Demand and supply

Engineering EconomicsEngineering Economics
Demand and SupplyDemand and Supply

SyllabusSyllabus
• Demand and Supply: Meaning and Determinants of Demand and Supply,Demand and Supply: Meaning and Determinants of Demand and Supply,
Law of Demand and Supply, Elasticity of Demand and Supply.Law of Demand and Supply, Elasticity of Demand and Supply.

DEMANDDEMAND
•• In theIn the ordinary sense, demand means desiresordinary sense, demand means desires..
•• Demand in Economics means both the willingness as well as theDemand in Economics means both the willingness as well as the
ability to purchase a commodityability to purchase a commodity by paying a price and also its actualby paying a price and also its actual
purchase.purchase.
•• A man may be willing to get a thing but he is not able to pay theA man may be willing to get a thing but he is not able to pay the
priceprice. It is not demand in the economic sense.. It is not demand in the economic sense.
•• Demand is related to price.Demand is related to price.
•• Generally demand for a commodity depends upon the priceGenerally demand for a commodity depends upon the price of theof the
commodity.commodity.

DEMANDDEMAND
•• Generally the relation between price and demand is inverseGenerally the relation between price and demand is inverse..
•• When price of a particular commodity goes up, its demand fallsWhen price of a particular commodity goes up, its demand falls
and vice-versa.and vice-versa.
•• But in exceptional cases the two variables may move in the sameBut in exceptional cases the two variables may move in the same
directiondirection..

DEMANDDEMAND
There are other factors that may influence the quantity demandedThere are other factors that may influence the quantity demanded
for a quantity.for a quantity.
•• One such factor is the income of the consumer.One such factor is the income of the consumer.
•• If a man’s income increases, obviously he will be able to demandIf a man’s income increases, obviously he will be able to demand
more of the goods at a given price.more of the goods at a given price.
•• Except that, demand for a commodity depends upon the tasteExcept that, demand for a commodity depends upon the taste andand
preference of the consumers, the price of substitute goods etc.preference of the consumers, the price of substitute goods etc.

Income & DemandIncome & Demand

Determinants Of DemandDeterminants Of Demand
• There are many factors other than price that can affect the level of quantity demanded. This defines demandThere are many factors other than price that can affect the level of quantity demanded. This defines demand
function.function.
• Demand determinants refer to the factors that affect demand for commodity (a consumer good), suchDemand determinants refer to the factors that affect demand for commodity (a consumer good), such
as:as:
• Price of the CommodityPrice of the Commodity
• Income of the ConsumerIncome of the Consumer
• Price of related goodsPrice of related goods
• Taste and preference of consumerTaste and preference of consumer
• Growth of populationGrowth of population
• Government policyGovernment policy
• Climatic conditionsClimatic conditions
• Income distributionIncome distribution
• Expected change in priceExpected change in price
• Future expectation about income etc.Future expectation about income etc.

(i) Price of the Commodity : There is an inverse relationship(i) Price of the Commodity : There is an inverse relationship
between the price of the commoditybetween the price of the commodity and the quantity demanded. Itand the quantity demanded. It
implies that lower the price of commodity, larger is the quantityimplies that lower the price of commodity, larger is the quantity
demanded and vice-versa.demanded and vice-versa.

(ii) Income of the consumers: Usually there is a direct relationship(ii) Income of the consumers: Usually there is a direct relationship
between the income of the consumerbetween the income of the consumer and his demand. i.e. as income risesand his demand. i.e. as income rises
his demand rises and vice-a-versa. The income demand relationship varieshis demand rises and vice-a-versa. The income demand relationship varies
with the following three types of commodities :with the following three types of commodities :
• (a) Normal Goods :(a) Normal Goods : In such goods, demand increases with increase inIn such goods, demand increases with increase in
income of the consumer.income of the consumer.
• For e.g.. demands for television sets, refrigerators etc. Thus income effect isFor e.g.. demands for television sets, refrigerators etc. Thus income effect is
positive.positive.
• (b) Inferior Goods :(b) Inferior Goods : Inferior Goods are those goods whose demandInferior Goods are those goods whose demand
decrease with an increase in consumes income. For e.g. food grains likedecrease with an increase in consumes income. For e.g. food grains like
Malze , etc. If the income rises demand for such goods to the consumersMalze , etc. If the income rises demand for such goods to the consumers
will fall. Thus income effect is negative.will fall. Thus income effect is negative.
• (c) Giffen goods :(c) Giffen goods : In case of Giffen goods the demand increases with anIn case of Giffen goods the demand increases with an
increase in price but it decreases with the rise in income. Thus income effectincrease in price but it decreases with the rise in income. Thus income effect
is negative.is negative.

Income Of The ConsumersIncome Of The Consumers

(iii) Consumer’s Taste and Preference: Taste and Preferences which(iii) Consumer’s Taste and Preference: Taste and Preferences which
depend on social customs, habitdepend on social customs, habit of the people, fashion, etc. largelyof the people, fashion, etc. largely
influence the demand of a commodity.influence the demand of a commodity.

(iv) Price of Related Goods: Related Goods can be classified as(iv) Price of Related Goods: Related Goods can be classified as
substitute and complementary goods.substitute and complementary goods.
• (v) Substitute Goods: In case of such goods, if the price of any(v) Substitute Goods: In case of such goods, if the price of any
substitute of commodity rises, then thesubstitute of commodity rises, then the commodity concern willcommodity concern will
become relatively cheaper and its demand will rise. The demand forbecome relatively cheaper and its demand will rise. The demand for
the commodity will fall if the price of the substitute falls. e.g.. If thethe commodity will fall if the price of the substitute falls. e.g.. If the
price of coffee rises, the demand for tea will rise.price of coffee rises, the demand for tea will rise.

Substitute GoodsSubstitute Goods

(vi) Complementary Goods: In case of such goods like pen and ink with a(vi) Complementary Goods: In case of such goods like pen and ink with a
fall in the price of one therefall in the price of one there will be a rise in demand for another andwill be a rise in demand for another and
therefore the price of one commodity and demand for its complementarytherefore the price of one commodity and demand for its complementary
are inversely related.are inversely related.
(vii) Consumer’s Expectation: If a consumer expect a rise in the price of(vii) Consumer’s Expectation: If a consumer expect a rise in the price of
a commodity in a near future,a commodity in a near future, they will demand it more at present inthey will demand it more at present in
anticipation of a further rise in price.anticipation of a further rise in price.
(viii)Size and Composition of Population: Larger the population, larger(viii)Size and Composition of Population: Larger the population, larger
is likely to be the no. of consumers.is likely to be the no. of consumers.
• Besides the composition of population which refers to the children, adults,Besides the composition of population which refers to the children, adults,
males, females, etc. in the population. The demographic profile will alsomales, females, etc. in the population. The demographic profile will also
influence the consumer demand.influence the consumer demand.

Complementary GoodsComplementary Goods

Demand FunctionDemand Function
Demand functions expresses the functional relationship between demand for aDemand functions expresses the functional relationship between demand for a
commodity (i.e. a consumer good) and its determinants. It can be written as :commodity (i.e. a consumer good) and its determinants. It can be written as :
DDxx== f (f (PPxx , Y, P, Y, PR ,R ,T, PT, Pee , G, …………..), G, …………..)
Where,Where,
DDxx symbolizes demand for commodity Xsymbolizes demand for commodity X
PPxx symbolizes price of commodity Xsymbolizes price of commodity X
Y symbolizes income of the consumerY symbolizes income of the consumer
PPRR symbolizes price of related good Rsymbolizes price of related good R
TT symbolizes taste and presencessymbolizes taste and presences
PPee symbolizes expected change in price of commodity Xsymbolizes expected change in price of commodity X
G symbolizes growth of populationG symbolizes growth of population

