DEMAND AND SUPPLY

Price and Demand Relationship

Law of Demand- Basic Principles

• Higher price = consumers will demand a lower quantity of a good.

• Demand is derived from the law of diminishing marginal utility
• A market demand curve expresses the sum of quantity demanded at each price
across all consumers in the market
• Changes in price can be reflected in movement along a demand curve, but do
not by themselves increase or decrease demand
• The shape and magnitude of demand shifts in response to changes in
consumer preferences, incomes, or related economic goods, NOT to changes in
price
Driving Factors and Impact on Demand

• Willingness to Spend More

Rising Income • Demand more for normal goods (especially variations of the goods,
Levels new features etc.)
• Impulsive spending can be a norm

Change in • Stages in Life

• Environmental Changes
Preference
• Availability

• Parle-G
Accessibility • On the Shelf
• Availability of Substitutes
Driving Factors and Impact on Supply

Production
Capacity

Number of
Competitors

Other Factors
Demand and Supply Equilibrium
Elasticity

• Price elasticity of demand is an indicator of the impact of a price change, up or down, on a

product's sales.
• Demand elasticity is a more general term, allowing the impact on demand of a number of factors
to be estimated.
• Higher price elasticity of demand suggests that consumers are more responsive to a product's price
change.

S
P
D
Types of Elasticity

Elasticity Change in Price (Proportion) <Ratio> Change in Demand (Proportion)

Perfectly Elastic Price Increase = Demand Becomes Zero (Not all Entire Market Quantity
but for that product or Service (E.g. Flight Tickets, Amazon products)

Relatively Elastic Change in Price (Proportion) = More Change in Demand (Proportion)

Perfectly In- Change in Price (Proportion) = No Change in Demand

Elastic

Relatively In- Change in Price (Proportion) = Less Change in Demand

Elastic
Examples of Perfectly Elastic Demand

https://studyfinance.com/perfectly-elastic-demand/
Examples of Relatively Elastic Demand
Examples of Perfectly In-Elastic Demand

https://sites.google.com/site/economicsbasics/perfectly-inelastic-deman
d

https://studyfinance.com/perfectly-inelastic-demand/
Examples of Relatively In-Elastic Demand
Income Elasticity

• Consumers' incomes play a very important role in the demand

for a good or service.
• When there is a change in consumers' incomes, it causes a
change in the quantity demanded of a good or service if all other
factors remain the same.
• The sensitivity of a change in the quantity demanded of a good
or service relative to a change in consumers' incomes is known
as income elasticity of demand.
Q&A on Elasticity Concept
Problem : Yesterday, the price of envelopes was $3 a box, and Julie was willing
to buy 10 boxes. Today, the price has gone up to $3.75 a box, and Julie is now
willing to buy 8 boxes. Is Julie's demand for envelopes elastic or inelastic?
What is Julie's elasticity of demand?
Steps to Solution

• Calculate Change in Quantity and %

• Calculate Change in Price and %

• Divide CIQ/CIP %

• The ratio is Elasticity of Demand to Price

Q&A on Elasticity Concept
Problem : Which of the following goods are likely to have elastic demand, and
which are likely to have inelastic demand?
Options Options

• Salt • Fuel

• Aerated Drinks • Washing Machine

• Chocolate • Mobile Phones

• Medicines • Washing Powder

• Drinking Water • Masks-N95

Q&A on Elasticity Concept
Problem : Katherine advertises to sell cookies for $4 a dozen. She sells 50
dozen, and decides that she can charge more. She raises the price to $6 a
dozen and sells 40 dozen. What is the elasticity of demand? Assuming that the
elasticity of demand is constant, how many would she sell if the price were $10
a box?
Solve and Capture the Answers in Chat Box

• Elasticity of Demand Ratio =

• Demand Quantity at Price of $ 10 =

Depiction of Shift in Supply or Demand Curve/Line
Fuel Supply in United States
Summary of 5 Types
Calculations of 5 Types

