Supply and Demand

Needs

Wants

MASLOWS HIERARCHY of NEEDS

SELF

ACTUALIZATION

ESTEEM NEEDS
BELONGING NEEDS SAFETY NEEDS PHYSIOLOGICAL NEEDS

Consumers Satisfy: Needs Wants Demand

Producers and Sellers

PROFITS

Supply

Preference: Low prices

MARKETS

Preference: High price

TERMS TO REMEMBER

1. Market a place where buyers and sellers interact and engage in exchange
2. Demand reflects the consumers desire for a commodity

3. Supply the amount of a commodity available for sale

4. Aggregate demand the totality of a group of consumers demand

5. Aggregate supply the totality of a group of producers supply

TERMS TO REMEMBER

6. Demand Schedule the quantities consumers are willing to buy of a good at various prices
7. Supply schedule the quantities producers are willing to offer for sale at various prices

8. Movement along the curve a change from one point to another on the the same curve
9. Shift of the curve a change in the entire curve caused by a change in the entire demand or supply schedule 10. Equilibrium condition of balance or equality

TERMS TO REMEMBER

11. Nonprice factors also known as parameters, are factors other than price that also affect demand or supply
12. Demand function shows how quantity demanded is dependent on its determinants 13. Supply functions shows how quantity supplied is dependent on its determinants

14. Price ceiling is minimum limit at which the price of a commodity is set

TERMS TO REMEMBER

15. Price floor a minimum limit beyond which the price of a commodity is not allowed to fall
16. Surplus an excess of supply over the demand for a good

The Law of Demand

Law of Demand: A principle that states that there is an inverse relationship between price of a good and the amount of it buyers are willing to purchase. An increase in costs - reduce the likelihood that it will be chosen Lower the price -stimulating consumption of it

THE LAW OF DEMAND

The Demand For Medical Care Derived from the Demand For Health
2 Reasons: DEMAND FOR HEALTH 1. It is a consumption commodity it makes the consumer feel better 2. It is an investment commodity state of health will determine the amount of time available to the consumer

Healthcare Good or Services

MD decides Which goods and Services the Patient needs; Ex. Drugs, Hospitalization, Surgery, laboratory procedure

Patients seeks Consultation with MD or Another health professional

Patient consumes And pays for The goods And services To improve health

Patient relies on MD for information

Exhibit 1: THE LAW OF DEMAND

As the Price of Paracetamol fell during the 19791986, consumers purchased more of them. The consumption level of Paracetamol (other products or services) is inversely related to their Price
1800 1600 1400 1200 1000 800 600 400 200 0 0 2 4 6 8 10 12 14 16

1979 1983

1986

Demand Schedule and Demand Curve

The demand schedule shows the quantity of the product demanded by a consumer or an aggregate of consumers at any given price The demand function shows how the quantity demanded of a particular goods responds to price change The demand schedule must specify the time period during which the quantities will be bought It can be seen from Tablet that at lower prices of X, people get attracted to buy more

PRICE of X

Quantity Demanded

P 45 40

100 150

35
30 25 20

200
250 300 350

Demand Schedule and Demand curve

The Demand curve is a graphical presentation of the demand schedule and therefore, contains the same prices and quantities presented in the demand schedule Plotting the data from the Table, we now arrive at the following figure The normal demand curve slopes downward from left to right. Any point on the demand curve reflect the quantity that will be bought at the given price Price
50 45 40 35 30 25 20 15 10

0 0 0

0
0 0

5
50 100 150 200 250 300 350 400

Quantity Demanded

THE DEMAND CURVE

@ The demand curve is a graphical representation of the demand schedule.
@ It is a downward sloping curve.

@ It shows the inverse relationship between the price and quantity of goods that consumers are willing to buy.

The Demand Curve

The demand curve, a Price downward sloping curve, shows the relationship between the price of a good P2 and the quantity demanded. P1 At the lower price (P1), quantity demanded is higher (Q2). At a higher price (P2), quantity demanded is lower (Q1).

Q1

Q2

Quantity

CETERIS PARIBUS ASSUMPTION Factors other the PRICE which also influence the quantity of Demand 1. Own price of the product 2. Tastes and preference

3. Income
4. Expectations on the future price 5. Prices of related goods like substitutes 6. Compliments and the size of the population

NOTE: Therefore, the functional relationship between PRICE and QUANTITY demanded is essential since non price factors are assumed as CONSTANT.

