Course: Business Economics

Internal Assignment Applicable for December 2020 Examination

1. Suppose the demand equation for computers by Teetan Ltd for the year 2017 is given by
Qd= 1200-P and the supply equation is given by Qs= 120+3P. Find equilibrium price and analyse
what would be the excess demand or supply if price changes to Rs 400 and Rs 120.

Answer:

Law of Demand:-

The law of demand represents a functional relationship between the price and quantity demanded of a
commodity or service. The law states that the quantity demanded of a commodity increases with a fall in
the price of the commodity and vice versa while other factors like consumers’ preferences, level of income,
population size, etc. are constant. Demand is a dependent variable, while price is an independent variable.
Therefore, demand is a function of price and can be expressed as follows:

D= f (P)
Where D = Demand, P= Price, f = Functional Relationship

The law of demand is based on the following assumptions:

 The income of the consumer remains constant.
 Consumer tastes and preferences remain constant.
 Price of related goods remains unchanged.
 Population size remains constant.
 Consumer expectations do not change.
 Credit policies remain unchanged.
 Income distribution remains constant.
 Government policies remain unchanged.
 The commodity is a normal commodity.
Example: Assume that there are two individuals A and B in the market. They have particular individual
demand for Apples. Below is a sample demand schedule where demand decreases with the increase in
price of Apple per kg.

Individual And Market Demand For Apple

Price per kg Quantity Demanded Quantity Demanded Total Market Demand (A +
by A (in kg per week) by B (in kg per week) B) (in kg per week)
115 9 8 17
120 7 6 13
125 6 5 11
140 4 4 8
150 2 3 5
 18
17
16

14
13
12
11
10
A
9
B
8 8 8
A +B
7
6 6 6
5 5
4 4
3
2 2

0
115 120 125 140 150

Law of Supply:-

The law of supply explains the relationship between price and supply of a product. According to the law,
the quantity supplied increases with a rise in the price of a product and vice versa while other factors are
constant. The other factors may include customer preferences, size of the market, size of population, etc.
For example, in the case of rise in a product’s price, sellers would prefer to increase the production of the
product to earn high profits, which would automatically lead to an increase in supply. Similarly, if the price
of the product decreases, the supplier would decrease the supply of the product in the market as he/ she
would wait for a rise in the price of the product in the future.
Thus, the law of supply states a direct relationship between the price of a product and its supply.
Therefore, both price and supply moves in the same direction. To understand the law of supply, it is
important to discuss the concepts of supply schedule and supply curve.

Supply function is the mathematical expression of law of supply. In other words, supply function quantifies
the relationship between quantity supplied and price of a product, while keeping the other factors at
constant. The law of supply expresses the nature of relationship between quantity supplied and price of a
product, while the supply function measures that relationship. The supply function can be expressed as:

Qs = f (Pa, Pb, Pc, T, Gp) Where,

Qs = Supply
Pa = Price of the good supplied
Pb = Price of other goods
Pc = Price of factor input
T = Technology
Gp = Government policy

According to supply function, the quantity supplied of a good (Qs) varies with price of that good (Pa), the
price of other goods (Pb), the price of factor input (Pc), technology used for production (T), and
Government policy (Gp).
The law of supply works on certain assumptions which are given as follows:
 Income of buyers and sellers remains unchanged.
 The commodity is measurable and available in small units.
 The tastes and preferences of buyers remain unchanged.
 The cost of all factors of production does not change over a period of time.
 The time period under consideration is short.
 The technology used remains constant.
 The producer is rational.
 Natural factors remain stable.
 Expectations of producers and the government policy do not change over a period of time.

Example: Assume that there are two firms A and B in the market. They have particular individual supply for
Apples. Below is a sample supply schedule where quantity of supply by the firm increases with the increase
in the price of apples.

Market Supply Schedule For Apples

Price of Apples Quantity supplied by Quantity supplied by Firm Market Supply (100 kg
(per kg) Firm A (100 kg per week) B (100 kg per week) per week)
120 2 3 5
125 4 5 9
130 6 8 14
140 8 10 18

20

18 18

16

14 14

12
A
10 10
9 B
8 8 8 A +B

6 6
5 5
4 4
3
2 2

0
120 125 130 140

Equilibrium Point:-

According to the economic theory, the price of a product in a market is determined at a point where the
forces of supply and demand meet. The point where the forces of demand and supply meet is called
Equilibrium point. Conceptually, equilibrium means state of rest. It is a stage where the balance between
two opposite functions, demand and supply, is achieved. Mathematically, market equilibrium is expressed
as:
Qd (P) = Qs (P)

Where

Qd (P) is the quantity demanded at price P

Qs (P) is the quantity supplied at price P

At equilibrium price, the quantity demanded is equals to the quantity supplied to the market.
This implies that Demand = Supply,
Qd=Qs

According to Question:-

Qd = 1200 -P
Qs = 120 + 3P

1200-P = 120+3P

Solving the above, we get 4P = 1080. Hence Equilibrium price P = Rs 270

When price Rises to Rs 400

Qs=120 + (3×400)
Qs = 1320
Qd = 1200 - 400 = 800

Therefore Qs > Qd at Price P = 400

From the above price Rd = 400, we can say that there is more supply than Demand because the price
is high.

When Price rises to Rs 120

Qs = 120 + (3 × 120)

Qs = Rs 480

And

Qd = 1200 - 120 = Rs 1080

Therefore Qd > Qs at Price P = 120

The above price change implies that there is more demand than supply as the price is low.