Demand and supply analysis

Demand

• 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.

• Demand is the desire or want backed up by money.

 Types of demand
1. Individual and Market Demand - Refers to the classification of demand of a product based on
the number of consumers in the market.

a) Individual demand can be defined as a quantity demanded by an individual for a product at a

particular price and within the specific period of time. For example, Mr. X demands 200 units
of a product at Rs. 50 per unit in a week.

b) Market demand is the aggregate of individual demands of all the consumers of a product
over a period of time at a specific price, while other factors are constant. For example, there
are four consumers of oil (having a certain price). These four consumers consume 30 liters, 40
liters, 50 liters, and 60 liters of oil respectively in a month. Thus, the market demand for oil is
180 liters in a month.
2. Organization and Industry Demand- Refers to the classification of demand on the basis of market.

a) Organization Demand- The demand for the products of an organization at given price over a point of
time is known as organization demand. For example, the demand for Toyota cars is organization
demand.
b) Industry Demand - The sum total of demand for products of all organizations in a particular industry
is known as industry demand. For example, the demand for cars of various brands, such as Toyota,
Maruti Suzuki, Tata, and Hyundai, in India constitutes the industry’ demand. 

3. Autonomous and Derived Demand - Refers to the classification of demand on the basis of
dependency on other products.
a) Autonomous Demand - The demand for a product that is not associated with the demand of other
products is known as autonomous or direct demand. For example, the demand for food, shelter,
clothes, and vehicles is autonomous as it arises due to biological, physical, and other personal needs
of consumers.
b) Derived Demand - It refers to the demand for a product that arises due to the demand for other
products. For example, the demand for petrol, diesel, and other lubricants depends on the demand of
vehicles. Moreover, the demand for substitutes and complementary goods is also derived demand.
4. Demand for Perishable and Durable Goods - Refers to the classification of demand on the basis of
usage of goods.
a) Perishable or Non-Durable Goods - Perishable or non-durable goods refer to the goods that have a
single use. For example, cement, coal, fuel, and eatables.

b) Durable Goods - It refer to goods that can be used repeatedly. For example, clothes, shoes, machines,
and buildings.

5. Short-Term and Long-Term Demand - Refers to the classification of demand on the basis of time period.
b) Short-Term Demand - Short-term demand refers to the demand for products that are used for a shorter
duration of time or for current period. This demand depends on the current tastes and preferences of
consumers. For example, demand for umbrellas, raincoats, sweaters, long boots is short term and
seasonal in nature.

c) Long-Term Demand - long-term demand refers to the demand for products over a longer period of time.
For Example: toiletries, Stationary Items, etc.
demand Function
• ”All the other things remaining constant, higher
the price of a commodity, smaller is the quantity
demanded and lower the price, larger the
quantity demanded. “

Dx= f (Px)

D= Quantity Demanded of the Commodity x

P= Price of the Commodity x

• There is an inverse relationship between Price

and Demand.
Assumptions
• Tastes and preferences of consumer is constant.

• No change in the income of the consumer.

• Prices of related goods and services do not change.

• No future expectation of price.

Determinants of demand
• Price of the commodity - The law of demand states that when prices rise, the
quantity of demand falls. That also means that when prices drop, demand will
grow. People base their purchasing decisions on price if all other things are
equal.

• Income of the Buyer - When income rises, so will the quantity demanded. When
income falls, so will demand. But if your income doubles, you won't always buy
twice as much of a particular good or service.

• Price of the related goods and services - The price of complementary goods or
services raises the cost of using the product you demand, so you'll want less. For
example- the demand for printers generates demand for the ink cartridges. The
opposite reaction occurs when the price of a substitute rises. When that
happens, people will want more of the good or service and less of its substitute.
For example- increase in demand of coffee may lead to decrease in demand of
tea.
• Tastes - When the public’s desires, emotions, or preferences change in favor of a product,
so does the quantity demanded. Likewise, when tastes go against it, that depresses the
amount demanded. Brand advertising tries to increase the desire for consumer goods.
For example, Buick spent millions to make you think its cars are not only for older people.

• Expectation of future –
a) Future price: consumers’ current demand will increase if they expect higher future
prices; their demand will decrease if they expect lower future prices.
b) Future income: consumers’ current demand will increase if they expect higher future
income; their demand will decrease if they expect lower future income.
• Population Size– At the Market Level, demand increases with increase in the
number of buyers of the commodity.