The Law of Demand now States:

Assuming other things constant, PRICE and QUANTITY demanded are INVERSELY PROPORTIONAL

1. Own Price of the Product

A higher own price of a product A lower own price of a product Decreases the demand Increase the demand

NOTE: There is an inverse relationship

between the price of the product and the quantity being demanded

2. Average Income
Differential 2

Income 2

Income 1
Differential 1

Product Price

Relationship of Income and Price. With the price of a theoretical product constant, more of such product will be bought with Income 2 which has a bigger Differential 2, compared to that of Income 1, with a smaller Differential 1

3. Population Size and Demographics

As the population increases, more people will use commodities. As more members of the population enter adulthood, the demand for specific products that are being used by this specific age group also increases.
Remember that an increase in population generally increase the demand for most products, and changes or shifts in population demographics will affect the demand for specific products.

4.

Prices of Related Goods

1. MRT fare decreases

Substitute products change and move in the opposite direction

Substitute Products
Are commodities that decrease the use of another product when more of these other products is used Relationship of Substitute Products Step 1: Price of MRT fares decrease. Step 2: Decrease of MRT fare results in increased demand for MRT Step 3: Increase in demand for MRT results in decrease in demand for aircon buses (substitute product)

MRT

AIRCON BUS

2. Increased Aircon buses Demand for MRT

2. Demand for decreases

4. Prices of Related Goods

Complementary products Are commodities that decrease the use of another product when less of the other complement is usedand vice versa Lower gasoline prices tend to increase the demand not only for gasoline but also for cars. Greater use of one leads to more use of the other and vice versa.

Complementary products change in the same direction

1. Price

Cars GAS

2. Decreased demand for gas

3. Decreased demand for cars

5. Taste of buyers
Influences buying decisions but is more difficult to assess Difficult to measure but very important factors in decisions of customers

Failure in determining buyers tastes may lead to disastrous mistakes in the choice of products to offer to consumers

6. Other Particular Factors

- climate and weather affect the demand for specific product

Example: Summer increases the demand for cough and cold preparations

The following changes in the non price factors may cause the corresponding shift in the Demand curve
Increase in Income Decrease in income Greater taste/preference Less taste/preference Increase in population Decrease in population Greater speculation Less speculation Shift Shift Shift Shift Shift Shift Shift Shift to to to to to to to to the the the the the the the the right left right left right left right left

The Demand shifts

Shift to the right indicates a Price positive (+) shift, or an increase in actual demand for a commodity Shift to the left indicates a negative(-) shift, or a decrease in the actual demand for a commodity. Movement along the curve are appreciated when only the prices of products are changed. There will be no actual shift.

Movement along the curve D Increase in demand

Decrease in demand (-)

(+)
Quantity

THE DEMAND SHIFT

Remember that
1. A shift to the left corresponds to an actual decrease in demand

2. A shift to the right corresponds to an actual increase in demand

3. There is a movement along the curve if only the prices of products are manipulated

The of Law of Supply

Supply is the amount of a commodity available for sale Aggregate supply the totally of a group of producers supply Supply schedule is the quantities of goods and services producers are willing to offer for sale at various prices

The Law of Supply

Law of Supply: A principle that states there will be a direct relationship between the price of a good and the amount of it offered for sale Higher prices will induce producers to supply a greater amount

TERMS

PROFIT: An excess of sales revenue relative to the cost of production. The cost component includes the opportunity cost of all resources, including those owned by the firm. LOSS: Deficit of sales revenue relative to the cost of production, once all the resources used have received their opportunity cost. Losses are a penalty imposed on those who use resources in lower, rather than higher, valued uses as judged by buyers in the market.

