Engineering Economics| ME 2001 | 3 Credits | 3 0 0 3

Lecture
4
Theory of demand and supply analysis
(Numerical Problems)

Engineering Economics-ME2001 1
 Problem No: 1

The demand and supply equations of a commodity are given as Xd =½ (5-P) and Xs =2P -3.

i. Find the equilibrium price and quantity?

ii. Find the new price and quantity if a tax of Rs. 6/5 per unit is imposed on the
commodity?
iii. Find the total tax revenue generated by the government?
iv. Find the price actually realized by the seller?

Engineering Economics-ME2001 2
 Solution
Given: Find the equilibrium quantity
Demand equation: Xd = ½ (5 - P) Demand equation: Xd = ½ (5 - P)
Supply equation: Xs = 2P - 3 Xd = ½ (5 – (11/5))
Xd = ½ (14/5)
i. Find the equilibrium price and quantity: Xd = 7/5 = Equilibrium quantity
At equilibrium, Xd = Xs
Therefore,
½ (5 - P) = 2P - 3
Now solve for P:
5 - P = 4P - 6
5 + 6 = 4P + P
11 = 5P
P = 11 / 5 = Equilibrium price (P)
Engineering Economics-ME2001 3
 Solution
ii. Find the new price and quantity if a tax of Find the equilibrium quantity
Rs. 6/5 per unit is imposed:
Xs' = 2P' – (27/5) (P'= 79/25 )
When a tax is imposed on the commodity, the
new supply equation becomes Xs' = 2*(79/25) – (27/5)

Xs' = 2{P‘- T} - 3 (where, T is the tax per unit) Xs' = (158/25) – (27/5)

Xs' = 2{P‘- (6/5)} - 3 Xs' = (23/25) = New equilibrium quantity

Xs' = 2P' – (12/5) – 3

Xs' = 2P' – (27/5) (New Supply Equation)
At equilibrium, Xd = Xs'
½ (5 - P') = 2P'– (27/5)
5 - P' = 4P'- (54/5)
3P'= 5 + (54/5)
P'= 79/25 = New equilibrium price
Engineering Economics-ME2001 4
 Solution
iii. Find the total tax revenue generated by the iv. Find the price actually realised by the seller:
government: Price realized by seller = New equilibrium price -
Tax revenue = Tax per unit*Quantity sold with tax Tax per unit
Tax revenue = (6/5) * Xs' Price realized by seller = 79/25 - 6/5
= (6/5) * (23/25) Price realized by seller = 49/25
Tax revenue = 138/125

Engineering Economics-ME2001 5
 Problem No: 2

Solve the following problem: The demand function is P=5-2X and the supply function is
P=½(X+5) respectively.
i. Find the equilibrium price and quantity?
ii. Find the new price and quantity if a subsidy of Rs. 5/2 per unit is granted on the
commodity?
iii. Find the total amount of subsidy granted by the government?

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 Solution
Given: ii. Find the new price and quantity if a subsidy
of Rs. 5/2 per unit is granted
Demand equation: P = 5 - 2X
When a subsidy is granted on the commodity, the
Supply equation: P = ½(X + 5) new demand equation becomes:
i. Find the equilibrium quantity: {P’ - S} = 5 – 2X’ (where S is the subsidy per unit)
At equilibrium, f(P) = g(P) {P’ - (5/2)} = 5 – 2X’ S=5/2
5 - 2X = ½(X + 5) (2P’- 5)/2 = 5 – 2X’
10 - 4X= X + 5 (2P’- 5) = 10 – 4X’
5X = 5 P’ = (15 – 4X’)/2
X = 1 = Equilibrium quantity At equilibrium,
Find the equilibrium price (15 – 4X’)/2 = ½(X’ + 5)
Demand equation: P = 5 - 2X 15 – 4X’ = X’ + 5
P = 5 – 2(1) 5X’ = 10
Equilibrium price = P = 3 X’ = 2 = Equilibrium quantity
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 Solution
Substitute the new equilibrium quantity back iii. Find the total amount of subsidy granted by the
into either the demand or supply equation to government?
find the new equilibrium price (P'). Total subsidy = New quantity demanded *
Let's use the supply equation: subsidy per unit
P’ = ½(X’ + 5) = 2 * (5/2)
P’ = ½ (2+5) Total subsidy = 5
P’ = 7/2

So, with the subsidy granted, the new price is

approximately 7/2 and the new quantity is 2.

Engineering Economics-ME2001 8
 Problem No: 3

i. Suppose the value of demand and supply curves of a Commodity-X is given by the
following two equations simultaneously:
Qd = 200 –10P; Qs = 50 + 15P
Find the equilibrium price and equilibrium quantity of commodity X.

ii. Suppose that the price of a factor inputs used in producing the commodity has
changed, resulting in the new supply curve given by the equation
Qs’ = 100 + 15P’
Analyze the new equilibrium price and new equilibrium quantity as against the original
equilibrium price and equilibrium quantity.

Engineering Economics-ME2001 9
 Solution
Given: ii. If the price of factor of production has
Demand equation: Qd = 200- 10P changed, then under the new conditions
Supply equation: Qs = 50 +15P Given;
New supply chain equation;
i. Find the equilibrium price and quantity: Qd = Qs’
Qd = Qs 200- 10P’ = 100 + 15P’
200- 10P = 50 +15P 25P’ = 100
150 = 25P Equilibrium Price P’ = 4
P = 6 = Equilibrium price
Q = 200 – (10)(4) = 160 units
Find the equilibrium quantity
Thus as the equilibrium price is decreasing the
Qd = 200- 10P equilibrium quantity is increased.
Qd = 200 – (10) (6) = 140 units

Engineering Economics-ME2001 1
 Problem No: 4

The demand function = 3Q +4P =24 and the supply function is P=¼Q+3 respectively.
i. Find the equilibrium price and quantity?
ii. Find the new price and quantity if a tax of Rs. 1/3 per unit is imposed on the
commodity?
iii. Find the total tax revenue generated by the government?
iv. Find the price actually realised by the seller?

Engineering Economics-ME2001 1
 Solution
Given: ii. Find the new price and quantity if a tax of Rs.
1/3 per unit is imposed:
Demand equation: Dx = 3Q + 4P = 24
When a tax is imposed on the commodity, the
4P = 24 – 3Q new supply equation becomes
P = 6 – (3/4)Q………..(1) {P’ – T} = ¼Q+3 (where, T is the tax per unit)
Supply equation: P = ¼Q+3 …………..(2) P’ – 1/3 = ¼Q+3
i. Find the equilibrium price and quantity: P’ = ¼Q + 10/3………..(3) (New Supply Equation)
At equilibrium, Dx = Sx At equilibrium,
6 – (3/4)Q = (1/4)Q +3 ¼Q + 10/3 = 6 – (3/4)Q (Eq3 = Eq1)
Q= 3 = quantity demanded Q'= 6 – (10/3) = 8/3
P = (1/4)Q +3
P = ¼ (3) +3 P’ = ¼Q + 10/3
P = ¾ +3 P’ = ¼ (8/3) + 10/3 = 8/12 + 10/3
P = 15 / 4 = Equilibrium price (P) P’ = 4
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 Solution
iii. Find the total tax revenue generated by the iv. Find the price actually realised by the seller:
government: Price realized by seller = New equilibrium price -
Tax revenue = Tax per unit*Quantity sold with tax Tax per unit
Tax revenue = (1/3) * Xs' Price realized by seller = 4- 1/3
= (1/3) * (8/3) Price realized by seller = 11/3
Tax revenue = 8/9

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