Micro Chapter 2

PRINCIPLES OF ECONOMICS Third Edition All Rights Reserved
© Oxford Fajar Sdn. Bhd. (008974-T), 2013 2– 1

CHAPTER 2
DEMAND AND SUPPLY

DEFINITION OF DEMAND
Demand is defined as the ability

and willingness
to buy specific quantities of goods
in a given period of time
at a particular price, ceteris

paribus.

CLASSIFICATION OF GOODS
AND SERVICES
 Free goods are goods that have no production

cost.
 Public goods are goods that are for common
use and will benefit everyone.
 Economic goods are goods of value that can
be seen and touched. Economic services are
intangible things (with value) that cannot be
seen or touched.

LAW OF DEMAND
Law of demand states that the higher the price

of a good, the lower is the quantity demanded
for that good and the lower the price, the higher
is the quantity demanded, ceteris paribus.
P  Qdd  P  Qdd 
NEGATIVE RELATIONSHIP inverse

DEMAND SCHEDULE AND
CURVE
Demand Schedule Price Demand Curve

(RM)
6
Price Quantity
5
5 2
4
4 4
3
3 6 DD
2
2 8
1 10 1
0 Quantity
(units)
2 4 6 8 10
downsloping

MARKET DEMAND
INDIVIDUAL The relationship between the

DEMAND total quantity
of a good demanded by adding
The relationship all the quantities demanded by
between the quantity all consumers in the market
of a good demanded by and its price.
a single individual
and its price.

Consumers’ Tastes and
income trends
Price of
related goods Population or
number of
buyers
Supply of DETERMINANTS
money in OF DEMAND Expectation
circulation about future
prices
Festive
Level of taxation seasons and Advertisement
climate
CHANGES IN QUANTITY DEMANDED
VS. CHANGES IN DEMAND
CHANGES IN QUANTITY DEMANDED CHANGES IN DEMAND
Price Price
D1
DD D0
Quantity
Quantity
 Movement along DD curve
 Price changes and other factors are  Shift in the demand curve
constant  Occurs when there are changes in
 Upward movement  Decrease in other factors but price remains
quantity demanded (Contraction) constant
 Downward movement  Increase in  Increase in Demand (D0  D1)
quantity demanded (Expansion)  Decrease in Demand (D1  D0)

Tastes and trends

changes in price of related goods
Substitute Vs Complementary
goods
Substitute Goods Complementary goods
Can be replaced with other Needed to be used together

goods
Ex : printer and ink cartridge

Ex : coffee and tea car and petrol
coke and pepsi

( Substitute goods )

( complementary goods )
Question :
1. If price of car
increases, what
happen to the Qd for
tire?
2. If price of car
decreases, what
happen to the Qd for
tire?

Consumers’
income

Population or number of
buyers
Consumers
leaving the
market
(decrease in
population)

Expectation of future price

Government influence
Give bonus income increase
Qd will increase
Reduce tax income increase
Qd will increase

Availability of Credit Facilities

EXCEPTIONAL DEMAND
Exceptional Demand is the opposite of the Law of Demand

where as price increases, demand will also increase and vice versa.
GIFFEN GOODS
SPECULATION
EMERGENCIES
STATUS SYMBOL GOODS
HIGHLY-PRICED GOODS

DEFINITION OF SUPPLY
Supply is defined as the ability and

willingness to sell or produce a
particular product and services in a
given period of time at a particular
price, ceteris paribus.