The supply curve

The supply curve is an upward sloping curve. Price It shows the relationship between a goods and the quantity that producers are willing to produce and sell At lower price (P1), the P1 quantity produced and sold is lower (Q1). P2 At higher price (P2), the quantity produced and sold is higher at (Q2).
Q1 Q2

Quantity

The Supply of Health Services

1. Expert advice from physician or other health personnel
2. Hospital/clinic facilities

3. Pharmaceuticals;
4. Medical technology

Substitution of Inputs
Type of Inputs
Obstetric Manpower for Normal spontaneous delivery

Traditional
Physicians

Substitutes
Trained Nurses

Examples
Kamuning Lying-in-clinic

Drugs Drugs

Branded Pharmaceuti cals

Generics Herbals

Generic Law
Flavier Herbal Drug program

Factors Determining Supply

1. Own Price of the Product

- a higher own price of a certain product gives better profits to the producers and sellers of the product - when producing and selling a certain product give businesses more profits, producers will produce and sell more

2. PRODUCTION COSTS
Relationship between product costs and different selling prices to make profit
Product XYZ

Selling Price 2

Profit 2

Selling Price 1

Profit 1

Product Cost

Higher prices lead to higher profits (profit 1 < profit 2). This gives producers incentive to produce more

3. Technology and Input Prices

The relationship between production costs changes because of changes in technology and input prices and its effect on profits A decrease in production costs (costs 1 > cost 2), brought about by improvements through technology and input prices gives better profits (profit 2 > profit 1) and thus incentives for producers to produce and sell more Product XYZ Selling Price Profit 1

Cost 1

Technology Input Prices

Profit 2

Cost 2

4. Price of Production Substitutes

ABC Company Limited 6Ms

X Low Price

Y High Price

Z Low Price

Effect of prices of production substitutes on a certain product. More of the higher-priced product is produced relative to the lower-priced products

5. Market organization

Types:
1. Monopoly is a market structure in which a commodity is supplied by a single firm

2. Oligopoly is a market state of imperfect competition, in which the industry is dominated by a small number of competitors, producing and selling the same products

TERMS

Perfect competition is the best for consumers

Characteristics

The number of sellers is numerous

The products offered by sellers are almost the same or indistinguishable

TERMS

Monopolistic competition is a market structure in between oligopoly and perfect competition wherein many sellers supply goods that are close, but not perfect substitutes

Different Market organizations and their effect on the quantity supplied and prices of products
Type of Market Organization
Monopoly

Description

Effect on Q Supply

Effect on Prices
Very high

Oligopoly *Cartel Perfect Competition

Single Low/very low Player/single product Few Low to high players/same product

High

Many players/same High product

Low/very low

6. Particular Factors
a. Cold weather
b. Government NOTE: These factors may be either increase or decrease the supply of these commodities

THE SUPPLY SHIFT

Price

P3 P2 P1

Decrease in supply Increase in supply Moving along the curve

Q1

Q2

Q3

Quantity

Remember that

1. A shift to the left corresponds to an actual decrease in supply

2. A shift to the right corresponds to an actual increase in supply 3. There is only a movement along the curve if only the prices of products are manipulated

Supply Schedule and Supply Curve

Price
45 40 35 30 25 20

Quantity supplied
180 150 120 90 60 30

The supply schedule shows the quantities that are offered for sale at various prices. If the quantities offered are only one seller, then it is an individual supply schedule. The aggregate supply quantities of group of sellers are presented as market supply schedule. From the above schedule, we can see that higher prices serve as incentives for the sellers to offer more X for sale. While low prices discourage them from offering more quantities to sell.

Supply Schedule and Supply Curve

60 50 40 30
The supply curve is upward sloping from 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 the given price After analyzing the above relationship we can now state that as price increases, the quantity supplied of the product tends to increase and as price decreases, quantity supplied instead decreases

20 10 0 0

30

50

60 90 120

100

150

180

200

210

250

Exhibit 3: The Supply Curve

As the price of a product increases, other things constant, producers will increase the amount of the product supplied

S P3 P2 P1

Q1 Q2

Q3

The Law of Supply Changes in Supply and Shifts of the Supply Curve

60 50 40 30 20
S1

10 0 0 50

S2

100

150

200

250

Changes in non price factors shall now take place. This will like wise result in a change in the position or slope of the supply curve and a change in the entire supply schedule. The increase or decrease in the entire supply is also shown through a shift of the entire supply curve. Factors, (determinants that influence supply), may all cause an increase in the actual supply This will be shown through a rightward shift of the supply curve from S1 to S2. At a price of P40, whereas quantity supplied used to be 150 packs, the new supply at that price is now 200 packs which is on a point on the new supply curve.

