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Principles of Economics

III Demand and Supply


 Mrs. Mary Mayette A. Carandang
 LPU - Cavite

Demand and Supply


 In a market economy, the forces of demand and supply play a very significant role in the
determination of what goods to produce and at what prices they should be sold.
 This chapter shall analyze demand and supply first separately and alter on combined, in
an attempt to show how they work together.

The Market Mechanism


A market is a mechanism through with buyers and sellers interact in order to determine the price
and quantity of a good or a service.
 Price is the value of a good in terms of money in the market system, prices serve as
signals to both the producers and the consumers.
 If a consumer wants more of a good, this will cause the price of that good to increase.
Rising prices encourage producers to increase the supply of the good. High prices are
therefore a green light to producers since these normally mean rising profit margins.

Demand
Demand Schedule and Demand Curve
 The demand for a product is defined as the quantity that buyers are willing to buy.
 The demand schedule show the quantity of the product demanded by a consumer or an
aggregate of consumers at any given price.
 From our daily experience of buying and selling, we know that higher prices influence
people to buy less. Therefore, the demand function shows how the quantity demanded of
a particular good responds to price change.
 The demand schedule must specify the time period during which the quantities will be
bought (Table 4)

Table 4
Hypothetical Market Demand
Schedule for Good X per week
Figure 15
Hypothetical Market Demand Curve for One Week

 The normal demand curve slopes downward from left to right. Any point on the demand
curve reflects the quantity that will be bought at the given price.

The Law of Demand


After analyzing the above relationship, we can now state that as price increases, the quantity
demanded of the product decreases, but as price decreases, the quantity purchases will instead
increase.

Ceteris Paribus Assumption


 Let us now restate the Law of Demand by taking into account that there are factors other
than price which also influence the quantity of demand, namely; tastes and preferences,
income, expectation on future prices, prices of related goods like substitutes and
complements and the size of the population.
 Therefore, the functional relationship between price and quantity demanded is essential
since these non price factors are assumed as constant. The Law of Demand now states,
“Assuming other things constant, price and quantity demanded are inversely
proportional”

Changes in Demand and Shifts in the Demand Curve


 If the ceteris paribus assumption is dropped, then changes in the non-price factor shall
take place. This will result in a change in the position of slope of the demand curve and
change in the entire demand schedule.
 The increase of decrease in the entire demand is shown through a shift of the entire
demand curve and referred to as the change in demand. (Figure 16)
Table 5
Hypothetical Increase in Demand
Figure 17

Hypothetical Shift of the Demand Curve

Supply
The concept of supply shows the seller’s side of the market.

Supply Schedule and Supply Curve


 The supply of a product is defined as the quantity that sellers are willing to sell. The
supply schedule shows the quantities that are offered for sale at various prices.
 If the quantities offered are only of one seller, then it is an individual supply schedule.
The aggregate supply quantities of a group of sellers are presented as a market supply
schedule.
Table 6
Figure 18

 The supply curve contains the exact prices and in the supply schedule. In effect, it is the
graphical representation of the supply schedule.
 The supply curve is upward sloping from the left to right. It shows a direct relationship
between price and quantity supplied. Any point on the supply curve reflects the quantity
that will be supplied at that given price.
 After analyzing the above relationship we can now state that as price increases, the
quantity supplied of a product tends to increase and as price decreases, quantity supplied
instead decreases.

Change in Quantity Supplied and Movements Along the Supply Curve


 A movement along the supply curve is referred to as change in the quantity supplied

The Law of Supply


 As in the theory of demand, there are also nonprice determinants that influence supply.
These include cost of production, availability of economic resources, number of firms in
the market, technology applied, and producer’s goals.
 Under the ceteris paribus assumption, these factors are again assumed constant to enable
us to analyze the effect of a change in price on quantity supplied.
 The law of supply now states, “other things assumed as constant, price and quantity
supplied are directly proportional.”

Changes in Supply and Shifts of the Supply Curve


 Once again, let us drop the ceteris paribus assumption, which means changes in non-
price factors shall now take place.
 This will likewise result in a change in the position of slope of the supply curve and a
change in the entire supply schedule.
 Factors, like the use of improved technology, increase in the number of sellers in the
market, and decrease in the cost of production, may all cause an increase in the actual
supply.
Figure 19
Hypothetical Shift of the Market Supply Schedule for One week

Market Equilibrium
 Demand and supply should eventually be analyzed as one since the market operates
within the forces of both demand and supply.
 Combining the demand and supply curves will show the point of market equilibrium.
This equilibrium is attained at point where demand is equal to supply.
 There is only one point in the graph where demand is exactly equal to supply. This point
of equality is called the equilibrium point.

Figure 20
Hypothetical Marked Demand and Supply Curves for One week

 Surplus - situation wherein quantity supplied is more than quantity demanded.


 Shortage – the situation wherein quantity demanded is more than quantity supplied