• Distribution of Income – Market demand is also influenced by the distribution

of income in the society. If redistribution of income increases inequality (rich
becoming richer, and poor becoming poorer), the demand for luxury goods is
expected rise. And fall in the poor people’s income will lead to shift them from
normal to inferior goods.
 Elasticity of demand

• Price elasticity of demand is defined as a measurement of percentage change in

quantity demanded in response to a given percentage change in own price of the
commodity.

• In the words of Dooley, “ The price elasticity of demand measures the responsiveness of
the quantity demanded to a change in its price.”
 Measurements of price elasticity of demand

• There are two important methods of measuring price elasticity of demand:

a) Proportionate or Percentage Method

b) Geometric Method
Percentage Method
It is the most common method for measuring price
elasticity of demand (Ed). This method was introduced by
Prof. Marshall. This method is also known as ‘Flux
Method’ or ‘Proportionate Method’ or ‘Mathematical
Method’.
According to this method, elasticity is measured as the
ratio of percentage change in the quantity demanded to
percentage change in the price.
Elasticity of Demand (Ed) = Percentage change in Quantity
demanded / Percentage change in Price
Where:
1. Percentage change in Quantity demanded = Change in
Quantity (∆Q)/Initial Quantity (Q) x 100
2. Change in Quantity (∆Q) = Q1 – Q
3. Percentage change in Price = Change in Price (∆P)/
Original Price (P) x 100
 4. Change in Price (∆P) = Pl – P
Example
Calculate price elasticity of demand if demand increases from 4 units to 5 units due to fall in
price from Rs. 10 to Rs. 8.
Solution:
Elasticity of demand in the given case will be:
Elasticity of demand (Ed) = Percentage change in Quantity demanded/ Percentage change in
Price
Percentage change in Quantity demanded = Change in Quantity (∆Q)/ Initial Quantity (Q) × 100
= (5-4)/4 × 100 = 25%
Percentage change in Price = Change in Price (∆P)/ Initial Quantity (P) × 100
= (8-10)/ 10 × 100 = -20%
Ed = 20%/-25% = -1.25 (or 1.25 as only numerical or absolute value is taken)
Geometric Method
• The Geometric method measures the
elasticity of demand at different points on
the demand curve and is also known as the
Point method of measuring the elasticity of
demand.
• Let us consider the figure given below, where
AB is a demand curve. C is the specific point
on the demand curve. It divides the demand
curve into two segments, upper segment CA
and lower segment CB. Elasticity of demand
at point C is the ratio between lower
segment and upper segment.
• ed= CB (lower segment from C) / CA (Upper
segment from C)
 Degree of price elasticity of demand-
Geometric method

1. Perfectly Elastic Demand

2. Elastic Demand

3. Unitary Elastic Demand

4. Inelastic Demand

5. Perfectly Inelastic Demand

Perfectly Elastic Demand
• A perfectly elastic demand curve is
represented by a straight horizontal line
and shows that the market demand for a
product is directly tied to the price. In fact,
the demand is infinite at a specific price.
Thus, a change in price would eliminate all
demand for the product.

• Demand is infinite.

• It is a situation in which slightest rise in

price causes the quantity demanded of the
commodity to fall to zero.
Elastic demand
• The quantity demanded will
change much more than the
price. As a result, the curve will
look lower and flatter than the
unit elastic curve, which is a
diagonal. The more elastic the
demand is, the flatter the
curve will be. E(p) > 1
• Example: Food items, Clothes ,
Wrist watches, Specs
Unitary elastic demand
• The demand for a
good is unitary elastic
if a change in the price
of that good causes an
equal change in
quantity demanded. In
other words, the
elasticity coefficient is
equal to 1. E(p) = 1
Inelastic Demand
• A situation in which the
demand for a product
does not increase or
decrease correspondingly
with a fall or rise in its
price. E(p) <1
• Examples: Petrol, Railway Fare,
Toothpaste, Telecommunication
Companies, electricity
Perfectly Inelastic Demand

• Perfectly inelastic demand means

that a consumer will buy a good or
service regardless of the movement of
price. In order for perfectly inelastic
demand to exist, there can be no
substitutes available. E(p) = 0
For example- Salt.
 Determinants of price elasticity of
demand
1. Nature of Commodity Commodities are classified as necessities, luxuries and comforts.

(i) A necessity that has no close substitute (salt, newspaper, polish etc.) will have an
inelastic demand because its consumptions cannot be postponed.

(ii) Demand of luxuries is relatively more elastic because consumption of luxuries (TV sets,
decoration items, etc.) can be dispensed with or postponed when their prices rise.