The Law of Supply Changes in Quantity Supplied and movements Along the Supply Curve

60 50 40 30 20 10 0 0 50 100 150 200 250

B

Consider the price of P 25 per packs. At the price, the sellers will offer for sale 60 packs of X. Should there be an increase in price to P30, quantity supplied will increase to 90 packs. This is reflected as a movement along the supply curve and is referred to as change in the quantity supplied. This is a change from point B to point C on the supply curve and is caused by a change in the price of the goods. There are also non price determinants that influence supply, includes cost of production, availability of economic resources, number of the firms in the market, technology applied, producers goals, these factors are again assumed constant to enable us to analyzed the effect of a change in price on quantity supplied.

The following changes in the non price factors may cause the corresponding shift in the demand curve
Increase in the number of sellers Decrease in the number of sellers Better technology Decrease in the cost of production Goals of the firm Shift to the right Shift to the left

Shift to the right Shift to the right It depends

Supply and Demand Interactions

1. Supply and Demand forces are not static
2. They interact dynamically 3. Factors other than price affect either supply or demand forces, the supply and demand curves shift either to the left or right 4. This causes either an increase (shift to the right) or a decrease (shift to the left) is supply or demand

Supply and Demand Interactions

At certain price (P), buyers are willing to buy a certain quantity (Q) of diapers Also at the same price suppliers are willing to produce and sell the same quantity of diapers This price and quantity is depicted by (E) equilibrium point
Price

P2

Surplus (supply exceeds demand) D S

(E) D = S Shortage (demand exceeds supply Q

Quantity

P3

Supply and Demand Interactions

The equilibrium point may have a number of technical definitions It is the point at which the Price supply curve intersects the demand curve P2 It is the point of perfection combination where supply is just equal to demand Equilibrium is the point at which the price (P) and Quantity P (Q) of the commodity that the buyers are willing to buy, is just equal to the price (P) and P3 quantity (Q) that producers are willing to produce and sell

Surplus Supply

Equilibrium

Excess Demand

Quantity

Supply and Demand Interactions

At a price higher (P2) than equilibrium price (P), more Price suppliers will be willing to produce and sell more, while buyers will buy less. This P2 brings about a surplus situation. There is pressure to decrease prices to entice consumers to buy P At a price lower (P3) than equilibrium price (P), more buyers will be willing to buy P3 more, less suppliers will be willing to produce and sell. This brings about the shortage of goods, and pressure to increase prices to entice producers to produce and sell more

Surplus Supply

E
Excess Demand

Quantity

Market Equilibrium
The E is attained at the point where demand is equal to supply This point of equality is the Equilibrium point. It is corresponds to a price P40, which is the E price At this price the Q supplied is also 150 packs The ideal situation is when all the Q that is offered will bought by the consumers, and all the demand will be met by the sellers Any price above or below P40 will be temporary because price will revert to the E level. Surplus Supply 45 40 35 80 Excess Demand 80 E

100

120

150

180

200

Market Equilibrium
Consider the price P45 This is a price above E price At this price the quantity demanded is only 100 packs while the seller will be attracted to offer a bigger quantity and this is 180 packs There is difference of 80 packs representing a surplus of goods if seller maintained their price at that level To disposed unsold goods, sellers have to lower their prices and price level will ultimately settle at E point
Surplus Supply
45 40 35 80

80 Excess Demand

100

120

150

180

200

Market Equilibrium
Analyze what happens at a price of P35, which is lower than E price. This low price will attract the buyers to demand for more, this quantity demanded corresponds to 200 packs The low price will discourage the sellers from offering more. Q supplied at the price of P35 is down to 120 packs The difference of 80 packs represents a shortage of the product To fully exploit demand, the consumers be willing to pay more and revert the price level at P40 where supply meets demands Surplus Supply 45 40 35 80 E

80 Excess Demand

100

120

150 180 200

Example: Supply and Demand

The table indicates the supply Price and demand conditions for healthcare services. When the price exceeds P10, an excess supply is present, which places downward 10 pressure on price. In contrast, when the price is less than P10, an excess demand results, which causes the price to rise. Thus, the market price will tend toward P10, at which point supply and demand will balance
Excess Supply S

Excess Demand

350 450 550 650 750

Quantity

Price of Product
13 12 11

Quantity Supplied 625 600 575

Quantity Demanded

Condition in the Market Excess Supply Excess Supply Excess Supply

Direction on Pressure on Price Downward Downward Downward

400 450 500

10
9 8

550
525 500

550
600 650

Balance
Excess Demand Excess Demand

Equilibrium
Upward Upward

475

700

Excess Demand

Upward

A hypothetical Shift in the Market Supply Curve with Demand Curve Kept Constant
The point E is subject to change shifts in either the demand curve Price alone, or supply curve alone, or both D and S curves at the same time can cause change in E in E point. Example: a rightward shift of the supply curve, with the original P3 demand curve maintained, will P2 result in a decrease in E price. In the graph, the original E price is at P3 per capsule. The rightward shift of the supply curve has caused the E price to drop P2 per capsule.

