This document provides an overview of demand, supply, and elasticity concepts. It defines key terms like market, demand, supply, equilibrium, price ceilings and floors. It explains the laws of demand and supply graphically and how shifts occur due to changes in determinants. It also defines different types of elasticity including price elasticity of demand and supply, income elasticity, and cross price elasticity. Formulas for computing elasticity coefficients are provided.

1. Demand, Supply
& Elasticity
Mahmood-ur-Rahman
Lecturer, BIBM

2. Outline
• Market
• Market Demand
• Market Supply
• Market Equilibrium
• Price Adjustment Process
• Shifts in Market Demand (increase,
decrease)
• Shifts in Market Supply (increase, decrease)
• Interaction of Market Forces

3. Markets
• In a market economy, the price of a good is
determined through the interaction between
demand and supply side forces
• Market is some institutional framework in
which price of a product as well as the quantity
which is going to be transacted are determined
through the interaction between demand and
supply , coming up from the buyers and the
sellers of the product

4. Markets
• Constituents of a market-
product
consumers/buyers-creating the demand side
force in the market
suppliers/sellers/manufacturers-generating
the supply side force in the market

5. Demand
• The desire to purchase a product (either a
commodity or service) at a given market
price to satisfy a need/want, backed up by
purchasing capacity as well as the willingness
to spend for that specific purpose

6. Demand
• Constituents of demand-
desire
financial capability
willingness to spend for that purpose

7. Law of Demand
• an inverse relationship exists between the price of
a good and the quantity demanded in a given time
period, ceteris paribus
• the higher the price the lower the quantity
demanded & vice versa
• Reasons:
– substitution effect
– income effect

8. Demand Schedule-a tabular presentation of
Law of Demand

9. Demand Curve- a graphical presentation of Law of
Demand

10. Determinants of Demand
• price of the product
• tastes and preferences
• prices of related goods and services (complements
& substitutes)
• income
• wealth
• number of consumers/population
• expectations of future prices and income
• currency depreciation/appreciation
• special influences

11. Change in Quantity Demanded vs. Change
in Demand (Shift)
Change in quantity demanded Change in demand

12. Shift Factors

13. Prices of Related Goods
• substitute goods – an increase in the price of
one results in an increase in the demand for
the other.
• complementary goods – an increase in the
price of one results in a decrease in the
demand for the other.

14. Change in the price of a substitute good
• Price of coffee rises:

15. Change in the price of a complementary
good
• Price of DVDs rises:

16. Income and Demand: normal goods
• A good is a normal good if an increase in income
results in an increase in the demand for the good

17. Income and Demand: inferior goods
• A good is an inferior good if an increase in
income results in a reduction in the demand
for the good

18. Market Demand Curve
• Market demand is the horizontal summation
of individual consumer demand curves

19. Supply
• The desire to supply/sell a product
(either a commodity or service) at a
given market price
• The is something different than Stock
• Constituents of supply-
Desire to sell
stock at disposal
willingness to sell at ongoing market
price

20. Law of Supply
• A positive relationship exists between the
price of a good and the quantity supplied in a
given time period, ceteris paribus.
Reasons for Law of Supply
• The law of supply is the result of the law of
increasing cost.
• As the quantity of a good produced rises, the
marginal opportunity cost rises.

21. Reasons for Law of Supply
• Sellers will only produce and sell an
additional unit of a good if the price rises
above the marginal opportunity cost of
producing the additional unit.
• To produce more, the producers require
hiring more factors of production at higher
prices (usually), which raises cost of
production if the factor supply is fixed
• So, the suppliers will only supply at higher
prices (usually)

22. The Law of Supply
• The law of supply holds that other things
equal, as the price of a good rises, its
quantity supplied will rise, and vice
versa.
• Reasons
–they seek higher profits
–they must cover higher marginal costs
of production

23. Supply Schedule

24. Supply Curve
The supply curve has a positive slope, consistent
with the law of supply.

25. Determinants of Supply
• price of the product
• price of resources
• technology and productivity
• expectations of producers
• number of producers/suppliers
• prices of related goods and services
(complements, substitutes)
• goverment policy (tax, subsidy)
• special influences

26. Change/Shift in Supply vs. Change in
Quantity Supplied
Change in supply Change in quantity supplied

27. Price of Resources
• As the price of a resource rises, profitability
declines, leading to a reduction in the quantity
supplied at any price.

28. Technological Improvements
• Technological improvements (and any changes that
raise the productivity of labor) lower production
costs and increase profitability.

