demand and supply

1. Market economy
Unit 02 part 01

2. Prepared by;
RASHAIN PERERA
077 059 37 52
rashainperera@gmail.com

3. Consumer objectives and decisions

4. The underlying assumptions of
rational decision making
 Consumers aim to maximize utility
 Utility is the satisfaction derived from consumption of a
bundle of goods
 On the other hand producers try to maximize the
profits
 So as we can see both consumers and producer actions
are based on their self interests

5. Topics covered
 Market
 Demand
 Supply
 Elasticity
 Equilibrium
 Changes to equilibrium
 Natural changes
 Government intervention

6. What is a market?
 Any situation where buyers and sellers meet would be
known as a market in simple.
 Characteristics of a market;
 Existence of buyers
 Sellers
 Something of value to trade

7. Classify the market
 Commodity market
 Here consumers demand for goods and services for final
consumption purposes
 Has a direct demand
 Consumer’s purchase decisions are based on marginal utility
gained through the consumption of the product

8. Classify the market
 Factor market
 The market where factors of production are traded.
 These goods are mostly purchased by producers for
further production purposes
 Has an indirect demand
 Producers purchase decisions are based on the marginal
productivity of the factors.

9. Question 01
 What are the Differences between factor market and
commodity market? 4 marks

10. Needs, wants, purchasing power
and demand
Needs are the basic human
requirements
Wants are the different ways we
satisfy our needs
Purchasing power is the ability to buy,
availability of funds in hand to make a
purchase decision
Demand; the wants that are backed by
purchasing power.

11. Question 02
 Explain the inter-relationship among needs, wants,
demand and purchasing power? 4 marks

12. Demand

13. What is demand?
When other things remain constant
the quantities of goods or services
bought at a given price in a given
time period.
The products that are bought by
consumers differs according to the,
 Willingness
 Purchasing power

14. Types of demand
Effective demand- Consumers’ desire
to buy something is backed up by
willingness and ability to pay for it
could be simply known as effective
demand.
Latent demand-This exists when there
is willingness to purchase a good or
service, but where the consumers lack
the real purchasing power to be able to
afford the product.

15. What is individual demand?
This refers to the quantity of goods
a single individual will buy at certain
price levels

16. What factors affect individual
demand?
Price of the relevant good (Px)
Price of other goods. (Pn)
 Substitute goods- goods that can be used instead of another
good.
 Complementary goods- goods that are used together with
another.
Consumer tastes and fashions (T)
Future expectations (E)
Consumer income (Y)
Advertising and branding

17. Price of the relevant good
 When the price of the relevant good increase, the
quantity demand decreases as purchasing power
decrease.
 When the price of the relevant good decrease, the
quantity demand increase
 Therefore we can see a negative relationship

18. Price of substitutes
 When the prices of substitutes rise, the demand for our
product is higher and vice versa
 Therefore we can see a positive relationship between
the price of substitutes and the QD for our product.

19. Price of complements
 Complements are those goods which are used together
 If prices of complementary goods increase, the QD of
relevant good will decrease and vice versa
 Negative relationship

20. Consumer income level
 Higher the consumer income more the QD will be as
higher income levels increase the purchasing power and
vice versa
 Positive relationship

21. Consumer’s tastes
 When there is a higher preference to a particular good
the QD is higher
 Positive relationship

22. Consumer’s expectations on future
prices
 If consumers expect the future price to go up they will
demand more now so that they can use them in future
when the prices are higher.
 If consumers expect the future prices to go down they
will buy less now to gain the advantage of buying it at a
lower future price.

23. Advertising and branding
 Advertising and branding can influence the customers to
purchase goods and therefore higher the advertising
and branding activities higher the demand will be

24. Individual demand function
 QDx = f ( Px, Pn T, Y, E)

25. What is market demand?
Market demand is the total quantity
of goods and services which all the
consumers or customers will buy at
various price levels in a specific
market. In other words it is the
totality of all individual demands.

26. What factors affect market
demand?
Price of the relevant good (Px)
Price of other goods. (Pn)
 Substitute goods- goods that can be used instead of another
good.
 Complementary goods- goods that are used together with
another.
Consumer tastes and fashions(T)
Future expectations (E)
Consumer income (Y)
Advertising and branding
Number of buyers (N)

27. Market demand function
 QDx = f ( Px, Pn T, Y, E, N)

28. Market demand Vs Individual
demand
Market demand
my3
Ranil
Mahinda

29. Law of demand
At a certain time period under
“ceteris paribus” concept the
negative relationship between price
of the relevant good and the
quantity demanded of it could be
simply known as the law of demand.

30. Presentation of law of
demand
 Schedule method
 Graphical method
 Equation method
 QDx = a - bp

31. P QD
10
20
30
40
50
60
1000
900
800
700
600
500

32. Theoretical reasons for the
negative relationship
between price and demand
 Income effect
 Substitution effect
 Diminishing marginal utility

33. Income effect
 This states when income is held constant if a price of a
commodity increases the real purchasing power declines
and so does the demand.

34. Substitution effect
 This states that when price of the substitute good
remains constant decrease in the price of the good will
create a higher demand as people shift to our product
as they see our product as cheaper to that of the
substitute.

35. Things that are held constant
when explaining the substitution
effect
 Substitute’s price
 Taste
 Income

36. Diminishing marginal utility
theory
 This states that when a person consumes a certain
product more and more his or her extra utility which is
known as marginal utility declines after a certain point.