(iii) Comforts have more elastic demand than necessities and less elastic in comparison to
luxuries.
2. Range of Substitutes A commodity has elastic demand if there are close substitutes of
it. A small rise in the price of a commodity having close substitute will force the buyers to
reduce the consumption of the commodity in favor of substitutes. A lower price will
attract the buyers’ of the other substitutes to purchase the commodity. If no substitutes
are available, demand for goods tends to be inelastic. Demand for salt is highly inelastic
because it has no substitute.

3. Number of uses of a Commodity Larger the number of uses of a commodity, the

higher is its elasticity of demand. The demand in each single use of such commodities
may be inelastic, but the demand in all uses taken together is elastic. For example, gram
flour is used in Indians cuisines. If its price rises, it will not be used in less important uses
and the quantity demanded will fall appreciably.

4. Postponement of Use if the use or purchase of a commodity can be postponed for

some times, then the demand of such commodity will be elastic. For example, if cement,
bricks, wood and other building materials become costlier, people will postpone the
construction of houses. Therefore, price elasticity of building materials will be high.
5. Income of the Buyer If the buyer of the good are high-end consumer they will not bother
by a rise in its price. Accordingly, elasticity of demand is expected to be low. On the other
hand, if the income level of the buyer of a good is low, elasticity will be high.

6. Habit of Consumer If the consumer of the good is habitual to the good, the elasticity will
be low. For example- if the goods like cigarette and tobacco are highly taxed, there will be
no or less reduction in the quantity demanded.

7. Proportion of Income Spent on a Commodity Goods on which consumer spend a small

proportion of their income (toothpaste, newspaper, etc.) , will have an inelastic demand. On
the other hand, goods on which the consumer spend a large proportion of their income
(car, AC, etc.), tend to have elastic demand. Toaster< Mixie <AC < Gold Chain 15 Gm<Car<
House
8. Price Level Elasticity of Demand will be high at higher level of price of the commodity
and low at the lower level of the price.

9. Time Period In the short-run the demand is inelastic while in the long-run demand is
elastic. The reason is that in the long-run consumer can change their habits and
consumption pattern.
 supply
• Supply of the commodity refers to various quantities of the commodity that the
producers are willing to sell at different possible prices of the commodity at a point of
time.
• Supply Curve is a graphic representation of various quantities of the commodity that
the producers are willing to sell at different possible prices of the commodity at a point
of time.
Determinants of supply
1. Number of Sellers Greater the number of sellers, greater will be the quantity of a
product or service supplied in a market and vice versa.  For example, when more
firms enter an industry, the number of sellers increases thus increasing the supply.

2. Own Price of Commodity There is a direct relationship between own price of the
commodity and its quantity supplied. Generally, higher the price, higher the quantity
supplied, and vice versa.

3. Number of Firms in the Industry Increase in the number of firms in the industry
implies in market supply, and vice versa.
4. Goal of the Firm If the goal of a firm to MAXIMISE PROFIT, more quantity of the
commodity will be supplied at higher prices. On the other hand, if the goal of firm to
MAXIMISE SALES more will be supplied even at the same price.

5. Technology Improvement in technology enables more efficient production of goods

and services. Thus reducing the production costs and increasing the profits. As a result
supply is increased and supply curve is shifted rightwards. Since technology in general
rarely deteriorates, therefore it is needless to say that deterioration of technology
reduces supply.

6. Expectations of the Supplier In the situation of bullish expectation supply rises.

Just opposite happens when there is a bearish expectation.
7. Government Policy Taxes reduces profits, therefore increase in taxes reduce supply
whereas decrease in taxes increase supply. Subsidies reduce the burden of production
costs on suppliers, thus increasing the profits. Therefore increase in subsidies increase
supply and decrease in subsidies decrease supply.

8. Price of the Factors of Production Increase in resource prices increases the

production costs thus shrinking profits and vice versa. Since profit is a major incentive
for producers to supply goods and services, increase in profits increases the supply and
decrease in profits reduces the supply. In other words supply is indirectly proportional
to resource prices. Increase in resource prices reduces the supply and the supply curve
is shifted leftwards whereas decrease in resource prices increases the supply and the
supply curve is shifted rightwards.
Supply Function
• The law of supply is a fundamental
principle of economic theory
which states that, keeping other
factors constant, an increase in
price of commodity results in an
increase in quantity supplied.

