
Y D

10

PRICE
D
PRICE

D
O X O X
QUANTITY QUANTITY
DEMANDED DEMANDED
THIS GRAPH IS SHOWING THIS GRAPH IS SHOWING
THE CASE OF THE CASE OF
PERFECTLY INELASTIC PERFECTLY ELASTIC
Numerical co efficient is
Numerical co efficient is
Ep = α
Ep = 0
 DETERMINANTS OF PRICE ELASTICITY

1. Nature of Commodity – luxurious goods are more elastic to changes in price while necessities like salt, food
etc are inelastic.
2. Number of uses of the commodity – goods which are put to many uses are more elastic.
eg. Steel
3. Tied demand – car and petrol, ink and pen( jointly demanded goods) have less elastic demand than
goods which have independently demanded.
4. Consumer habits – goods which are not used habitually used have elastic demand than goods which
are used habitually.
5. Position in consumers’ budget – goods which have a major portion in budget have more elastic demand.
eg. Clothing, provisions, etc.
goods which have a minor portion in budget have less elastic demand.
eg. Salt, sugar,
 Problems on price elasticity of demand using proportionate method
Price (Rs.) Quantity Price (Rs.) Quantity Price (Rs.) Quantity Price (Rs.) Quantity
demanded demanded demanded demanded
10 500 10 100 10 100 10 100
15 350 4 150 5 100 5 150

You are provided with the following information

Commodity Original Price New Price Original Demand New Demand
X 10 11 50 45
Y 2 1.2 10 18
Z 90 92 40 35
W 5 25 25 22

1. Find elasticity of demand for each commodity

2. Show that each commodity obeys law of demand
3. Which commodity has the greatest elasticity and which is the least?
 PROBLEMS ON PRICE ELASTICITY OF DEMAND USING TOTAL OUTLAY METHOD
Outlay means expenditure for customer and revenue for seller. In this method the elasticity of demand
Is calculated by taking into consideration the total outlay incurred on the purchase of commodity
Before and after change in the price level.
Formula = Price X Quantity purchased. This method was suggested by Prof. Marshall.
Problem 1
With the help of following data, adopting total outlay method, find the nature of Price Elasticity of Demand.
 Y
D5 D4
D3

Ey = 0
D1
INCOME

D2

O X
DEMAND FOR GOODS
INCOME ELASTICITY GREATER THAN ONE (Ey > 1) – if income increases say by 25% and demand
increases more than proportionate say by 45% (D2 is the demand curve in the graph) This situation
happens for luxury goods like TVs Fridge, etc.

INCOME ELASTICITY IS EQUAL TO ONE (Ey=1) – if income increases say by 30% and demand
increases by exactly say by 30% (D1 is the demand curve in the graph) this situation falls between
The categories of necessities and luxuries

INCOME ELASTICITY IS LESS THAN ONE (Ey < 1) – if income increases say by 30% and demand
Increases say by 10% (D3 is the demand curve in the graph) This situation happens for necessity goods

ZERO INCOME ELASTICITY (Ey = 0) – Any change in income will not have effect on demand for goods.
(D4 is the demand curve in the graph) This situation can happen for goods like salt, matchbox, etc.
(neutral goods)

INCOME ELASTICITY IS LESS THAN ZERO (Ey < 0)– if with an increase in income there is decrease
in demand.(D5 is the demand curve in the graph) This situation can happen for inferior goods
like ragi, jower, bajara, etc.
 PROBLEMS ON INCOME ELASTICITY OF DEMAND

INCOME QTY. INCOME QTY. INCOME QTY.

(Rs.) DEMANDED (Rs.) DEMANDED (Rs.) DEMANDED
400 25 kgs 2000 4 kgs 1000 500 kgs
500 40 kgs 2400 5 kgs 1100 550 kgs

INCOME QTY. INCOME QTY.