Kinds Of DemandKinds Of Demand
• There are three kinds of demand relations which are usuallyThere are three kinds of demand relations which are usually
studied under demand analysis such as: Price Demand, Incomestudied under demand analysis such as: Price Demand, Income
Demand and Cross Demand.Demand and Cross Demand.
• Price Demand: Price demand studies how demand for aPrice Demand: Price demand studies how demand for a
commodity (D) changes with respect to change in price(P) , ceteriscommodity (D) changes with respect to change in price(P) , ceteris
paribus (other things remaining the same).paribus (other things remaining the same).
• Dx=Dx= f (Pf (Px) xx) x

KINDS OF DEMANDKINDS OF DEMAND
• Income Demand:Income Demand: Income Demand examines how demand forIncome Demand examines how demand for
commodity (D) changes as a result of change in income of thecommodity (D) changes as a result of change in income of the
consumerconsumer(Y) , other things remaining the same.(Y) , other things remaining the same.
• Dx=Dx= f (Y)f (Y)xx

KINDS OF DEMANDKINDS OF DEMAND
• Cross Demand:Cross Demand: Cross demand studies how quantity demand of aCross demand studies how quantity demand of a
commodity ( D) changes as a result of change in price of its relatedcommodity ( D) changes as a result of change in price of its related
goodsgoods (P(P), ceteris paribus . Cross demand function can be denoted as), ceteris paribus . Cross demand function can be denoted as
follows:follows:
• Dx=Dx= f ( Pf ( PR ) xR ) x

Law of DemandLaw of Demand
• The law of demand expresses the functional relationship betweenThe law of demand expresses the functional relationship between
the price of commodity and its quantity demanded.the price of commodity and its quantity demanded.
• It states that the demand for a commodity tends to vary inverselyIt states that the demand for a commodity tends to vary inversely
with its price this implies that the law of demand states- Otherwith its price this implies that the law of demand states- Other
thingsthings remaining constant, a fall in price of a commodity will lead to aremaining constant, a fall in price of a commodity will lead to a
rise in demand of that commodity and a rise in price will lead to fall inrise in demand of that commodity and a rise in price will lead to fall in
demand.demand.

Law of DemandLaw of Demand
• Assumption:Assumption:
(i)(i) Income of the people remaining unchanged.Income of the people remaining unchanged.
(ii)(ii) Taste, preference and habits of consumers unchanged.Taste, preference and habits of consumers unchanged.
(iii)(iii) Prices of related goods i.e., substitute and complementary goodsPrices of related goods i.e., substitute and complementary goods
remaining unchangedremaining unchanged
(iv)(iv) There is no expectation of future change in price of the commodity.There is no expectation of future change in price of the commodity.
(v)(v) The commodity in question is not consumed for its prestige value.The commodity in question is not consumed for its prestige value.

Importance of Law of DemandImportance of Law of Demand
1. Basis of the Law of Demand: The law of Demand is based on the1. Basis of the Law of Demand: The law of Demand is based on the
consumers that they are preparedconsumers that they are prepared to buy a large quantity of a certainto buy a large quantity of a certain
commodity only at a lower price. This results from the fact thatcommodity only at a lower price. This results from the fact that
consumption of additional units of a commodity reduces the marginalconsumption of additional units of a commodity reduces the marginal
utility to him.utility to him.
2. Basis of consumption Expenditure : The law of Demand and the2. Basis of consumption Expenditure : The law of Demand and the
law of equi-marginal utility bothlaw of equi-marginal utility both provide the basis for how theprovide the basis for how the
consumer should spend his income on the purchase of variousconsumer should spend his income on the purchase of various
commodities.commodities.

3. Basis of Progressive Taxation: Progressive Taxation is the system of3. Basis of Progressive Taxation: Progressive Taxation is the system of
Taxation under which the rateTaxation under which the rate of tax increase with the increase in income.of tax increase with the increase in income.
This implies that the burden of tax is more on the rich than on the poor. TheThis implies that the burden of tax is more on the rich than on the poor. The
basis of this is the law of Demand. Since it implies that the marginal utility ofbasis of this is the law of Demand. Since it implies that the marginal utility of
Money to a rich man is lower than that to a poor man.Money to a rich man is lower than that to a poor man.
4. Diamond-water paradox: This means that through water is more4. Diamond-water paradox: This means that through water is more
useful than diamond. Still the priceuseful than diamond. Still the price of diamond is more than that of water.of diamond is more than that of water.
The explanation lies in law of diminishing marginal utility. The price ofThe explanation lies in law of diminishing marginal utility. The price of
commodity is determined by its marginal utility. Since the supply of water iscommodity is determined by its marginal utility. Since the supply of water is
abundant the marginal utility of water is very low and so its price. On theabundant the marginal utility of water is very low and so its price. On the
contrary, supply of diamond is limited so the marginal utility of diamond iscontrary, supply of diamond is limited so the marginal utility of diamond is
very high, therefore the price of diamond is very high.very high, therefore the price of diamond is very high.

Progressive TaxationProgressive Taxation

Diamond-Water ParadoxDiamond-Water Paradox

• Demand Curve: Demand curve is a diagrammatic representationDemand Curve: Demand curve is a diagrammatic representation
of the demand schedule whenof the demand schedule when we plot individual demand schedulewe plot individual demand schedule
on a graph, we get individual demand curve and when we plot marketon a graph, we get individual demand curve and when we plot market
schedule, we get market curve. Both individual and market demandschedule, we get market curve. Both individual and market demand
curves slope downward from left to right indicating an inversecurves slope downward from left to right indicating an inverse
relationship between price and quantity demanded of goods.relationship between price and quantity demanded of goods.

Demand CurveDemand Curve
• Demand curve is the graphical representation of the relationshipDemand curve is the graphical representation of the relationship
between demand for a commodity (Dx) and its pricebetween demand for a commodity (Dx) and its price (P(Px) .x) .

Demand CurveDemand Curve
• The demand curve is downward sloping because of the followingThe demand curve is downward sloping because of the following
reasons.reasons.
• 1) Some buyer may simply not be able to afford the high price.1) Some buyer may simply not be able to afford the high price.
• 2)2) As we consume more units of a product, the utility of thatAs we consume more units of a product, the utility of that
product becomes less and less.product becomes less and less. This is called the principle ofThis is called the principle of
diminishing Marginal Utility.diminishing Marginal Utility.
• The quantity demanded rises with a fall in price because of theThe quantity demanded rises with a fall in price because of the
substitution effect.substitution effect. A low price of x encourages buyer to substitute xA low price of x encourages buyer to substitute x
for other product.for other product.

Causes of downward slope of demand curveCauses of downward slope of demand curve
(i) Law of Diminishing Marginal Utility: This law states that when a(i) Law of Diminishing Marginal Utility: This law states that when a
consumer buys more units of sameconsumer buys more units of same commodity,commodity, the marginal utilitythe marginal utility
of that commodity continues to declineof that commodity continues to decline. This means that the. This means that the
consumer will buy more of that commodity when price falls and whenconsumer will buy more of that commodity when price falls and when
less units are available, utility will be high and consumer will prefer toless units are available, utility will be high and consumer will prefer to
pay more for that commodity.pay more for that commodity. This proves that the demand wouldThis proves that the demand would
be more at lower prices and less at a higher price and so thebe more at lower prices and less at a higher price and so the
demand curve is downward sloping.demand curve is downward sloping.

Law of Diminishing Marginal UtilityLaw of Diminishing Marginal Utility

Causes Of Downward Slope Of Demand CurveCauses Of Downward Slope Of Demand Curve
(ii) Income effect: As the price of the commodity falls, the consumer can(ii) Income effect: As the price of the commodity falls, the consumer can
increase his consumptionincrease his consumption since his real income is increased. Hence he willsince his real income is increased. Hence he will
spend less to buy the same quantity of goods. On the other hand, with a risespend less to buy the same quantity of goods. On the other hand, with a rise
in price of the commodities the real income of the consumer will fall andin price of the commodities the real income of the consumer will fall and
will induce them to buy less of that good.will induce them to buy less of that good.
(iii) Substitution effect: When the price of a commodity falls, the price of(iii) Substitution effect: When the price of a commodity falls, the price of
its substitutes remaining theits substitutes remaining the same, the consumer will buy more of thatsame, the consumer will buy more of that
commodity and this is called the substitution effect.commodity and this is called the substitution effect. The consumer willThe consumer will
like to substitute cheaper one for the relatively expensive one on thelike to substitute cheaper one for the relatively expensive one on the
other hand, with a rise in price the demand fall due to unfavourableother hand, with a rise in price the demand fall due to unfavourable
substitution effect. It is because the commodity has now becomesubstitution effect. It is because the commodity has now become
relatively expensive which forces the consumer’s to buy less.relatively expensive which forces the consumer’s to buy less.