Excess Supply

S1 A B S2

D1

Q1 Quantity

Q2

Hypothetical Shift of the Market demand Curve with the Market Supply Curve Kept Constant
In the like manner, a shift of Price the demand curve with the original supply curve maintained will cause a change in the E point. In this graph, a rightward P4 shift of the demand curve, with the supply curve P3 maintained, has caused the E price to increase from P3 to P4 per capsule.

S1 B
Excess Demand (Q3-Q1)

D2 D1 Q1 Q2 Q3 Quantity

A hypothetical simultaneous shift in both the Demand and Supply Curves

In the graph, both the D and S curves show a rightward shift. Since the increase in D is proportionate to the increase in S, the E price is maintained at P3 per capsule. However, the new E point corresponds to a bigger quantity which is now Q5 capsule to a new E position over time as result of a shift of either the D curve or the S curve of a commodity.
Price S1 S2

P3

D2 D1

Q3

Q5

Quantity

THUMBNAIL SKETCH
These factors increase (decrease the Demand for a good: A rise (fall) in consumer income A rise (fall) in the price of a good used as a substitute A fall (rise) in the price of a complementary good often used with the original good A rise (fall) in the expected future price of the good These factors increase (decrease) the supply of a good: A fall (rise) in the price of a resource used in producing the good A technological change allowing cheaper production of the good Favorable weather (bad weather or a disruption in supply due to political factors, or war)

Repealing The Laws of Supply And Demand

Price Ceiling a legally established maximum price that sellers may charge Shortage a condition in which the amount of a good offered by sellers is less than the amount demanded by buyers at the existing price. An increase in price would eliminate the shortage. Price Floor a legally established minimum price that buyers must pay for good or resource Surplus a condition in which the amount of a good that sellers are willing to offer is greater than the amount that buyers will purchase at the existing price. A decline in price would eliminate the surplus.

Elasticity of Supply and Demand

Elasticity - the responsiveness of demand and supply to a change in its determinants Price Elasticity - the percentage change in quantity compared to a percentage change in price Income elasticity of Demand - percentage change in quantity demanded compared to percentage change in income Cross elasticity of Demand - percentage change in quantity demanded of one good compared to the percentage change in the price of a related good.

TERMS
Coefficient of elasticity absolute value of elasticity Total Revenue price multiplied by quantity Inferior goods goods which are bought when income levels are low, the demand for which tends to decrease when income increase. Normal goods goods for which demand tends to increase when income increase Substitute goods goods used in place of each other Complementary goods goods that supplement each other and are, therefore, used together

Elasticity of Demand
Demand Elasticity indicates the extent to which changes in price cause changes in the quantity demanded

Classification of Elasticity of Demand 1. Price elasticity of demand 2. Income Elasticity of Demand 3. Cross elasticity of Demand

The Concept of Elasticity in Pharmacoeconomics/Healthcare

OBJECTIVES 1. Sellers are naturally expected to hope for more demand for their product
2. Higher revenues 3. To make some decisions to improve demand for their product

Elasticity
Price Elasticity Of Demand is used to determine the responsiveness of demand to change in the price of the commodity Formula: EP = percentage change in quantity demanded percentage change in price

= QD2 - QD1/QD1 P2 - P1/P1

where EP QD2 QD1 P2 P1 = = = = = price elasticity of demand new quantity demanded original quantity demanded the new price the original price

Elasticity
Sample Problem
Original quantity demanded = 10,000 pcs antihypertensive drugs Original price = P5.00 per tablet New quantity demanded = 16,000 pcs of antihypertensive drugs New price = P4.00 per tablet Answer: 16,000 -10,000/10,000 4.00 -5.00/5.00

=3

Elasticity
Classification of price Elasticity of Demand 1. Elastic Is that type of demand where the quantity that will be bought is affected greatly by change in price. The change must be greater than elasticity coefficient of 1. 2. Inelastic This refers to the demand where a percentage change in price creates a lesser change in quantity demanded.Example: When 20% reduction in price caused only a 10% increase in demand. The elasticity coefficient in this type is less than 1. 3. Unitary Demand A change in price creates an equal change in quantity demanded. Example: When 20% price reduction resulted to 20% increase in demand. The elasticity under unitary demand is equal to the coefficient of 1.