(Rs.) DEMANDED (Rs.) DEMANDED
1000 50 kgs 1000 20 kgs
1500 50 kgs 2000 30 kgs

When income of a consumer increases by 20%, the demand also increased by 20%.
Find out income elasticity of demand
 CLASSIFICATION OF WANTS / GOODS

COMFORTS LUXURIES
After satisfying our Means superfluous
NECESSITIES
necessities we desire to consumption. After
They refer to things
have comforts. getting comforts, man
without which we
Eg. Table and Chair for desires luxury. They are
cannot exist. Eg. Water,
a student to increase not essential. Eg. Gold
food, clothing.
the efficiency of & Silver, Costly
learning furniture
 CROSS ELASTICITY OF DEMAND
Cross Elasticity is defined as the proportionate change in the quantity demanded of a
particular commodity in response to a change in the price of another related
commodity.
Percentage change in quantity demanded of commodity X
Symbolically Exy =
Percentage change in the price of commodity Y

The types of cross elasticity of demand are Positive Cross Elasticity

Negative Cross Elasticity
Zero Cross Elasticity

When the goods are substitutes (say coffee and tea) the Cross Elasticity is Positive
When the goods are complementary (say Car and Petrol) the Cross Elasticity is Negative
When the goods are unrelated (say bath soaps and ceiling fans) the cross elasticity is Zero
 COMPLEMENTARY GOODS UNRELATED GOODS
SUBSTITUTE GOODS Y D
Y
Y
D D
Exy > 0 Exy < 0 Exy = 0
PRICE PRICE
PRICE OF OF
OF CAR ONIONS
COFFEE

D
D D
O O X O X
DEMAND FOR TEA
X DEMAND FOR PETROL DEMAND FOR MATCH BOX
Cross Elasticity in case of Cross Elasticity in case of
Cross Elasticity in case of Complementary goods Unrelated goods
Substitutes Is NEGATIVE Is ZERO
Is POSITIVE
 PROBLEMS ON CROSS ELASTICITY OF DEMAND

COMPLIMENTARY GOODS
BEFORE CHANGE AFTER CHANGE
GOODS
Price per Kg. Qty. demanded Price per Kg. Qty. demanded
Tea 150 40 150 30
Sugar 15 100 20 80

SUBSTITUTES
BEFORE CHANGE AFTER CHANGE
GOODS
Price per Kg. Qty. demanded Price per Kg. Qty. demanded
Tea 20 400 20 500
Coffee 30 500 40 300
•From the below table calculate the coefficient of cross elasticity
ORIGINAL CHANGED

COMMODITY PRICE QUANTITY PRICE QUANTITY

TEA 30 50 30 60

COFFEE 40 30 50 20

BREAD 20 80 20 90

BUTTER 75 80 60 40
FROM THE TABLE GIVEn BELOW CALCULATE
PRICE OF ‘A’ (RS.) QUANTITY QUANTITY INCOME OF
DEMANDED OF ‘A’ DEMANDED OF ‘B’ CONSUMER (Rs)
(Kgs) (Kgs.)
6 100 20 2000
6.5 90 30 1800
7 70 50 1600
7.5 40 70 1400
8 10 85 1200

1. Calculate price elasticity of demand for ‘A’, if the price of ‘A increases from Rs.7 to Rs.8 per kg.
and indicate whether the demand is elastic or inelastic.
2. Calculate income elasticity of demand for A and B when income of consumers increases from Rs.1400
to Rs. 1800. what type of products A and B?
 SECOND ASSIGNMENT
SUBMIT ON OR BEFORE 29TH MARCH 2019

1. DEFINE LAW OF SUPPLY? EXPLAIN ITS DETERMINANTS.

2. WHAT DO YOU UNDERSTAND BY EQUILIBRIUM PRICE.
3. EXPLAIN THE FIVE DEGREES OF SUPPLY
4. WHAT IS PRODUCTION FUNCTION. EXPLAIN LAW OF VARIABLE PROPORTION.
5. DIFFERENTIATE BETWEEN LAW OF VARIABLE PROPORTION AND LAWS OF RETURNS TO SCALE
6. EXPLAIN THE VARIOUS FACTORS OF PRODUCTION.
7. EXPLAIN TP, AP AND MP
8. WHAT IS AN ISOQUANT? WHAT ARE ITS PROPERTIES.
9. DISTINGUISH BETWEEN SUPPLY AND STOCK. EXPLAIN WHY SUPPLY AND PRICE HAVE A
POSITIVE RELATIONSHIP ACCORDING TO LAW OF SUPPLY.
 DEMAND CLASSIFICATIONS/DEMAND DISTINCTIONS