LAW OF SUPPLY
Law of supply states that the higher the price

of a good, the greater is the quantity supplied
for that good and the lower the price of a good,
the lower is the quantity supplied, ceteris paribus.
P  Qss  P  Qss 
POSITIVE RELATIONSHIP

SUPPLY SCHEDULE AND
CURVE
Supply Schedule Supply Curve
Price Quantity 12
5 10 10
4 8 8
3 6 6
Supply
2 4 4
1 2 2
0
1 2 3 4 5

INDIVIDUAL AND MARKET
SUPPLY
INDIVIDUAL MARKET
SUPPLY SUPPLY
The relationship The relationship
between the between the total
quantity of a quantity of a product
supplied by adding
product supplied
all the quantities
by a single seller supplied by all
and its price. sellers in the market
and its price.
Proportion of the
Cost of production
expenditure on a Expected
Price of related product
goods future price
Improvement in Technological
DETERMINANTS
infrastructure OF SUPPLY
advancement
Government Number of
Policies sellers

CHANGE IN QUANTITY SUPPLIED
VS. CHANGE IN SUPPLY
CHANGE IN QUANTITY SUPPLIED CHANGE IN SUPPLY

Price Price
s0
SS s1
Quantity Quantity
 Movement along supply curve  Shift in the supply curve

 Price changes and other factors are  Occurs when there are changes in
constant other factors but the price remains
constant
 Downward movement  Decrease in
quantity supplied (Contraction)  Increase in Supply (S0  S1)
 Upward movement  Increase in  Decrease in Supply (S1  S0)
quantity supplied (Expansion)
EXCEPTIONAL SUPPLY
Exceptional Supply is the opposite of the Law of
Supply where as price increases, the quantity supplied
decreases and vice versa
Wage Rate
20 Income Effect
(Exceptional Supply
Curve)
15
10
Substitution Effect
Labour
0 1 2 3 4 5 6
INTERRELATED SUPPLY
JOINT SUPPLY
Increase in the supply of one good

brings to an increase in the supply
of another related goods.

INTER-RELATED DEMAND
CROSS DEMAND
1. The demand for a good is also

affected by the price of
its substitute or complementary
goods.
2. Types of Cross demand :
(i) Joint demand
(ii) competitive demand.

CROSS DEMAND: JOINT DEMAND
VS. COMPETITIVE DEMAND
Cross Demand
Price of pizza Price of pizza
DD
P2
P2
P1 P1
DD
Q2 Q1 Quantity of soft drinks Q1 Q2 Quantity of

spaghetti
a) Joint Demand b) Competitive Demand
Negative relationship exists Positive relationship exists
between complement goods between substitute goods

INTER-RELATED DEMAND
DERIVED DEMAND
Derived demand is the

demand for a good
which is derived from
other goods.

DERIVED DEMAND
Derived Demand
Price (RM) Wage rate (RM per hour)
S0 S0
P1 WR1
P0
WR0 D1
D1
D0
D0
Q0 Q1 Quantity of
houses Q0 Q1 Quantity of
workers
Demand and supply for houses Demand and supply for carpenters

INTERRELATED DEMAND
COMPOSITE DEMAND
Composite demand is
demand for a good that has
multiple uses
For example: oil can be used
for petrol, kerosene and
diesel

COMPOSITE DEMAND
Price Price S1
S0
S0
P1
P1
P0 P0
D1
D0 D0
Q0 Q1 Quantity of petrol Q1 Q0 Quantity of

diesel
Demand and supply for petrol Demand and supply for diesel

PRICE ELASTICITY OF DEMAND
DEFINITION:
Measures the sensitivity/responsiveness

of the quantity demanded
due to a change in its price.

PRICE ELASTICITY OF
DEMAND (cont.)
FORMULA:
d = %  Quantity Demanded
%  Price
d = Q2 – Q1 x P1
Q1 P2 – P1

DEGREE OF ELASTICITY
Elastic Demand d > 1

Perfectly Elastic d = 
A small percentage of change in the price of a
good will lead to larger percentage of change Demand
in quantity demanded. A condition in which a small
percentage of change in price leads to
an infinite percentage of change in the
Inelastic Demand d < 1 quantity demanded.
A large percentage of change in the price of a
good will only affect a small percentage of
change in the quantity demanded.
Unitary Elastic d = 1
Perfectly Inelastic  =0 Demand
d A condition in which percentage
Demand changes in price equals to
A condition in which the quantity percentage changes in quantity
demanded does not change as the demanded.
price changes.