Substitution EffectSubstitution Effect

Causes Of Downward Slope Of Demand CurveCauses Of Downward Slope Of Demand Curve
(iv) Goods having multipurpose use: Goods which can be put to a(iv) Goods having multipurpose use: Goods which can be put to a
number of uses like coal, aluminium,number of uses like coal, aluminium, electricity, etc. are e.g.. of suchelectricity, etc. are e.g.. of such
commodities. When the price of such commodity is higher, it will not usedcommodities. When the price of such commodity is higher, it will not used
for a variety of purpose but for use purposes only. On the other hand, whenfor a variety of purpose but for use purposes only. On the other hand, when
price falls of the commodity will be used for a variety of purpose leading toprice falls of the commodity will be used for a variety of purpose leading to
a rise in demand.a rise in demand. For e.g. : if the price of electricity is high, it will beFor e.g. : if the price of electricity is high, it will be
mainly used for lighting purposes, and when its price falls, it will bemainly used for lighting purposes, and when its price falls, it will be
needed for cooking.needed for cooking.
(v) Change in number of buyers : Lower the price, will attract new(v) Change in number of buyers : Lower the price, will attract new
buyers and raising of price willbuyers and raising of price will reduce the number of buyers. Thesereduce the number of buyers. These
buyers are known as marginal buyers. Owing to such reason the demandbuyers are known as marginal buyers. Owing to such reason the demand
falls when price rises and so the demand curve is downward sloping.falls when price rises and so the demand curve is downward sloping.

Exceptional Demand Curves/Exceptional Demand Curves/
Exception to Demand curve or Law of DemandException to Demand curve or Law of Demand
• In some rare situations, the law of demand does not hold good.In some rare situations, the law of demand does not hold good.
• In such situations, the demand curve slopes upward instead ofIn such situations, the demand curve slopes upward instead of
sloping downward suggesting a rise in demand with rising price.sloping downward suggesting a rise in demand with rising price.
• Cases in which this tendency is observed are referred to asCases in which this tendency is observed are referred to as
exceptions to the general law of demand.exceptions to the general law of demand.

Here demand curve D-D curve is known as an exceptional demand curve.Here demand curve D-D curve is known as an exceptional demand curve.
Exceptional Demand Curves/Exceptional Demand Curves/
Exception to Demand curve or Law of DemandException to Demand curve or Law of Demand
In such situations, the demandIn such situations, the demand
curve slopes upward instead ofcurve slopes upward instead of
sloping downward suggesting a risesloping downward suggesting a rise
in demand with rising price.in demand with rising price.

Exceptions to the law of demandExceptions to the law of demand
• Exceptions To Law Of Demand AreExceptions To Law Of Demand Are
• Giffen Goods,Giffen Goods,
• Conspicuous ConsumptionConspicuous Consumption
• Conspicuous Necessities,Conspicuous Necessities,
• Exceptional Demand CurvesExceptional Demand Curves
• Expected Changes In Price,Expected Changes In Price,
• Extraordinary Situations Like Natural Disasters, Famine, Riots EtcExtraordinary Situations Like Natural Disasters, Famine, Riots Etc

• Conspicuous goods: These are certain goods which are purchasesConspicuous goods: These are certain goods which are purchases
to project the status and prestigeto project the status and prestige of the consumer. For e.g.of the consumer. For e.g.
expensive cars, diamond jewellery, etc. such goods will be purchasedexpensive cars, diamond jewellery, etc. such goods will be purchased
more at a higher price and less at a lower price.more at a higher price and less at a lower price.
• Giffen goods: These are special category of inferior goods whoseGiffen goods: These are special category of inferior goods whose
demand increases even if withdemand increases even if with a rise in price. For e.g.. coarse grain,a rise in price. For e.g.. coarse grain,
clothes, etc.clothes, etc.

Giffen Goods:Giffen Goods:
•In case of certainIn case of certain inferior goods called Giffen goodsinferior goods called Giffen goods, when the price, when the price
falls, quite often less quantity will be purchased than before because offalls, quite often less quantity will be purchased than before because of
the negative income effect and people’s increasing preference for athe negative income effect and people’s increasing preference for a
superior commodity with the rise in their real income.superior commodity with the rise in their real income. Few examples ofFew examples of
giffen goods are cheap potatoes, coarse cloth, coarse grain, etcgiffen goods are cheap potatoes, coarse cloth, coarse grain, etc

• Conspicuous Consumption:Conspicuous Consumption:
• Some expensive commodities like diamonds, expensive cars,Some expensive commodities like diamonds, expensive cars,
exorbitantly high priced mobile phones etc.,exorbitantly high priced mobile phones etc., are used as statusare used as status
symbols to display one’s wealth or , to distinguish oneself fromsymbols to display one’s wealth or , to distinguish oneself from
average people. The more expensive these commodities become, theaverage people. The more expensive these commodities become, the
higher their value as a status symbol and hence, the greater thehigher their value as a status symbol and hence, the greater the
demand for them.demand for them. Law of demand does not apply here.Law of demand does not apply here.

Conspicuous GoodsConspicuous Goods

• Share’s speculative market : It is found that people buy shares ofShare’s speculative market : It is found that people buy shares of
those company whose pricethose company whose price is rising on the anticipation that the priceis rising on the anticipation that the price
will rise further. On the other hand, they buy less shares in case the priceswill rise further. On the other hand, they buy less shares in case the prices
are falling as they expect a further fall in price of such shares. Here theare falling as they expect a further fall in price of such shares. Here the
law of demand fails to apply.law of demand fails to apply.
• Bandwagon effect : Here the consumer demand of a commodity isBandwagon effect : Here the consumer demand of a commodity is
affected by the taste andaffected by the taste and preference of the social class to which hepreference of the social class to which he
belongs to. If playing golf is fashionable among corporate executive, thenbelongs to. If playing golf is fashionable among corporate executive, then
as the price of golf accessories rises, the business man may increase theas the price of golf accessories rises, the business man may increase the
demand for such goods to project his position in the society.demand for such goods to project his position in the society.
• Veblen effect: Sometimes the consumer judge the quality of aVeblen effect: Sometimes the consumer judge the quality of a
product by its price. People mayproduct by its price. People may have the expression that a higher pricehave the expression that a higher price
means better quality and lower price means poor quality. So the demandmeans better quality and lower price means poor quality. So the demand
goes up with the rise in price for e.g.. : Branded consumer goods.goes up with the rise in price for e.g.. : Branded consumer goods.

Bandwagon EffectBandwagon Effect

• Conspicuous Necessities:Conspicuous Necessities:
• Certain things become necessities of modern life.Certain things become necessities of modern life. These areThese are
purchased even if their prices rise. E.g. TV, refrigerators, mobilepurchased even if their prices rise. E.g. TV, refrigerators, mobile
phones, automobiles.phones, automobiles.

• Expected Changes in Price:Expected Changes in Price:
• Expected or anticipated changes in price of a commodity in futureExpected or anticipated changes in price of a commodity in future
also can affect quantity demanded of it at present.also can affect quantity demanded of it at present. If it is expectedIf it is expected
that the price of a commodity will rise in future, the demand for it risethat the price of a commodity will rise in future, the demand for it rise
and vice versa.and vice versa.

• Extraordinary Situations:Extraordinary Situations:
• War, famines, riots, natural calamities are extra ordinaryWar, famines, riots, natural calamities are extra ordinary
situations when people’s behaviour becomes abnormal.situations when people’s behaviour becomes abnormal. LawLaw
demand does not apply in abnormal situations.demand does not apply in abnormal situations.