1. DIRECT DEMAND/AUTONOMOUS DEMAND AND INDIRECT DEMAND/DERIVED DEMAND

2. PRODUCERS’ GOODS AND CONSUMERS’ GOODS

3. DEMAND FOR DURABLE GOODS AND DEMAND FOR NON-DURABLE GOODS

4. INDUSTRY DEMAND AND COMPANY DEMAND

5. SHORT RUN DEMAND AND LONG RUN DEMAND

6. JOINT DEMAND AND COMPOSITE DEMAND

 POINT METHOD OF ELASTICITY
Y IN THIS GRAPH THE LENGTH OF DEMAND CURVE
A (E=α) HAS EQUAL PARTS AB, BC, CD, DE
*

B (E > 1
*

PRICE C (E=1)
*

D (E<1)
*

E (E=0)
0 * X
QUANTITY DEMANDED
 SL Ep* AT DIFFERENT POINTS ON THE DEMAND Ep = LOWER SEGMENT /UPPER PRICE
N CURVE AS SEEN IN THE GRAPH SEGMENT ELASTICITY
O.
1 Ep AT POINT ‘C’(EXACTLY AT THE MIDDLE CE/CA = 2/2 =1 Ep = 1
POINT OF THE DEMAND CURVE)
2 Ep AT POINT ‘D’ (MIDDLE POINT OF CE DE/DA = 1/3 = 0.33 Ep < 1
PORTION OF THE DEMAND CURVE)
3 Ep AT POINT ‘B’ (MIDDLE POINT OF AC BE/AB = 3/1 = 3 Ep > 1
PORTION OF THE DEMAND CURVE)
4 Ep AT POINT ‘E’ (BOTTOM OF DEMAND 0/AE = 0/4 = 0 (ZERO BY Ep = 0
CURVE) ANYTHING IS ZERO, A
MATHEMATICAL PRINCIPLE
5 Ep AT POINT ‘A’ (TOP OF THE DEMAND AE/0 = 4/0 = α (ANYTHING BY Ep = α
CURVE) ZERO BECOMES INFINITY, A
MATHEMATICAL PRINCIPLE)
*Ep is price elasticity
 LAW OF SUPPLY
Supply is the “quantity of a commodity which a seller offers for sale in the market at a particular price
And at a particular time”.
Supply is different from stock. Stock is the total quantity of goods which is stored in the warehouse.
Supply is only a part of the stock which is offered for sale.
FACTORS INFLUENCING SUPPLY:
1. Price of the commodity- if price increases, supply will also increase and if the price decreases
supply also decreases. This is because of profit motive by the sellers.
2. Prices of related goods – if prices of other goods increases they become relative more profitable
to produce and sell, than the goods in question. It implies that for example, if the price of wheat
increases the farmers may shift lands to wheat prodn. and go away from producing paddy.
3. Factors of prodn – if factors of prodn are very expensive, the cost of prodn may increase and may
affect the profitability. Hence the prices of factors of prodn plays an important role in the supply.
4. Technology – Inventions and innovations tend to make it possible to produce more or better goods
with same resources and tend to increase the qty supplied of some products and reduce the qty
supplied of goods that are displaced.
5. Govt policy – prodn of goods may be subject to imposition of taxes, excise duty, etc. these increases
the price of goods. Subsidies, on the other hand, reduce the cost of prodn and provide incentive
to the firm to increase supply.
The law of supply explains the functional relationship between price of a good and quantity supplies. It states
That “other things being equal (ceteris paribus), the quantity of a good produced and offered for sale will
increase as the price of the good rises and decreases when the price falls”. The law of supply can be
understood with the help of a supply schedule and a supply curve