Price (RM)
d < 1 d =0
d = 
d = 1
d > 1
Quantity Demanded
Proportionofofthe
Proportion the
expenditureon
expenditure onaa Nature of
Existenceofof
Existence product
product goods
substitutes
substitutes
Frequently DETERMINANTS Income level

purchased OF PRICE ELASTICITY
products OF DEMAND
Time
Complementary dimension
goods Habits

RELATIONSHIP TO TOTAL
REVENUE
Total Revenue (TR) = Price (P) x Quantity (Q)
The information on price elasticity of demand will be useful

Price
for the seller to adjust their selling price since it will affect
the total revenue.
DEMAND IS ELASTIC
RM30
Total Revenue
RM20 x 10 = RM200
RM20
If seller increases price to RM30
New Total Revenue
= RM30 x 5 = RM150
 TR =  RM50
D
5 10
Quantity Demanded

REVENUE (cont.)
Price
DEMAND IS INELASTIC
RM2 Total Revenue

RM1 x 15 = RM15
RM1
New Total Revenue
= RM2 x 10 = RM20
 TR =  RM5
10 15
Quantity Demanded

REVENUE (cont.)
Price
DEMAND IS UNITARY ELASTIC
RM2
Total Revenue
RM1 x 20 = RM20
RM1 New Total Revenue
= RM2 x 10 = RM20
 TR =  0
10 20
Quantity Demanded
INCOME ELASTICITY OF
DEMAND
DEFINITION:

of the quantity demanded
due to a change in income.

INCOME ELASTICITY OF
DEMAND (cont.)
FORMULA:
Y = %  Quantity Demanded
%  Income
Y = Q2 – Q1 x Y1
Q1 Y2 – Y1

RESPONSES OF INCOME
ELASTICITY
Elastic Income
-Type of good: Luxury goods such as antique
furniture and diamonds
Income
y =0
Inelastic Income
-Type of good: Normal goods such as food
and clothing
Negative Income Elasticity

-Type of good: Giffen/ Inferior goods such
as used car and low grade potatoes
0 < y < 1 Zero Income Elasticity

-Type of good: Necessity Goods such as rice
and vegetables
y > 1 y< 0
Quantity Demanded
CROSS ELASTICITY OF
DEMAND
DEFINITION:

of the quantity demanded of one product
due to a change in the price of a related product.

CROSS ELASTICITY OF
DEMAND
FORMULA:
X = %  Quantity Demanded of good X

%  Price of good Y
X = QX2 – QX1 x PY1
QX1 PY2 – PY1

RESPONSES OF CROSS
ELASTICITY
Price of Good X Positive Cross Elasticity

x =0
-Good X and Y are substitute goods
Negative Cross Elasticity

-Good X and Y are complementary goods
Zero Cross Elasticity

-Good X and Y have no relationship
x > 0 x < 0
Quantity Demanded
of Good Y
PRICE ELASTICITY OF
SUPPLY
DEFINITION:

of the quantity supplied due to a change
in the price of a product or service.

PRICE ELASTICITY OF SUPPLY
(cont.)
FORMULA:
ss = %  Quantity Supplied

%  Price
SS = Q2 – Q1 x P1
Q1 P2 – P1

Elastic Supply ss > 1
A small percentage of change in the price of a good will lead to
larger percentage of change in the quantity supplied.
Price (RM)
Inelastic Supply ss < 1
ss =0 ss = 1
A large percentage of change in the price of a good
will only affect a small percentage of change of the
quantity supplied.
ss < 1
Unitary Elastic Supply ss = 1
Percentage change in price equals the percentage
change in the quantity supplied.
Perfectly Elastic Supply ss = 