There Are Two Concepts :There Are Two Concepts :
•Extension Of DemandExtension Of Demand
•Contraction Of DemandContraction Of Demand
Changes In Quantity Demanded/Changes In Quantity Demanded/
Movement Along Demand CurveMovement Along Demand Curve

ExtensionExtension
of demandof demand
Quantity DemandedQuantity Demanded
OO
PricePrice
DD
DD
PP22
QQ22
QQ11
BB
AA
Extension of Demand :Extension of Demand :
Other things remaining the same, whenOther things remaining the same, when
more quantity of a commodity ismore quantity of a commodity is
demanded due to fall in its price, it isdemanded due to fall in its price, it is
called extension of demand. There is acalled extension of demand. There is a
downward movement along the demanddownward movement along the demand
curve in case of extension of demand.curve in case of extension of demand.
Extension Of DemandExtension Of Demand
PP11

ContractionContraction
of demandof demand
OO
PricePrice
DD
DD
PP22
QQ22QQ11
PP11 BB
AA
Contraction of Demand :Contraction of Demand :
Other things remaining the same, whenOther things remaining the same, when
less quantity of a commodity isless quantity of a commodity is
demanded due to rise in its price, it isdemanded due to rise in its price, it is
called contraction of demand . There is acalled contraction of demand . There is a
upward movement along the demandupward movement along the demand
curve in case of contraction of demand.curve in case of contraction of demand.
Contraction Of DemandContraction Of Demand

Changes in Demand/Changes in Demand/
Shift in Demand Curve/Shift in Demand Curve/
There are two concepts :There are two concepts :
• Increase in DemandIncrease in Demand
• Decrease in DemandDecrease in Demand
• Changes in Demand /Shift in demands are caused byChanges in Demand /Shift in demands are caused by
• Changes in incomeChanges in income
• Changes in price of substitutesChanges in price of substitutes
• Changes towards the taste and preferences of the commodityChanges towards the taste and preferences of the commodity
• Changes in climate etc.Changes in climate etc.

Demand
OO
PricePrice
D
D
P2
QQ22QQ1
PP11
more demand at same pricemore demand at same price
D/
D/
O Q1
Same demand at higher priceSame demand at higher price
Increase in DemandIncrease in Demand
When , due to factors other than price, more quantity of a commodity is demanded at same price or sameWhen , due to factors other than price, more quantity of a commodity is demanded at same price or same
quantity is demanded at higher price, it is called increase in demand. There is a upward /rightward shift inquantity is demanded at higher price, it is called increase in demand. There is a upward /rightward shift in
demand.demand.
PricePrice
Demand

DemandDemandOO
PricePrice
D
D
PP22
Q2Q1
PP11
Less demand at same priceLess demand at same price
D/
D/
O Q1
Same demand at lowerSame demand at lower
priceprice
Decrease in DemandDecrease in Demand
When , due to factors other than price, less quantity of a commodity is demanded at same price or sameWhen , due to factors other than price, less quantity of a commodity is demanded at same price or same
quantity is demanded at lower price, it is called decrease in demand. There is a downward /leftward shift inquantity is demanded at lower price, it is called decrease in demand. There is a downward /leftward shift in
demanddemand
PricePrice

Elasticity of DemandElasticity of Demand
• Whenever a policy maker wishes to examine the sensitivity of change inWhenever a policy maker wishes to examine the sensitivity of change in
quantity demanded due to the change in price, income or price of the relatedquantity demanded due to the change in price, income or price of the related
goodsgoods, he wishes to study the magnitude of this response with the help of, he wishes to study the magnitude of this response with the help of
“elasticity” concept.“elasticity” concept. Thereby, the concept is crucial for business decision-Thereby, the concept is crucial for business decision-
making and also for forecasting future demand policies.making and also for forecasting future demand policies.

Elasticity of DemandElasticity of Demand

Determinants Of Elasticity Of DemandDeterminants Of Elasticity Of Demand
(i) Nature, Necessity Of A Commodity: The demand for necessary(i) Nature, Necessity Of A Commodity: The demand for necessary
commodity like rice, wheat, salt,commodity like rice, wheat, salt, etc. is highly inelastic as theiretc. is highly inelastic as their
demand does not rise or fall much with a change in price. On the otherdemand does not rise or fall much with a change in price. On the other
demand for luxuries changes considerably with a change in price anddemand for luxuries changes considerably with a change in price and
than demand is relatively elastic.than demand is relatively elastic.

(ii) Availability of substitutes: The Demand for commodities having a large(ii) Availability of substitutes: The Demand for commodities having a large
number of close substitutenumber of close substitute is more elastic than the commodities having less oris more elastic than the commodities having less or
no substitutes. If a commodity has a large no. of substitutes its elasticity is highno substitutes. If a commodity has a large no. of substitutes its elasticity is high
because when there is a rise in its prices, consumers easily switch over to otherbecause when there is a rise in its prices, consumers easily switch over to other
substitutes.substitutes.
(iii) Variety of uses : The Product which have a variety of uses like steel,(iii) Variety of uses : The Product which have a variety of uses like steel,
rubber etc. have a elasticrubber etc. have a elastic demand and if it has only limited uses, then it hasdemand and if it has only limited uses, then it has
inelastic demand. For e.g.. if the unit price of electricity falls then electricityinelastic demand. For e.g.. if the unit price of electricity falls then electricity
consumption will increase, more than proportionately as it can be put to use likeconsumption will increase, more than proportionately as it can be put to use like
washing, cooking, as the price will go up, people will use it for importantwashing, cooking, as the price will go up, people will use it for important
purposes only.purposes only.

• (iv) Possibility of postponement of consumption : The commodities whose(iv) Possibility of postponement of consumption : The commodities whose
consumption can easilyconsumption can easily be postponed has more elastic demand and thebe postponed has more elastic demand and the
commodities whose consumption cannot be easily postponed has less elasticcommodities whose consumption cannot be easily postponed has less elastic
demand for e.g.. for expensive jewellery, perfume it is possible to postponedemand for e.g.. for expensive jewellery, perfume it is possible to postpone
consumption in case the price is high and so such goods are elastic on the otherconsumption in case the price is high and so such goods are elastic on the other
hand, the necessities of life cannot be postponed and so they are inelastic inhand, the necessities of life cannot be postponed and so they are inelastic in
demand.demand.
• (v) Durable commodities : Durable goods like furniture’s, etc, which will last(v) Durable commodities : Durable goods like furniture’s, etc, which will last
for a longer time havefor a longer time have valuably inelastic demand. This is because in such case, avaluably inelastic demand. This is because in such case, a
fall in price will not lead to a large increase in demand and a rise in price againfall in price will not lead to a large increase in demand and a rise in price again
will not load to a huge fall in demand. But in case of perishable goods, thewill not load to a huge fall in demand. But in case of perishable goods, the
demand is elastic is nature.demand is elastic is nature.

Elasticity Of DemandElasticity Of Demand
• Elasticity of demand is the measure of the responsiveness ofElasticity of demand is the measure of the responsiveness of
quantity demanded of a commodity in response to change in aquantity demanded of a commodity in response to change in a
particular demand determinant (say price)particular demand determinant (say price) while keeping otherwhile keeping other
determinants constant( such as:, income, or price of related good ,determinants constant( such as:, income, or price of related good ,
advertisement, growth of population and so on).advertisement, growth of population and so on). Algebraically, it isAlgebraically, it is
defined asdefined as

Elasticity Of DemandElasticity Of Demand

Concepts Of Elasticity Of DemandConcepts Of Elasticity Of Demand
• There may be as many as concepts of elasticity of demand as theThere may be as many as concepts of elasticity of demand as the
number of demand determinants. Most important concepts ofnumber of demand determinants. Most important concepts of
elasticity of demand are:elasticity of demand are:
• Price elasticity of demandPrice elasticity of demand (here the demand determinant is price of(here the demand determinant is price of
the commodity)the commodity)
• Income elasticity of demandIncome elasticity of demand (here the demand determinant is income(here the demand determinant is income
of consumer)of consumer)
• Cross elasticity of demandCross elasticity of demand (here the demand determinant is price of(here the demand determinant is price of
related goods)related goods)

Price Elasticity of DemandPrice Elasticity of Demand
• It is defined as the degree of responsiveness of quantity demanded of aIt is defined as the degree of responsiveness of quantity demanded of a
commodity due to change in its price when other factor remaining constant.commodity due to change in its price when other factor remaining constant.