Figure 1: Elastic Demand Is the type of demand where the quantity that will be bought is affected greatly by changes in price. The change must be greater than elasticity coefficient of 1. Original quantity demanded = 10,000 pcs of antihypertensive drugs Original price = P5.00 per tablet New quantity demanded = 16,000 pcs of antihypertensive drugs New price = P4.00 per tablet EP = 16,000 10,000/10,000 4.00 5.00/5.00 =3
7 6 5 4 3 2 1 0 0 5 10 15 20

QD1

QD2

Series1

Figure 2: Inelastic Demand This refers to the demand where a percentage change in price creates a lesser change in quantity demanded. Example: When a 20% reduction in price caused only a 10% increase in demanded. The elasticity coefficient in this type is less than 1

Original quantity demanded = 10,000 pcs of antihypertensicve drugs Original price = P5.00 per tablet New quantity demanded = 11,000 pcs of antihypertensive drugs New price = P4.00 EP = 11,000 10,000/10,000 4.00 5.00/5.00 = 0.5

7 6 5 4 3 2 1 0 0 5 10 15 20
QD1 QD2

Series1

Figure 3: Unitary Demand In this type of demand, a change in price creates an equal change in quantity demanded. Example: When 20% price reduction resulted to 20% increase in demand. Elasticity under unitary demand is equal to the coefficient of 1. Original quantity demanded = 10,000 bottles of syrups Original price = P5.00 per bottle New quantity demanded = 12,000 bottles of syrups New price = P4.00 per bottle
7 6 5 4 3

QD1 QD2
Series1

EP = 12,000 10,000/10,000 4.00 5.00/5.00 =1

2 1 0 0 5 10 15 20

Implications of Price Elasticity of Demand

@ when elasticity is known, it can guide the seller in making decisions about price

If the price elasticity of demand is greater than 1, the price should be lowered; if less than 1, the price should be increase

Elasticity
Income Elasticity of Demand

Income Elasticity of demand refers to the determination of the responsiveness of demand to change in consumer income
Formula:

EY = percentage change in quantity demanded percentage change in income = QD2 -QD1/QD1 Y2 -Y1/Y1
Where EY = income elasticity of demand Y2 = the new income Y1 = the original income Note: When elasticity is greater than 1, demand is said to be income elastic; less than 1 - inelastic; equal to 1 - unitary

Elasticity
Cross Elasticity of Demand
Cross elasticity of demand is the responsiveness of the quality demanded of a particular good to changes in the prices of another good Formula QA2 - QA1/QA1 PB2 - PB1/PB1 Where EC QA2 QA1 PB2 PB1 = = = = = cross elasticity of demanded new demand for product A original demand for product A new price of product B original price of product B

NOTE:
If cross elasticity is positive, the goods are SUBSTITUTES.
Example: if 2% increase in the price of paracetamol drug which causes a 0.66% increase in the demand for mefenamic acid

If cross elasticity is negative, the goods are COMPLIMENTS

Example: If hospitalization fee increases results to a decrease in the demand for health professionals, hospital personnel are complements

Elasticity
The following summarize the change in revenue under the two basis elasticity conditions
Price Increase Price Decrease

Elastic Inelastic

Decrease Increase

Increase Decrease

Income Elasticity Of Demanded

1. > 1 means demand is elastic and the good is superior 2. < 1 means demand is inelastic and the good is inferior 3. = 1 means demand is unitary and the good is normal

Elasticity
Determinants of demand Elasticity 1. The price of goods in relation to the consumers budget 2. The availability of substitutes 3. The type of Good 4. The time under consideration

Elasticity
Elasticity of Supply refers to the responsiveness of the sellers to a change in price Formula ES = percentage change in quantity supplied percentage rise in price = QS2 - QS1/QS1 P2 - P1/P1
Where: ES = price elasticity of supply QS2 = new quantity supplied QS1 = original quantity supplied P2 = new price

P1 = original price

Elasticity
Classification of supply Elasticity
1. Elastic Supply - is where the quantity supplied is affected greatly by changes in the price. The change is greater than the elasticity coefficient of 1. 2. Inelastic Supply - when the quantity supplied is not affected greatly by changes in the price, supply is said to be inelastic. The elasticity coefficient is less than 1 3. Unitary Elastic Supply - When the % change in the quantity supplied is equal to the percentage change in price. The elasticity coefficient is equal to 1.