An almost zero percentage of change in price
ss =  brings a very large percentage of change in the
quantity supplied.
Perfectly Inelastic Supply ss =0

ss > 1 A percentage of change in price has no effect on
the percentage of change in the quantity supplied.
Quantity Supplied
Time Period
Technology
improvements
Nature of the
market
DETERMINANTS
OF PRICE ELASTICITY
OF SUPPLY
Availability and mobility of Perishability

factors of production


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PRINCIPLES OF ECONOMICS Third Edition All Rights Reserved

© Oxford Fajar Sdn. Bhd. (008974-T), 2013 2– 1

PRINCIPLES OF ECONOMICS Third Edition All Rights Reserved

Demand is defined as the ability

to buy specific quantities of goods

in a given period of time

at a particular price, ceteris

PRINCIPLES OF ECONOMICS Third Edition All Rights Reserved

 Free goods are goods that have no production

PRINCIPLES OF ECONOMICS Third Edition All Rights Reserved

Law of demand states that the higher the price

NEGATIVE RELATIONSHIP inverse

PRINCIPLES OF ECONOMICS Third Edition All Rights Reserved

Demand Schedule Price Demand Curve

PRINCIPLES OF ECONOMICS Third Edition All Rights Reserved

INDIVIDUAL The relationship between the

PRINCIPLES OF ECONOMICS Third Edition All Rights Reserved

PRINCIPLES OF ECONOMICS Third Edition All Rights Reserved

PRINCIPLES OF ECONOMICS Third Edition All Rights Reserved

Can be replaced with other Needed to be used together

Ex : printer and ink cartridge

PRINCIPLES OF ECONOMICS Third Edition All Rights Reserved

PRINCIPLES OF ECONOMICS Third Edition All Rights Reserved

PRINCIPLES OF ECONOMICS Third Edition All Rights Reserved

PRINCIPLES OF ECONOMICS Third Edition All Rights Reserved

PRINCIPLES OF ECONOMICS Third Edition All Rights Reserved

PRINCIPLES OF ECONOMICS Third Edition All Rights Reserved

Give bonus income increase

Reduce tax income increase

PRINCIPLES OF ECONOMICS Third Edition All Rights Reserved

PRINCIPLES OF ECONOMICS Third Edition All Rights Reserved

Exceptional Demand is the opposite of the Law of Demand

STATUS SYMBOL GOODS

PRINCIPLES OF ECONOMICS Third Edition All Rights Reserved

Supply is defined as the ability and

PRINCIPLES OF ECONOMICS Third Edition All Rights Reserved

Law of supply states that the higher the price

PRINCIPLES OF ECONOMICS Third Edition All Rights Reserved

Supply Schedule Supply Curve

PRINCIPLES OF ECONOMICS Third Edition All Rights Reserved

PRINCIPLES OF ECONOMICS Third Edition All Rights Reserved

CHANGE IN QUANTITY SUPPLIED CHANGE IN SUPPLY

 Movement along supply curve  Shift in the supply curve

Increase in the supply of one good

PRINCIPLES OF ECONOMICS Third Edition All Rights Reserved

1. The demand for a good is also

PRINCIPLES OF ECONOMICS Third Edition All Rights Reserved

Q2 Q1 Quantity of soft drinks Q1 Q2 Quantity of

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Derived demand is the

PRINCIPLES OF ECONOMICS Third Edition All Rights Reserved

PRINCIPLES OF ECONOMICS Third Edition All Rights Reserved

PRINCIPLES OF ECONOMICS Third Edition All Rights Reserved

Q0 Q1 Quantity of petrol Q1 Q0 Quantity of

PRINCIPLES OF ECONOMICS Third Edition All Rights Reserved

Measures the sensitivity/responsiveness

PRINCIPLES OF ECONOMICS Third Edition All Rights Reserved

PRINCIPLES OF ECONOMICS Third Edition All Rights Reserved

Elastic Demand d > 1

PRINCIPLES OF ECONOMICS Third Edition All Rights Reserved

Frequently DETERMINANTS Income level

PRINCIPLES OF ECONOMICS Third Edition All Rights Reserved

The information on price elasticity of demand will be useful