Kinds Of Price Elasticity Of DemandKinds Of Price Elasticity Of Demand
•Perfectly Elastic Demand :Perfectly Elastic Demand :
•Elastic Demand /Relatively Elastic Demand:Elastic Demand /Relatively Elastic Demand:
•Unit Elastic Demand:Unit Elastic Demand:
•Inelastic Demand / Relatively Inelastic Demand :Inelastic Demand / Relatively Inelastic Demand :
•Perfectly Inelastic Demand:Perfectly Inelastic Demand:

Types of Price ElasticityTypes of Price Elasticity
(a) Perfectly Elastic Demand: That is [e(a) Perfectly Elastic Demand: That is [epp = ∞]. When the quantity= ∞]. When the quantity
demanded of a commodity changes infinitely due to a slight or nodemanded of a commodity changes infinitely due to a slight or no
decrease in price, such goods are said to have perfectly elasticdecrease in price, such goods are said to have perfectly elastic
demand.demand.

Perfectly Elastic DemandPerfectly Elastic Demand
PricePrice
00 Quantity DemandQuantity Demand
Perfectly elastic demandPerfectly elastic demand
curvecurve
PP
D
When quantity demanded of theWhen quantity demanded of the
commodity changes though there is nocommodity changes though there is no
change in price, it is known as perfectchange in price, it is known as perfect
elastic demand.elastic demand.
Incase of Perfectly elastic demand,Incase of Perfectly elastic demand,
QQ11 QQ22

(b) Relatively Elastic Demand: In such type of goods the percentage(b) Relatively Elastic Demand: In such type of goods the percentage
change in quantity demandedchange in quantity demanded of a commodity is more thanof a commodity is more than
proportionate to the percentage change in price, e.g.. luxury car.proportionate to the percentage change in price, e.g.. luxury car.

Elastic DemandElastic Demand
Elastic demand curveElastic demand curve
0 Quantity demandedQuantity demanded
PricePrice
D
D
When the proportionate change inWhen the proportionate change in
demand is more than thedemand is more than the
proportionate changes in price, itproportionate changes in price, it
is known as relatively elasticis known as relatively elastic
demand. E.g. luxury goodsdemand. E.g. luxury goods
Incase of elastic demand,Incase of elastic demand,
QQ11 QQ22
P2
PP11

(c) Unit Elastic Demand (e(c) Unit Elastic Demand (epp = 1)= 1)
• Here the rate of change in demand is exactly equal to the rate ofHere the rate of change in demand is exactly equal to the rate of
change in price.change in price.
• Therefore the products or service with unit elasticity are neitherTherefore the products or service with unit elasticity are neither
elastic nor inelastic.elastic nor inelastic.

Unit Elastic DemandUnit Elastic Demand
Unit elastic demand equalUnit elastic demand equal
0
Quantity DemandQuantity Demand
PricePrice
DD
DD
When the proportionate change inWhen the proportionate change in
demand is equal to proportionatedemand is equal to proportionate
changes in price, it is known aschanges in price, it is known as
unitary elastic demand.unitary elastic demand.
Incase of unit elastic demandIncase of unit elastic demand,,PP22
PP11
QQ11 QQ22

(d) Relatively Inelastic Demand(e(d) Relatively Inelastic Demand(epp < 1)< 1)
• In this type of goods and services the proportionate change in quantityIn this type of goods and services the proportionate change in quantity
demand is less than the change in price. These are mostly essentialdemand is less than the change in price. These are mostly essential
goods of daily use like rice, wheat etc.goods of daily use like rice, wheat etc.

Inelastic DemandInelastic Demand
Inelastic demand curveInelastic demand curve
Quantity DemandedQuantity DemandedOO
PricePrice
DD
DD
When the proportionateWhen the proportionate
change in demand is lesschange in demand is less
than the proportionatethan the proportionate
changes in price, it is knownchanges in price, it is known
as relatively inelasticas relatively inelastic
demand. e.g. necessities,demand. e.g. necessities,
electricity etc.electricity etc.
Incase of inelastic demand,Incase of inelastic demand,
PP22
QQ22QQ11
PP11

(e) Perfectly Inelastic Demand : These are certain goods like salt,(e) Perfectly Inelastic Demand : These are certain goods like salt,
match box etc. whose demandmatch box etc. whose demand neither increase nor decrease with aneither increase nor decrease with a
change in price.change in price.

Perfectly Inelastic DemandPerfectly Inelastic Demand
DD
Perfectly inelastic demandPerfectly inelastic demand
curvecurve
0
PricePrice
When a change in price,When a change in price,
howsoever large, change nohowsoever large, change no
changes in quality demand, it ischanges in quality demand, it is
known as perfectly inelasticknown as perfectly inelastic
demand. E.g. saltsdemand. E.g. salts
Incase of perfectly inelasticIncase of perfectly inelastic
demand,demand,
PP11
PP22
QQ

All Kinds Of (Price) Demand CurvesAll Kinds Of (Price) Demand Curves
Be Shown In One DiagramBe Shown In One Diagram
00
PricePrice

Importance of Price Elasticity of DemandImportance of Price Elasticity of Demand
(i) Business Decisions: The concept of price elasticity of demand(i) Business Decisions: The concept of price elasticity of demand
helps the firm to decide whetherhelps the firm to decide whether or not to increase the price of theiror not to increase the price of their
product. Only if the product is inelastic in nature, then raising of priceproduct. Only if the product is inelastic in nature, then raising of price
will be beneficial.will be beneficial. On other hand, if the product is elastic in nature,On other hand, if the product is elastic in nature,
then a rise in price might lead to considerable fall in demand.then a rise in price might lead to considerable fall in demand.
Therefore the price of different commodities are determined onTherefore the price of different commodities are determined on
the basis of relative elasticity.the basis of relative elasticity.

Business DecisionsBusiness Decisions

(ii) To monopolist: A monopolist often practices price(ii) To monopolist: A monopolist often practices price
discrimination. Price discrimination is a processdiscrimination. Price discrimination is a process in which a singlein which a single
seller sells the same commodity in two different markets at twoseller sells the same commodity in two different markets at two
different prices at the same time.different prices at the same time. The knowledge of price elasticity ofThe knowledge of price elasticity of
the product to the monopolist is important because he wouldthe product to the monopolist is important because he would
charge higher price from those consumers who have inelasticcharge higher price from those consumers who have inelastic
demand and lower price from those consumers who have elasticdemand and lower price from those consumers who have elastic
demand.demand.

Importance Of Price Elasticity Of DemandImportance Of Price Elasticity Of Demand
(iii) Determination of Factor Price: The concept of elasticity of(iii) Determination of Factor Price: The concept of elasticity of
demand also helps in determining thedemand also helps in determining the price of various factors ofprice of various factors of
production. Factor having inelastic demand gets higher price andproduction. Factor having inelastic demand gets higher price and
factors having elastic demand gets lower price.factors having elastic demand gets lower price.

(iv) Route for International Trade: If demand for exports of a(iv) Route for International Trade: If demand for exports of a
country is inelastic, that country will enjoycountry is inelastic, that country will enjoy a favourable terms ofa favourable terms of
trade while if the exports are more elastic than imports, then thetrade while if the exports are more elastic than imports, then the
country will lose in the terms of trade.country will lose in the terms of trade.