• In other words, there is a direct

relationship between price and
quantity: quantities respond in the
same direction as price changes.
 Assumptions
• No change in Factor in Production.
• No change in Technology.
• No change in Goals of the Firm.
• No change in the price of related goods.
• There is no business expectations.
• No change in Government Policy
• No change in Number of firms in the industry.
 Price elasticity of supply
• The law of supply indicates the direction of change—if price goes up, supply will
increase. But how much supply will rise in response to an increase in price
cannot be known from the law of supply. To quantify such change we require the
concept of elasticity of supply that measures the extent of quantities supplied in
response to a change in price.

• Elasticity of supply measures the degree of responsiveness of quantity supplied

to a change in own price of the commodity. It is also defined as the percentage
change in quantity supplied divided by percentage change in price.

• Percentage Method of Measuring Elasticity of Supply

% Change in Quantity Supplied
% Change in Price
Degree of price elasticity of supply-
Geometric method

1. Perfectly Elastic Supply Es = Infinite

2. Elastic Supply Es > 1

3. Unitary Elastic Supply Es = 1

4. Inelastic Supply Es <1

5. Perfectly Inelastic Supply Es = 0

Elasticity supply (ES>1)
• Supply is said to be elastic when a given
percentage change in price leads to a larger
change in quantity supplied. Under this
situation, the numerical value of Es will be
greater than one but less than infinity. SS1
curve of Figure exhibits elastic supply. Here
quantity supplied changes by a larger
magnitude than does price. Change in S>
Change in P
Unit Elasticity of supply (ES = 1)
• If price and quantity supplied
change by the same magnitude,
then we have unit elasticity of
supply. Any straight line supply
Curve passing through the
origin, such as the one shown in
this figure has an elasticity of
supply equal to 1. This can be
verified in this way.
Proportionate Change in S =
Proportionate Change in P
Inelastic supply (ES< 1)
• Supply is said to be inelastic when a
given percentage change in price
causes a smaller change in quantity
supplied. Here the numerical value
of elasticity of supply is greater
than zero but less than one. This
graph depicts inelastic supply curve
where quantity supplied changes
by a smaller percentage than does
price. Change in the Qs < Change in
the P
Perfectly Inelastic Supply (ES = 0)
• Another extreme is the completely
or perfectly inelastic supply or zero
elasticity. This curve describes that
whatever the price of the
commodity, it may even be zero,
quantity supplied remains
unchanged at OQ. This sort of
supply curve is conceived when we
consider the supply curve of land
from the viewpoint of a country, or
the world as a whole. Change in QS
=0
 Determinants of price elasticity of supply
Specific Measurable Achievable Realistic Time bound
(i)Time period. Time is the most significant factor which affects the elasticity of supply. If
the price of a commodity rises and the producers have enough time to make adjustment in
the level of output, the elasticity of supply will be more elastic. If the time period is short
and the supply cannot be expanded after a price increase, the supply is relatively inelastic.
 
(ii) Ability to store output. The goods which can be safety stored have relatively elastic
supply over the goods which are perishable and do not have storage facilities.
 
(iii) Factor mobility. If the factors of production can be easily moved from one use to
another, it will affect elasticity of supply. The higher the mobility of factors, the greater is
the elasticity of supply of the good and vice versa.
 
(iv) Changes in marginal cost of production. If, with the expansion of output, marginal cost
increases and marginal return declines, the price elasticity of supply will be less elastic to
that extent. 100 Unit = Rs. 10000, 101 = Rs. 10085 MCP = 10085-10000 = Rs.101/
 
(v) Excess supply. When there is excess capacity and the producer can increase output
easily to take advantage of the rising prices, the supply is more elastic. In case the
production is already up to the maximum from the existing resources, the rising prices
will not affect supply in the short period. The supply will be more inelastic.
    
(vi) Availability of infrastructure facilities. If infrastructure facilities are available for
expanding output of a particular good in response to the rise in prices, the elasticity of
supply will be relatively more elastic. Serum Institute of India Pune = Covid 19 vaccine
100 crore = Rs. 1000/ per vial Intervention of Bill Gates = Rs. 225/ 70- 80% supplied to
WHO under their Int’l vaccine program Tetanus, Measles, MMR, Hep. B, A; DPT, DT, Polio
etc.
 
(vii) Agricultural or industrial products. In agriculture, time is required to increase
output in response to rise in prices of goods. The supply of agricultural goods is fairly
inelastic. As regards the supply of manufactured consumer goods, it is comparatively
easy to increase production in a short period.