29. Expectations and Supply
• An increase in the expected future price of a
good or service results in a reduction in
current supply.
Prices of Other Goods
• Firms produce and sell more than one
commodity.
• Firms respond to the relative profitability of
the different items that they sell

30. Prices of Other Goods
• The supply decision for a particular
good is affected not only by the good’s
own price but also by the prices of
other goods and services the firm may
produce

31. International Effects
• firms import raw materials (and often the
final product) from foreign countries, the
cost of these imports varies with the
exchange rate.
• appreciation/depreciation of currency
affects the supply

32. Market Supply Curve
• Market supply is the horizontal summation of
individual producer supply curves

33. Equilibrium
• In economics, an equilibrium is a
situation in which:
–there is no inherent tendency to
change,
–quantity demanded equals quantity
supplied, and
–the market just clears

34. Equilibrium, Surplus & Deficits
Equilibrium occurs at a price of $3 and a quantity
of 30 units

35. Shortages and Surpluses
• a shortage occurs when quantity
demanded exceeds quantity supplied
–a shortage implies the market price is
too low
• a surplus occurs when quantity supplied
exceeds quantity demanded
–a surplus implies the market price is
too high

36. Price Ceilings & Floors
• a price ceiling is a legal maximum that can be
charged for a good
– results in a shortage of a product
– common examples include sugarcane
price, apartment rentals in public sector
• a price floor is a legal minimum that can be
charged for a good
– results in a surplus of a product
– common examples include soybeans, milk,
minimum wage

37. Price Ceiling
a price ceiling is set at tk. 2 resulting in a shortage
of 20 units

38. Price Floor
a price floor is set at tk. 4 resulting in a surplus of
20 units

39. Shift in the Demand Curve
• A change in any variable other than price that
influences quantity demanded produces a shift in
the demand curve or a change in demand
• Factors that shift the demand curve include:
– Change in consumer incomes
– Population change
– Consumer preferences
– Prices of related goods:
• Substitutes: goods consumed in place of one
another
• Complements: goods consumed jointly

40. Shift in the Demand Curve
This demand curve has shifted to the right.
Quantity demanded is now higher at any given
price.

41. Equilibrium After a Demand Shift
The shift in the demand curve moves the
market equilibrium from point A to point B,
resulting in a higher price and higher quantity.

42. Shift in the Supply Curve
• A change in any variable other than price
that influences quantity supplied produces a
shift in the supply curve or a change in
supply.
• Factors that shift the supply curve include:
– Change in input costs
– Increase in technology
– Change in size of the industry
© OnlineTexts.com p. 42

43. Shift in the Supply Curve
For an given rental price, quantity supplied
is now lower than before.

44. Equilibrium After a Supply Shift
The shift in the supply curve moves the market
equilibrium from point A to point B, resulting in
a higher price and lower quantity.

45. Elasticity
• The percentage (%) change in dependent
variable (demand, supply) due to one percent
(1%) change in independent variable (price,
income).

46. Price Elasticity of Demand
Demand
P The percentage change in
the quantity demanded
A given. . .
. . . a one percent change
B in the price.
Q

47. Ranges of Elasticity
• Perfectly Inelastic Consumers are “completely
unresponsive” to price changes.
• Perfectly Elastic Consumers are “extremely
responsive” to price changes.
• Unit Elastic Response is “equal to” change in price.

48. Elasticity of Demand
Perfectly Inelastic
P2
Even if price
increases a lot
P1 quantity demanded
stays the same.

49. Elasticity of Demand
A small increase
in price will cause
demand to drop off
P1 completely.
Perfectly Elastic

50. Computing Elasticity Coefficient
Percentage Change in
Price Elasticity Quantity Demanded
=
of Demand Percentage Change
in Price
• Computed as the percentage change in
the quantity demanded divided by the
percentage change in price.

51. Computing Elasticity Coefficient
Demand for
Ice Cream E D
=
2.20
(8 - 10) / 10
2.00 ($2.20 - $2.00) / $2.00
8 10

52. Elasticity and Total Revenue
E > 1 then
D
P Q and TR

53. Elasticity and Total Revenue
E < 1 then
D
P Q and TR

54. Income Elasticity of Demand
• The percentage change in the quantity
demanded given a one percent change in
income.

55. Computing Income Elasticity
Percentage Change in
Income Elasticity Demand
=
of Demand Percentage Change
in Income
• Computed as the percentage change in demand
divided by the percentage change in Income.

56. Income Elasticity... Types
YD > 0 Normal Goods
YD < 0 Inferior Goods
YD = 0 Income-neutral Goods

57. Cross-Price Elasticity of Demand
• Cross-price elasticity of demand measures
percentage change in quantity demanded of
one good caused by a 1% change in price of
another good
• While all other influences on demand remain
unchanged
• While the sign of the cross-price elasticity
helps us distinguish substitutes (positive) and
complements (negative) among related goods
57

58. Cross-Price Elasticity of Demand
 Its size tells us how closely the two goods are
related
 A large absolute value for EXZ suggests that the
two goods are close substitutes or
complements
 While a small value suggests a weaker
relationship
58

59. Price Elasticity of Supply
Price
• The percentage change
in quantity supplied B
resulting from a one (1)
percent change in price. A
Quantity

60. Determinants of
Elasticity of Supply
• Flexibility or ability of sellers to change the
amount of the good they produce.
– land vs manufactured goods
– more elastic in the long run

61. Computing Elasticity Coefficient
Percentage Change in
Elasticity Quantity Supplied
=
of Supply Percentage Change
in Price
• Computed as the percentage change in the
quantity supplied divided by the percentage
change in price.