(v) The Govt: Elasticity of demand is useful in formulation Govt.(v) The Govt: Elasticity of demand is useful in formulation Govt.
Policy particularly taxation policy andPolicy particularly taxation policy and the policy of subsides if thethe policy of subsides if the
Govt. wants to impose excise duty, or sales tax, the Govt. should haveGovt. wants to impose excise duty, or sales tax, the Govt. should have
an idea about the elasticity of the product.an idea about the elasticity of the product. If the product is elastic inIf the product is elastic in
nature, then the burden of the tax is shifted to the consumer andnature, then the burden of the tax is shifted to the consumer and
the demand might fall remarkably: on the other hand, if thethe demand might fall remarkably: on the other hand, if the
demand is inelastic in nature, then any extra burden of indirectdemand is inelastic in nature, then any extra burden of indirect
tax will not affect the demand to that extent.tax will not affect the demand to that extent.

Income Elasticity Of DemandIncome Elasticity Of Demand
• Income Elasticity of demand is the measure of the responsivenessIncome Elasticity of demand is the measure of the responsiveness
of quantity demanded of a commodity in response to change inof quantity demanded of a commodity in response to change in
income of the consumer, ceteris paribus.income of the consumer, ceteris paribus.

Kinds Of Income Elasticity Of DemandKinds Of Income Elasticity Of Demand
• Positive Income elasticity of demand which includesPositive Income elasticity of demand which includes
• Unitary Income Elasticity (eUnitary Income Elasticity (eyy=1)=1) indicates that a proportionateindicates that a proportionate
(percentage or relative )change in quantity demanded is equal to(percentage or relative )change in quantity demanded is equal to
proportionate change in money income.proportionate change in money income.
• High Income Elasticity (eHigh Income Elasticity (eyy > 1 )> 1 ) indicates that a proportionate changeindicates that a proportionate change
in quantity demanded is more than proportionate change in moneyin quantity demanded is more than proportionate change in money
income. E.g. luxuries o Income elasticity less than unityincome. E.g. luxuries o Income elasticity less than unity
• Low Income Elasticity (eLow Income Elasticity (eyy < 1)< 1) indicates that a proportionate changeindicates that a proportionate change
in quantity demanded is less than proportionate relative change inin quantity demanded is less than proportionate relative change in
money income. e.g. necessitiesmoney income. e.g. necessities

Kinds Of Income Elasticity Of DemandKinds Of Income Elasticity Of Demand
• Zero Income elasticity /Perfectly Inelastic Income demandZero Income elasticity /Perfectly Inelastic Income demand
• (e(e yy = 0)= 0)
• change in income will have no effect on the quantity demanded e.g.change in income will have no effect on the quantity demanded e.g.
salts)salts)
• Negative income elasticity (eNegative income elasticity (e YY < 0)< 0) [in case of inferior goods][in case of inferior goods]
indicates that less is bought at higher incomes and more is bought atindicates that less is bought at higher incomes and more is bought at
lower incomes.lower incomes.

Cross Elasticity Of DemandCross Elasticity Of Demand
• Cross Elasticity of demand is the measure of the responsiveness ofCross Elasticity of demand is the measure of the responsiveness of
quantity demanded of a commodity in response to change in pricequantity demanded of a commodity in response to change in price
of its related goods, ceteris paribus. It can be written as:of its related goods, ceteris paribus. It can be written as:

Kinds Of Cross Elasticity Of DemandKinds Of Cross Elasticity Of Demand
• Positive Cross elasticity of demand (ePositive Cross elasticity of demand (eABAB > 0)> 0) when the goods A andwhen the goods A and
B are substitutes] e.g. Coca cola and Pepsi, Chinese mobile phonesB are substitutes] e.g. Coca cola and Pepsi, Chinese mobile phones
and smart phones.and smart phones.
• Negative Cross elasticity of demand (eNegative Cross elasticity of demand (eABAB < 0)< 0)
• [when the goods A and B are complementary] e.g. vehicle and petrol[when the goods A and B are complementary] e.g. vehicle and petrol
• Zero Cross elasticity of (eZero Cross elasticity of (e ABAB = 0 )= 0 ) [when the goods A and B are[when the goods A and B are
independent/unrelated] e.g. gold and rice.independent/unrelated] e.g. gold and rice.

Geometric Method /Geometric Method /Point Method Of Measuring Elasticity OfPoint Method Of Measuring Elasticity Of
DemandDemand
Geometric method attempts to measure numerical elasticity of demand at a particular point on the demandGeometric method attempts to measure numerical elasticity of demand at a particular point on the demand
curve. The is method is applied when changes in price and the resultant change in quantity demanded arecurve. The is method is applied when changes in price and the resultant change in quantity demanded are
infinitely small. As per point method,infinitely small. As per point method,

OO
PricePrice
AA
BB
DemandDemand
DD
dP
dQdQ
PP11
PP22
QQ11 QQ22
CC
E
Price elasticity of demand at point D at demand curve AB can be written asPrice elasticity of demand at point D at demand curve AB can be written as

0
PricePrice
Demand
AA
BB
DD
DD
Arc method is applied when changes in price and the resultant change in quantity demanded are somewhatArc method is applied when changes in price and the resultant change in quantity demanded are somewhat
large or we have to measure elasticity over an arch of demand curve. The formula for arc elasticity is as follows:large or we have to measure elasticity over an arch of demand curve. The formula for arc elasticity is as follows:
Arc Method Of Measuring Elasticity Of DemandArc Method Of Measuring Elasticity Of Demand
WhereWhere
QQ11 is original quantity demandedis original quantity demanded
QQ22 is new quantity demandedis new quantity demanded
PP11 is original priceis original price
PP22 is final priceis final price
QQ11
QQ22
PP11
PP22

•Utility is defined as the power of commodity to satisfy a human want.Utility is defined as the power of commodity to satisfy a human want.
•People know utility of goods by means of introspection and therefore is subjective.People know utility of goods by means of introspection and therefore is subjective.
• Being subjective, it varies from persons to persons. That is, different persons may derive different amount ofBeing subjective, it varies from persons to persons. That is, different persons may derive different amount of
utility/satisfaction from the same good.utility/satisfaction from the same good.
•The desire for a commodity by a person depends upon the utility he expects to obtain from it.The desire for a commodity by a person depends upon the utility he expects to obtain from it.
UtilityUtility

Total UtilityTotal Utility
TotalTotal psychological satisfaction obtained by a consumer from consuming a givenpsychological satisfaction obtained by a consumer from consuming a given
amount of a particular commodityamount of a particular commodity is called total utility.is called total utility.
Marginal UtilityMarginal Utility
Marginal Utility is the extra utility derived by a consumer from the consumptionMarginal Utility is the extra utility derived by a consumer from the consumption of anof an
additional unit of a particular commodity.additional unit of a particular commodity.
Total Utility And Marginal UtilityTotal Utility And Marginal Utility

Relationship Between Tu And MuRelationship Between Tu And Mu
TUTU
MUMU

•Total utility (TU) is the sum total of marginal utilities .Total utility (TU) is the sum total of marginal utilities .
•TU=∑MUTU=∑MU
•Marginal utility (MU) is the rate of change in total utility with respect to a unit change in quantity of theMarginal utility (MU) is the rate of change in total utility with respect to a unit change in quantity of the
commodity consumed.commodity consumed.
•
• MU=dU/dQMU=dU/dQ
• dU symbolizes change in total utilitydU symbolizes change in total utility
• dQ symbolizes change in quantity of commodity consumeddQ symbolizes change in quantity of commodity consumed
•When the MU decreases, TU increases at decreasing rate.When the MU decreases, TU increases at decreasing rate.
•When MU becomes zero, TU is maximum. It is a saturation point.When MU becomes zero, TU is maximum. It is a saturation point.
•When MU becomes negative, TU declinesWhen MU becomes negative, TU declines
Relationship Between Tu And MuRelationship Between Tu And Mu..

