Demand, Supply and Market Equilibrium - BA 1 Semester Economics

CONTENTS:

1. Learning Outcome

2. Concept of demand by a consumer

2.1 Demand schedule and demand curve

3. Derivation of market demand schedule and market demand curve.

4. Determinants of demand

5. Concept of supply by a firm

5.1 Supply schedule and supply curve

6. Derivation of market supply schedule and market supply curve

7. Determinants of supply

8. Factors that determine shifts in demand curve

9. Factors that determine shifts in supply curve

10. Concept of equilibrium and effect of changes in demand and supply on

equilibrium

LEARNING OUTCOME

After reading this chapter you will be able to know:

I. The concept of demand, determinants of demand, demand schedule

and how to draw demand curve, law of demand, change in demand and

change in quantity demanded. Individual and market demand.

II. The concept of supply, determinants of supply, supply schedule and

how to draw supply curve, law of supply, change in supply and change in

quantity supplied. Individual and market supply.

III. Concept of equilibrium, concept of shortage and surplus, impact of

change in demand and supply on the equilibrium.

2. CONCEPT OF DEMAND

When we say that a consumer demands a good like a car it implies that she is

willing to pay a ‘certain’ price in return for a pre-determined amount of the good.

This ‘willingness ‘lies at the heart of the demand theory. In economics, this

willingness is expressed in terms of Desire, Ability and Willingness.

Consider a BMW sports car with a price tag of Rs. 25 lac . A 18 year girl student

would like to own this car. However, she would not constitute demand for this car

because she lacks to ability to pay the stated price of the car. She has the desire to

drive and the willingness to pay for it (she does not want it for free), but lacks the

ability to pay the stated price since she is a student with no income. Thus, demand

is not just willingness to pay for a good at a stated price but also the desire and

ability to pay for it. However, she may be willing to pay a lower price of Rs. 5 lacs.

If this price is acceptable to the makers of BMW then she constitutes demand for

the car.

Assuming that desire and ability exist we can say that demand for a good is

equivalent to willingness to pay for a good. This explains why the terms ‘demand

curve’ and ‘ willingness to pay’ curve are used interchangeably.

2.1. DEMAND SCHEDULE AND DEMAND CURVE

A consumer demand schedule gives the various combinations of price and demand

of a good for a consumer in a table form. For example, it tells us the willingness of

a consumer to pay for oranges at certain prices. The relationship between price and

quantity is shown using specific values in the table below. At a price of

Rs.10/dozen, the consumer is willing to consume/purchase 4dozen. At a price of Rs

30/dozen the demand falls to 2 dozen.

A demand curve is a graphical representation of the demand schedule. The

demand curve slopes downwards to show that as price rises, the demand for a good

falls, assuming all other factors remain constant. A demand curve can be drawn

using a demand schedule or a demand function (see section IV). A demand function

is a mathematical relation between price and quantity demanded.

If this relationship can be expressed in a mathematical expression then this

expression is called a demand function. For example demand for oranges is denoted

by Qd; where

Qd = 5 – 0.1P

Notice that the sign for P is negative, which indicates that demand curve is

downward sloping. Another way of saying this is that slope of demand curve is

negative.

When P= 10 then Qd= 5 –.1*10 =4

When P = 30 then Qd = 5 –.1*30 = 2

3. DERIVATION OF MARKET DEMAND SCHEDULE AND MARKET DEMAND

CURVE

The market demand schedule provides the total demand for a good in the market.

It represents the sum of demand by all consumers. It is the horizontal summation

of all individual demand curves.

EXAMPLE:

Assume 3 consumers in the market, whose demand schedules are given below. Let

us graphically and numerically show the market demand; we assume the following

demand functions:

Ravi: Q1= 10-P

Chavi: Q2= 12-2P

Pami: Q3= 8-4P

Market demand is the horizontal summation of individual demand curves. It is

derived by adding the demand at given price P.

Market demand = Q*= Q1+Q2+Q3= 10-P +12-2P +8-4P = 30-7P

Q*=30-7P

                                               3                0+1+2=3

4. DETERMINANTS OF DEMAND

Demand for a good is determined by monetary and nonmonetary factors. These can

be expressed using the demand function Qd where

Qd= f( Px, Py, M, F)

 Qd or demand for good X is a function (f) of

 Px: price of the good,

 Py: price of good Y that is related in some way to good X,

4. DETERMINANTS OF DEMAND

Demand for a good is determined by monetary and nonmonetary factors. These can

be expressed using the demand function Qd where

Qd= f( Px, Py, M, F)

 Qd or demand for good X is a function (f) of

 Px: price of the good,

 Py: price of good Y that is related in some way to good X,

below. At a price of Rs.10/dozen, the orange seller (firm) is willing to sell 4dozen.

At a price of Rs 30/dozen the supply rises to 8 dozen.

A supply curve is a graphical representation of the supply schedule. The supply

curve slopes upwards to show that as price rises the supply of a good rises,

assuming all other factors remain constant. A supply curve can be drawn using a

supply schedule or a supply function (see section VII). A supply function is a

mathematical relation between price and quantity supplied.