Y GRAPH SHOWING SUPPLY CURVE

SUPPLY SCHEDULE

PRICE (Rs.) QTY. SUPPLIED

S
100 200 KGS.
500

PRICE
200 400 KGS.
300 600 KGS 400
400 800 KGS. 300

500 1000 KGS. 200

100
S
O I I I I I I I
X
200 400 600 800 1000
QUANTITY SUPPLIED
 MOVEMENT ALONG THE SUPPLY CURVE AND SHIFT OF THE SUPPLY CURVE

EXTENSION OF SUPPLY CONTRACTION OF SUPPLY

Y
Y
S S

P2 P2
PRICE

PRICE
P1 P1
S S
O X X
Q1 Q2 O Q1 Q2
QUANTITY SUPPLIED QUANTITY SUPPLIED
 INCREASE IN SUPPLY DECREASE IN SUPPLY
Y Y
S
S1 S1
S
PRICE

S S1
S1 S
O X O X
QUANTITY SUPPLIED QUANTITY SUPPLIED
REASONS
REASONS
1. Rise in the cost of prodn
1. Fall in the cost of prodn.
2. Unfavorable changes in govt policy
2. Favourable changes in govt policy
3. Obsolete techniques of prodn.
3. Improved techniques of prodn.
DIFFERENCE BETWEEN MOVEMENT ALONG THE SUPPLY CURVE AND SHIFT OF THE SUPPLY CURVE

BASIS OF DIFFERENCE MOVEMENT ALONG SHIFT OF THE CURVE

THE SUPPLY CURVE
Meaning Change in the quantity Change in demand
demanded because of because one or more
change in price; other factors influencing
factors remaining demand changes other
constant than price
Effect Expansion and Increase or decrease in
contration of supply demand
Supply curve Supply curve remains Supply curve shifts
the same. either to the right or to
the left.
 TYPES/DEGREES OF SUPPLY ELASTICITY
Y Y
Y
S S
S

PRICE
PRICE

PRICE
2% 5%
S
5%
5%
S
O 5% X O
S
2% X
QUANTITY SUPPLIED
X O QUANTITY SUPPLIED
QUANTITY SUPPLIED

THIS GRAPH IS THE CASE OF THIS GRAPH IS THE CASE OF THIS GRAPH IS THE CASE OF
RELATIVELY ELASTIC RELATIVELY INELASTIC UNITARY ELASTIC
SUPPLY Es > 1 SUPPLY Es < 1 SUPPLY Es = 1
 ELASTICITY OF SUPPLY
It is parallel concept to elasticity of demand. It refers to the sensitiveness or responsiveness of
The supply to a given change in price. It short, it measures the degree of adjustability of supply
to a given change in price. Symbolically,

Percentage change in supply

Es = Percentage change in Price
 Y Y
S

PRICE
S
PRICE

6 S

3
S
O X O X
QUANTITY SUPPLIED QUANTITY SUPPLIED

THIS GRAPH IS THE CASE OF THIS GRAPH IS THE CASE OF

PERFECTLY INELASTIC PERFECTLY ELASTIC
SUPPLY Es = 0 SUPPLY Es = α
 PROBLEMS ON SUPPLY ELASTICITY

Price (Rs.) Quantity Price (Rs.) Quantity

supplied supplied
(Kgs) (Kgs)
10 500 10 50
15 800 15 75
 EQUILIBRIUM PRICE
A point at which Demand equals Supply is called Equilibrium Price. At equilibrium situation there is
no impact on price. When a demand and supply quantities are drafted on graph, the point
where both curves meet is called Equilibrium Price or Market Clearing Price. This concept can be
understood with the help of a table and graph
Y
Possib Total Total Pressure on price
le S
Demand Supply D
Price (Kgs.) (Kgs.)
(Rs.)
E EQUILIBRIUM

PRICE
10 1000 10000 downward
8 3000 8000 downward POINT

6 4000 6000 downward

5 5000 5000 Neutral S D
(Equilibrium price)
4 7000 4000 Upward
O X
3 10000 2000 Upward QUANTITY DEMANDED AND SUPPLIED