It is a psychological fact that when a person consumes more and more units of a commodityis a psychological fact that when a person consumes more and more units of a commodity
during a particular time, the extra utility he derives from the successive units of the commodityduring a particular time, the extra utility he derives from the successive units of the commodity
will diminish.will diminish.
The Law of Diminishing Marginal Utility states thatThe Law of Diminishing Marginal Utility states that the additional satisfaction derived from thethe additional satisfaction derived from the
additional unit of a commodity goes on diminishing.additional unit of a commodity goes on diminishing.
The law highlights that while total wants of a man is unlimited, each single want is satiable. As aThe law highlights that while total wants of a man is unlimited, each single want is satiable. As a
consumer more and more units of a commodity, intensity for the commodity goes on falling , and aconsumer more and more units of a commodity, intensity for the commodity goes on falling , and a
point is reached where he does not want more of it. He is completely satisfied with the commoditypoint is reached where he does not want more of it. He is completely satisfied with the commodity
which is reflected by zero marginal utility.which is reflected by zero marginal utility.
The law of diminishing marginal utility also serve the basis for law of demand or downwardThe law of diminishing marginal utility also serve the basis for law of demand or downward
sloping demand curve.sloping demand curve.
Law Of Diminishing Marginal UtilityLaw Of Diminishing Marginal Utility

•A consumer is in equilibrium when he maximises his utility or satisfaction by spending his given moneyA consumer is in equilibrium when he maximises his utility or satisfaction by spending his given money
income on different goods.income on different goods.
Consumer’s Equilibrium in Case of Single GoodConsumer’s Equilibrium in Case of Single Good
•Let us take a simple model of single commodity X.Let us take a simple model of single commodity X.
•The consumer either spends his money income on the good or retains his money income.The consumer either spends his money income on the good or retains his money income.
•In such situation, the consumer will be in equilibrium when MUIn such situation, the consumer will be in equilibrium when MUXX = P= PXX
•Where, MUWhere, MUXX is marginal utility of commodity Xis marginal utility of commodity X
•PPXX is price of the commodity X.is price of the commodity X.
• If MUIf MUXX > P> PXX , the consumer can increase his well-being by purchasing more units of the commodity X., the consumer can increase his well-being by purchasing more units of the commodity X.
•If MUIf MUXX < P< PXX , the consumer can increase his total cost satisfaction by cutting down the quantity of commodity X and, the consumer can increase his total cost satisfaction by cutting down the quantity of commodity X and
keeping more of his income unspent.keeping more of his income unspent.
•Thus, he maximises his satisfaction when MUThus, he maximises his satisfaction when MUXX = P= PXX
Consumer’s EquilibriumConsumer’s Equilibrium

Consumer’s Equilibrium In case of More Than One GoodConsumer’s Equilibrium In case of More Than One Good
andand
Law of Equi-Marginal UtilityLaw of Equi-Marginal Utility
The law of equi-marginal utility states thatThe law of equi-marginal utility states that a consumer distributes his limiteda consumer distributes his limited
income among various commodities in such a way that marginal utility of moneyincome among various commodities in such a way that marginal utility of money
expenditure on each good is equal.expenditure on each good is equal. This is the condition of consumer’s equilibriumThis is the condition of consumer’s equilibrium
in case of more than one commodity.in case of more than one commodity.
Marginal utility of money expenditure on a good is the ratio of marginal utility ofMarginal utility of money expenditure on a good is the ratio of marginal utility of
the commodity to price of it.the commodity to price of it.

Consumer’s Equilibrium In Case Of More Than One GoodConsumer’s Equilibrium In Case Of More Than One Good
AndAnd
Law Of Equi-marginal UtilityLaw Of Equi-marginal Utility

SupplySupply
• Supply is defined as a quantity of a commodity offered by the producers to beSupply is defined as a quantity of a commodity offered by the producers to be
supplied at a particular pricesupplied at a particular price and at a certain time.and at a certain time.
• SUPPLYSUPPLY
• Supply indicates quantities of a commodity of a offered for sale at eachSupply indicates quantities of a commodity of a offered for sale at each
possiblepossible price at a given time period, other things constantprice at a given time period, other things constant

Individual Supply and Market SupplyIndividual Supply and Market Supply

Law of SupplyLaw of Supply
• If the price of commodity rises, the level of quantity supplied rises, after factors remaining constant.If the price of commodity rises, the level of quantity supplied rises, after factors remaining constant.
• Supply Curve: in the graphical representation of supply schedule when the factors affecting supplySupply Curve: in the graphical representation of supply schedule when the factors affecting supply
• remain constant.remain constant.
• •• Movement from A to B: Extension in SupplyMovement from A to B: Extension in Supply
• •• Movement from B to A: Contraction in SupplyMovement from B to A: Contraction in Supply

Law Of SupplyLaw Of Supply
• Law of supply states that normally, the quantity supplied variesLaw of supply states that normally, the quantity supplied varies
directly with itsdirectly with its price, other things constant.price, other things constant.
• In other words , law of supply states that lower the price, theIn other words , law of supply states that lower the price, the
smaller the quantity supplied and higher the price, the greater thesmaller the quantity supplied and higher the price, the greater the
quantity supplied.quantity supplied.

Supply CurveSupply Curve
0 SupplySupply
PricePrice
SS
SS
Supply CurveSupply Curve
Supply Curve Is The Graphical Representation Of The Relationship Between Supply Of A Commodity (DSupply Curve Is The Graphical Representation Of The Relationship Between Supply Of A Commodity (Dxx) And) And
Its PriceIts Price ((PPxx) .) .
Normally, a supply curve slopes upward from left to right
indicating the operation of the law of supply.

00
E
S(P)S(P)
D(P)D(P)
SurplusSurplus
PricePrice
Demand/SupplyDemand/SupplyDemandDemand
==
SupplySupply
ShortageShortage
Equilibrium PriceEquilibrium Price
Equilibrium price a commodityEquilibrium price a commodity
is determined at point(E) whereis determined at point(E) where
market demand is equal tomarket demand is equal to
market supply.market supply.
At priceAt price PP22 , supply is more, supply is more
demand and thus there is surplusdemand and thus there is surplus
in the market. Price will fallin the market. Price will fall
causing supply to fall andcausing supply to fall and
demand to rise. Price willdemand to rise. Price will
continue to fall until it reachescontinue to fall until it reaches
equilibrium price Pequilibrium price Pee at whichat which
Demand=Supply ( EquilibriumDemand=Supply ( Equilibrium
point E).point E).
PP22
PP11
QQ11
QQ22QQee
At PAt P1,1, demand is more than supplydemand is more than supply and as such there is shortage in the market.and as such there is shortage in the market. Price will raisePrice will raise
causing demand to fall and supply to rise. Price will continue to rise until it reaches equilibriumcausing demand to fall and supply to rise. Price will continue to rise until it reaches equilibrium
price at which Demand=Supply ( Equilibrium point E).price at which Demand=Supply ( Equilibrium point E).
Pe

Determinants of SupplyDeterminants of Supply
• Determinants of SupplyDeterminants of Supply
• Price of the productPrice of the product
• State of technologyState of technology
• Prices of relevant resourcesPrices of relevant resources
• Prices of alternative goodsPrices of alternative goods
• Producer expectationsProducer expectations
• Number of producers/sellers in the marketNumber of producers/sellers in the market

Factors Determining Supply or Supply FunctionFactors Determining Supply or Supply Function
(i) Price Of The Commodity: When the price of a commodity in the market(i) Price Of The Commodity: When the price of a commodity in the market
rises, seller increases the price.rises, seller increases the price.
• The cost of production remaining constant the higher will be the profit margin.The cost of production remaining constant the higher will be the profit margin.
This will encourage the producers to supply more at higher prices. The reverseThis will encourage the producers to supply more at higher prices. The reverse
will happen when the price fall.will happen when the price fall.
(ii) Goals Of The Firm: Firms may try to work on various goals for e.g.. Profit(ii) Goals Of The Firm: Firms may try to work on various goals for e.g.. Profit
maximization, sales maximization,maximization, sales maximization,
• employment maximization. If the objective is to maximize profit, then higher theemployment maximization. If the objective is to maximize profit, then higher the
profit from the sale of a commodity, the higher will be the quantity supplied byprofit from the sale of a commodity, the higher will be the quantity supplied by
the firm and vice-versa. Thus, the supply of goods will also depend upon thethe firm and vice-versa. Thus, the supply of goods will also depend upon the
priority of the firm regarding these goals and the extent to which it is prepared topriority of the firm regarding these goals and the extent to which it is prepared to
sacrifice one goal to the other.sacrifice one goal to the other.