37. Number of
Ice
Creams
Consumed
Total
Utility
Marginal
utility
1
2
3
4
5
6
7
8
9
10
11
12
13
700
1400
2000
2550
2900
3000
3100
3150
3100
3000
2500
1500
100

38. Exceptions for the law of
demand
“Snob goods”- luxurious items where
satisfaction comes without knowing
the price.
“Giffen goods”- goods where QD
falls when price falls
“Speculative goods”
“High quality products” i.e when the
quality is judged by the price.

39. Changes in demand and changes
in quantity demand
If the amount that is willing to buy
is changed because of the change in
the price of the concerned good, it
is known as changes in quantity
demand.
If the amount that is willing to buy
is changed due to changes in other
factors except price it is known as
changes in demand.

40. Changes in quantity demand
 Extension of demand
Price
Quantity

41.  Reasons
 Decrease in price of the good when other things remain
constant
 Observation
 Downward movement along the demand curve

42. Changes in quantity demand
 Contraction of demand
Price
Quantity

43.  Reasons
 Increase in price of the good when other things remains
constant
 Observation
 Upwards movement along the demand curve

44. Changes in demand
 Increase of demand
Price
Quantity

45.  Reasons
 Change in other factors affecting demand other than the
price of the relevant good
 Increase in consumer income
 Increase in taste and fashion
 Increase in number of customers
 Increase in prices of substitutes
 Decrease in the prices of complements
 Observation
 Rightward shift of the demand curve

46. Changes in demand
 Decrease of demand
Price
Quantity

47.  Reasons
 Change in other factors affecting demand other than the
price of the relevant good
 Decrease in consumer income
 Decrease in taste and fashion
 Decrease in number of customers
 Decrease in prices of substitutes
 Increase in the prices of complements
 Observation
 Leftwards shift of the demand curve

48. Supply

49. What is supply?
When other things remain constant
the quantities of goods or services
suppliers are willing to sell at a
given price in a given time period
could be simply known as supply.

50. What is individual supply? Or
supply of a firm?
The quantities of a good, which a
single firm will supply at various
price levels, could be simply known
as individual supply

51. What factors affect individual
supply?
Price of the relevant good
Prices of other related goods
Prices of inputs/cost of production
Technology
Future expectations of suppliers
Government policies
Other factors

52. Prices of the relevant good
 When the price is high the suppliers are motivated to
sell more as it signals a higher level of revenue and
profits.
 Therefore when the Px is high the Supply will also be
high

53. Price of other goods
 Refer to the fact that the prices of substitutes and
complementary goods also affect the supply of a
product. For example if the price of wheat increases,
then farmers would tend to grow more wheat than rice.
This would decrease the supply of rice in the market.

54. Cost of inputs/cost of production
 An decrease in costs of production, this means business
can supply more at each price. Lower costs could be due
to lower wages, lower raw material costs

55. Technology
 Improvements in technology, e.g. computers, reducing
firms costs will increase the supply and vice versa

56. Future expectations of suppliers
 If the suppliers expect the future prices to go up, they
will supply less now and vice versa

57. Government policies
 Lower taxes reduce the cost of goods and therefore
supply increases
 Increase in government subsidies will also reduce cost
of goods and will increase the supply

58. Other factors
 Climatic conditions
 Geographic conditions
 Demographic conditions

59. Individual supply function
QSx= f(factors affecting a firm’s supply)

60. What is market supply?
The quantities of a good, which all
the firms will supply at various price
levels could be simply known as
market supply.
In other words it is the totality of
all individual supplies .

61. Market Supply
my3
Ranil
Mahinda

62. What factors affect market
supply?
Price of the relevant good
Prices of other related goods
Prices of inputs
Technology
Future expectations of suppliers
Government policies
Other factors
Number of suppliers in the market

63. Number of suppliers
 An increase in the number of producers will cause an
increase in supply

64. Market supply function
QSx= f(factors affecting market supply)

65. Theory of supply
The theory of supply explains the
relationship between supply of
goods and services and the changes
of factors affecting to the supply.

66. Law of supply
At a certain time period when other
things remain constant the positive
relationship between the price and the
quantity supplied of the relevant
good could be simply known as the
law of supply.

67. Presentation of law of supply
As a schedule
As a graph
As an equation
 QS=a+bp

68. As a schedule and a graph
Price Supply
1
2
3
4
5
10
20
30
40
50

69. Theoretical reasons for the law
of supply
 Increasing opportunity costs
 Increasing profit signals

70. Changes in supply and changes
in quantity supplied
If the amount that is willing to sell
is changed because of the change in
the price of the concerned good, it
is known as changes in quantity
supply.
If the amount that is willing to sell
is changed due to changes in other
factors except price it is known as
changes in supply.

71. Changes in quantity supply
 Extension of supply
Price
Quantity

72.  Reasons
 Increase in price of the good when other things remain
constant
 Observation
 Upward movement along the Supply curve

73. Changes in quantity supply
 Contraction of supply
Price
Quantity

74.  Reasons
 Decrease in price of the good when other things remains
constant
 Observation
 Downwards movement along the Supply curve

75. Changes in Supply
 Increase of Supply
Price
Quantity

76.  Reasons
 Change in other factors affecting Supply other than the
price of the relevant good
 Decrease in cost of inputs
 Decrease in the price of related goods
 Improved technology
 Favorable government policies
 Observation
 Rightward shift of the Supply curve

77. Changes in Supply
 Decrease of Supply
Price
Quantity

78.  Reasons
 Change in other factors affecting Supply other than the
price of the relevant good
 Increase in cost of inputs
 Increase in the price of related goods
 Outdated technology
 Unfavorable government policies
 Observation
 Leftward shift of the Supply curve