Change
Change
Price Change in in
Price (P0) Change in Price Change is Demand(D0) Demand (D1) Change is in Price Elasticity Type
(P1) Demand Demand
%
%
40 45 5 Positive 80 70 -10 Negative -12.50% 12.50% -1.00 Unitary Elastic
40 42 2 Positive 80 70 -10 Negative -12.50% 5.00% -2.50 Relatively Elastic
40 48 8 Positive 80 70 -10 Negative -12.50% 20.00% -0.63 Relatively Inelastic
40 45 5 Positive 80 80 0 No Change 0.00% 12.50% - Perfectly Inelastic
40 45 5 Positive 80 0 -80 Total Demand Lost -100.00% 12.50% -8.00 Perfectly Elastic

Note In Price Elasticity of Demand, because of inverse relationship, one of the factor (either price or demand change) will always negative
Practical Applications of Elasticity Concepts

Setting Price - In monopolistic market conditions, if the demand is

elastic, the price is set very low for per unit of product and vice versa

Price Discrimination - Demand for electricity for domestic users is

inelastic; therefore, the price of domestic electricity is high, whereas the
demand for industrial electricity is elastic. There are Cogen plants which
can replace purchased power with own generation at lower costs
Practical Applications of Elasticity Concepts

Government Policies - A high rate of tax is levied on products having

inelastic demand.

Input Costs Rising-When costs are rising, it is tempting to pass on the

cost increases by increasing price to the consumer, and if demand for the
product is relatively inelastic, this measure may well succeed
Practical Applications of Elasticity Concepts

Trade Unions- The bargaining power of the trade unions in raising the
wages of a group of labour in a particular industry also depends, among
other things, on the elasticity of demand for their services to the
employer. A trade union usually succeeds in raising wages when the
demand for the services of labour to the employer is inelastic: because,
in such a case the employer cannot easily dispense with their services.
On the other hand, it may not succeed when demand for labour is elastic
Arc Elasticity
Given - Price of a product decreases from $10 to $8, leading to an
increase in quantity demanded from 40 to 60 units
Point Elasticity Arc Elasticity
As changes happen over a period of Time and not at once, a better
computation should consider Mid Point instead of Extremes

Particulars Values Particulars Values

Change in Price (10-8) -2 Mid Point of Price (10+8)/2 9
Change in Price % (-2/10) -20% Mid Point of Demand (40+60)/2 50
Change in Demand(60-40) 20 Change in Demand (60-40) 20
Change in Demand %(20/40) 50% Change in Price (10-8) -2
Point Elasticity = CID%/CIP% (50%/-20%) -2.5 Change in Demand % = Change/Midpoint = 20/50 40%
Change in Price % = Change/Midpoint = -2/9 -22%
Arc Elasticity = CID%/CIP%=40%/-22% -1.82
Practice Question - 1
Given – Price of Product Y was revised last
month from 8$ to 11$ and the demand
dropped from 90 Units to 65 Units. The
management is considering the revision of
price from 11$ to 13$.
• Identify the Type of Elasticity?
• Calculate the Point and Arc Elasticity
Ratio?
• Determine the Probable demand in both
the scenarios?
• (Consider the Base Level Shift from Price
Points, while ER remaining the same)
Practice Question - 2
Given – Price of Product K was revised last
month from 16$ to 13$ and the demand
increased from 120 Units to 145 Units. The
management is considering the revision of
price from 13$ to 11$.
• Identify the Type of Elasticity?
• Calculate the Point and Arc Elasticity
Ratio?
• Determine the Probable demand in both
the scenarios?
(Consider the Base Level Shift from Price
Points, while ER remaining the same)-
Henceforth applicable to all problems
Other Types of Elasticity and Examples

Change in Price Change in Income Change in Price of Change in

Other Product Advertisement
(Substitute or Expenses
Complementary)
Type of Demand-A perspective
Summary and Recap of Key Learnings
1 Law – Price directly related to Supply, but inversely related to Demand

2 In real life situations there are many exceptions to the Law of Demand and Supply

3 5 Variations of Elasticity- Perfectly Elastic, Perfectly Inelastic, Relatively Elastic, Relatively Inelastic,
Unitary Elastic

4 Elasticity – Broadly 2 ways to calculate – Point Elasticity and Arc Elasticity

5 Key Types – Price , Income, Cross, Advertising Elasticity of Demand

6 Application in Pricing Decisions, Price Discrimination, Price+Supply Control Measures

7 Number of Market Forces team up along with Price Changes. Subjective Aspects e.g. Culture

8 Combo Quiz