(iii) Input Prices: The supply of a commodity can be influenced by(iii) Input Prices: The supply of a commodity can be influenced by
the raw materials, labour and otherthe raw materials, labour and other inputs. If the price of suchinputs. If the price of such
inputs rise leading to a lower profit margin becomes less. This willinputs rise leading to a lower profit margin becomes less. This will
ultimately lead to a lower supply. On the other hand, if there is a fallultimately lead to a lower supply. On the other hand, if there is a fall
in input cost firm, will be ready to supply more than before at a givenin input cost firm, will be ready to supply more than before at a given
price level.price level.
(iv) State of Technology : If improved and advanced technology is(iv) State of Technology : If improved and advanced technology is
used for the production of aused for the production of a commodity, it reduces its cost ofcommodity, it reduces its cost of
production and increases the supply. On the other hand, the supply ofproduction and increases the supply. On the other hand, the supply of
those goods will be less whose production depend on unfair and oldthose goods will be less whose production depend on unfair and old
technology.technology.

(v) Government policies: The imposition of sales tax reduces supply(v) Government policies: The imposition of sales tax reduces supply
and grant of subsidy on the otherand grant of subsidy on the other hand increases the supply.hand increases the supply.
(vi) Expectation about future prices: If the producers expect an(vi) Expectation about future prices: If the producers expect an
increase in the price of a commodity,increase in the price of a commodity, then they will supply less atthen they will supply less at
the present price and hoard the stock in order to sell it at a higher pricethe present price and hoard the stock in order to sell it at a higher price
in the near future. This will be opposite in case if they anticipate fall inin the near future. This will be opposite in case if they anticipate fall in
future price (e.g.. fruit seller)future price (e.g.. fruit seller)

Government Policies (Taxes)Government Policies (Taxes)

Exceptions to the Law of SupplyExceptions to the Law of Supply
(i) Agricultural Goods: In case of such goods the supply cannot be(i) Agricultural Goods: In case of such goods the supply cannot be
adjusted to market conditions.adjusted to market conditions.
• The production of agriculture goods is largely dependent on naturalThe production of agriculture goods is largely dependent on natural
phenomenon and therefore its supply depends upon natural factors likephenomenon and therefore its supply depends upon natural factors like
rainfall, etc. Moreover the supply of such goods is mostly seasonal andrainfall, etc. Moreover the supply of such goods is mostly seasonal and
therefore it cannot be increased with a rise in price.therefore it cannot be increased with a rise in price.
(ii) Rare objects : These are certain commodities like rare coins, classical(ii) Rare objects : These are certain commodities like rare coins, classical
paintings old manuscripts,paintings old manuscripts,
• etc. whose supply cannot be increased or decreased with the change inetc. whose supply cannot be increased or decreased with the change in
price. Therefore, such goods are said to have inelastic supply and the supplyprice. Therefore, such goods are said to have inelastic supply and the supply
curve is a vertical straight line parallel to Y – axis.curve is a vertical straight line parallel to Y – axis.

Exceptions to the Law of SupplyExceptions to the Law of Supply

(iii) Labour Market: In the labour market, the behaviour of the(iii) Labour Market: In the labour market, the behaviour of the
supply of labour goes against the law ofsupply of labour goes against the law of supply.supply.

Elasticity of SupplyElasticity of Supply
• Elasticity of supply is defined as the degree of responsiveness ofElasticity of supply is defined as the degree of responsiveness of
quantity supplied of a commodity due to change in its price.quantity supplied of a commodity due to change in its price.
Elasticity of supply is expressed as :Elasticity of supply is expressed as :
• eess = % changes in qty. supplied / % changes in price= % changes in qty. supplied / % changes in price
• = (dq/q x 100) /(dp/p x 100)= (dq/q x 100) /(dp/p x 100)
• = (dq/dp x p/q)= (dq/dp x p/q)
Where,Where,
• d = change, q = original quantity supplied, p = original price.d = change, q = original quantity supplied, p = original price.

Determinants of Elasticity of SupplyDeterminants of Elasticity of Supply
((i) Nature Of The Commodity: The supply of durable goods can be increasedi) Nature Of The Commodity: The supply of durable goods can be increased
or decreased effectivelyor decreased effectively in response to change in price and hence durable goodsin response to change in price and hence durable goods
are relatively elastic.are relatively elastic.
• On the other hand the perishable goods cannot be stored and thus supply cannotOn the other hand the perishable goods cannot be stored and thus supply cannot
be altered significantly in response to change in their price. Hence the price of thebe altered significantly in response to change in their price. Hence the price of the
perishable goods are relatively less elastic.perishable goods are relatively less elastic.
(ii) Time Factor: A price change may have a small response on the quantity(ii) Time Factor: A price change may have a small response on the quantity
supplied because outputsupplied because output may change by small quantity in the short period sincemay change by small quantity in the short period since
the production capacity may have been limited. Therefore, in the short run supplythe production capacity may have been limited. Therefore, in the short run supply
tends to be relatively inelastic.tends to be relatively inelastic.
• On the other hand in the long run production capacity may be increased or supplyOn the other hand in the long run production capacity may be increased or supply
may also be raised therefore in the long run supply is elastic.may also be raised therefore in the long run supply is elastic.

(iii) Availability of facility for expanding output: If producers have sufficient production(iii) Availability of facility for expanding output: If producers have sufficient production
facilities suchfacilities such as availability of power, raw materials, etc, they would be able to increase theiras availability of power, raw materials, etc, they would be able to increase their
supply in response to rise in price.supply in response to rise in price.
• On the other hand if there is a shortage of such facilities then expansion of supply will not beOn the other hand if there is a shortage of such facilities then expansion of supply will not be
possible due to rise in price.possible due to rise in price.
(iv) Change in cost of production: Elasticity of supply depends upon the change in cost. If an(iv) Change in cost of production: Elasticity of supply depends upon the change in cost. If an
increaseincrease of output by a firm in an industry causes only a slight increase in the cost then supplyof output by a firm in an industry causes only a slight increase in the cost then supply
will remain fairly elastic.will remain fairly elastic.
• On the other hand if an increase in output bring about a large increase in cost due to rise in priceOn the other hand if an increase in output bring about a large increase in cost due to rise in price
of inputs etc, then supply will be relatively inelastic.of inputs etc, then supply will be relatively inelastic.
(v) Nature of inputs : Elasticity of supply depend upon the nature of inputs for the production(v) Nature of inputs : Elasticity of supply depend upon the nature of inputs for the production
of aof a commodity. If the production requires inputs that are easily available, then its supply will becommodity. If the production requires inputs that are easily available, then its supply will be
relatively elastic.relatively elastic. On the other hand, if it uses specialized inputs then its supply will be relatively
inelastic.

(vi) Risk Taking: If entrepreneurs are willing to take risk, then(vi) Risk Taking: If entrepreneurs are willing to take risk, then
supply will be more elastic and if they aresupply will be more elastic and if they are reluctant to take risk thenreluctant to take risk then
supply would be inelastic.supply would be inelastic.

ReferencesReferences
• Engineering Economic Analysis –NPTELEngineering Economic Analysis –NPTEL
http://nptel.ac.in/courses/112107209/http://nptel.ac.in/courses/112107209/
• Engineering EconomicsEngineering Economics
http://www.inzeko.ktu.lt/index.php/EEhttp://www.inzeko.ktu.lt/index.php/EE
• Fundamentals of Economics and ManagementFundamentals of Economics and Management
Institutes of Cost Accountants of IndiaInstitutes of Cost Accountants of India www.icmai.inwww.icmai.in
• Modern Economics : Dr. H. L. AhujaModern Economics : Dr. H. L. Ahuja
• Micro Economics Robert S Pindyck, Daniel L Rubinfeld, PearsonMicro Economics Robert S Pindyck, Daniel L Rubinfeld, Pearson

Demand and supply

More Related Content

Demand and supply