Figure 4: Elastic Supply

Is where the quantity supplied is affected greatly by changes in the price. The change is greater than the elasticity coefficient of 1. New quantity supplied = 18,000 bottles Old quantity supplied = 10,000 bottles New price (P2) = P6.00/bottle Old price (P1) = P5.00/bottle
7 6 5 4 Series1 3 2
QS2 QS21

ES = 18,000 10,000/10,000 1 6.00 5.00/5.00 0 =4

0 5 10 15 20

Figure 5: Inelastic Supply When the quantity supplied is not affected greatly by changes in the price, supply is said inelastic. The elasticity coefficient is less than 1. New quantity supplied = 11,000 bottles Old quantity supplied = 10,000 bottles New price = P6.00/bottle Old price = P5.00/bottle
7 6 5 4 Series1 3 2 1 0 0 2 4 6 8 10 12
QS2

QS1

E = 11,000 10,000/10,000 6.00 5.00/5.00 = 0.5

Figure 6: Unitary Elastic Supply When the percentage change in the quantity supplied is equal to the percentage change in price. The elasticity coefficient is equal to 1. New supplied = 12,000 bottles 7 Old quantity supplied = 10,000 bottles 6 New price = P6.00/bottles 5 Old price = P5.00/bottles
4 3 2 1 0 0 2 4 6 8 10 12 14

QS2

QS1

E = 12,000 10,000/10,000 6.00 5.00/5.00 =1

Series1

Elasticity
Determinants of Supply Elasticity 1. The feasibility and cost of storage 2. The ability of producers to respond to price changes 3. Time

Elasticity
Elasticity is a measure of responsiveness. The most common elasticity measurement is that of price elasticity of demand. It measures how much consumers respond in their buying decisions to a change in price.

Elasticity
E = (percentage change in quantity) / (percentage change in price);
Where E = coefficient of elasticity

Read that as elasticity is the percentage change in quantity divided by the percentage change in price

Demand and Price Elasticity

An important characteristic of demand is the relationship among market price, quantity demand and consumer expenditure. Demand - a reduction in market price will usually lead to an increase in quantity demanded.

Demand and Price Elasticity

In some cases a reduction in price will be more than offset by a large increase in quantity demanded -- a situation where demand is price sensitive or price elastic.

Demand and Price Elasticity

In other cases, the reduction in price results in a proportionally smaller increase in quantity demanded-- a situation where demand is price insensitive or price inelastic.

Demand and Price Elasticity

Elastic demand (E>1)
relative change in revenue > relative change in price

Inelastic demand (E<1) relative change in revenue < relative change in price Unitary elasticity relative change in price & revenue are equal

Coefficient of Elasticity
Calculate the coefficient of elasticity if we reduce the price for Tolnaftate cream from $3 to $2.80 and this results in an increase in sales from 55 to 85 tubes. Q = (85-55)/85 x 100% = 35% P = (32.8)/3 x 100% = 6.7% E = Q/P = 35%/6.7% = 5 if E > 1 increase in revenue

Demand Curve and Elasticity

As a result of the different degrees of elasticity, there are different ways of presenting the Demand Curve
P P D2 Qd D1 is relatively elastic, a change in price leads to a significant change in Qd. P D4 D3 Qd D3 is perfectly elastic. At given price, Qd can change infinitely Qd D4 is perfectly inelastic. At any price, the Qd will remain the same. Qd is equal to zero Qd D2 is relatively inelastic, a change in price leads to a very slightly change in Qd.

D1

Price Elasticity of Supply

As a results of the varying degrees of elasticity of supply, the following supply curves are also possible:
P S1 P S2

Qs S1 is relatively elastic: A change in price results in a significant change in Qs.

Qs S2 is relatively inelastic: A change in price results in a slight change in QS. S4

S3

Qs S3 is perfectly elastic: At a given price, Qs may change infinitely

Qs S4 is perfectly inelastic: At any price, Qs remains constant or Qs = 0

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