1.

Prepare a graphical presentation of market equilibrium from the following data:

Demand (units) Supply (units)
Price (Birr) Demand (units) Supply (units)
1 500 100
2 400 200
3 300 300
4 200 400
5 100 500
Also, read the equilibrium price and equilibrium quantity from the graph, and
identify the market trends.

To graphically present the market equilibrium, we will plot the demand and supply curves on the
same graph. The equilibrium price and quantity will be where the two curves intersect.

Now, let's plot this on a graph:

- X-axis: Quantity (units)

- Y-axis: Price (Birr)

Plotting the Demand and Supply curves:

Demand curve: Connect the points (1, 500), (2, 400), (3, 300), (4, 200), (5, 100)

Supply curve: Connect the points (1, 100), (2, 200), (3, 300), (4, 400), (5, 500)

The point of intersection of the demand and supply curves represents the equilibrium point (E).

Price (birr)
S

E
3

300
Quantity (units) D
Figure1.1

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Equilibrium Price: The equilibrium price is where the quantity demanded equals the quantity
supplied. From the data, we can see that at a price of 3 Birr, both demand and supply are equal at
300 units.

Equilibrium Quantity: At the equilibrium price of 3 Birr, the equilibrium quantity is 300 units.

Identifying Market Trends:

- If the price is below the equilibrium price, there will be excess demand in the market.

- If the price is above the equilibrium price, there will be excess supply in the market.

- At the equilibrium price, demand equals supply, and the market is in equilibrium.

2. At Birr 5 per unit, a consumer buys 40 units of a commodity and the price
elasticity of his demand is 2. How much will he buy if the price reduces to
Birr 4 per unit, interpret the result and identify the type of commodities?

To calculate how much the consumer will buy when the price reduces to Birr 4 per unit, we can
use the price elasticity of demand formula:

Price Elasticity of Demand = (%change Q / % change P)

= (Q1-Q0/Q0)*100/(P1-P0/P0)*100

= (Q/P)/(P0/Q0)

Given:

Price elasticity of demand is = 2

Q0 = 40 birr

P0 = 5 birr

P1 = 4 birr

Required Q1?

Solution

Price Elasticity of Demand (€) = (%change Q / % change P)

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%Q = € * %P

= € * (P/P0)* 100

= 2*(4-5)/5 * 100

%Q = -40………….so by using above formula %P = -20

Price Elasticity of Demand (€) = (Q/P)/(P0/Q0)

Q= €*P*Q0/P0………………………..Q= Q1-Q0

Q1-Q0= €*P*Q0/P0

Q1= (€*P*Q0/P0) + Q0

= (2*(4-5)*40/5) + 40

= -16 + 40

= 24 units

Interpretation:

The negative % change in quantity demanded indicates that the consumer will buy fewer units
when the price decreases. This means that the demand for this commodity is elastic, as a small
decrease in price leads to a relatively larger decrease in quantity demanded by the consumer.

Type of Commodity:

Based on the price elasticity of demand being 2 (greater than 1), this commodity is considered to
be elastic. Elastic goods are usually non-essential or luxury items where consumers are more
sensitive to price changes.

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3. When the proportionate (or percentage) change in quantity demanded is
more than the proportionate (or percentage) change in price, what is the
elasticity of demand?

When the proportionate (or percentage) change in quantity demanded is more than the
proportionate (or percentage) change in price, the elasticity of demand is greater than 1,
indicating that the demand is elastic. This means that consumers are very responsive to changes
in price, and small changes in price lead to relatively large changes in quantity demanded.

4. Draw one or more upward sloping curves, and consider different points on them to find
the reason why an indifference curve does not slope upwards.

It is negative (slope downwards), because the consumption level of one commodity can be
measured only by reducing the conception level of the other commodity.

An indifference curve represents the different combinations of two goods that provide the
consumer with the same level of satisfaction or utility. Indifference curves are typically
downward sloping, indicating that as more of one good is consumed, the consumer is willing to
give up some of that good in exchange for more of the other good while remaining equally
satisfied.

The reason why an indifference curve does not slope upwards is because of the principle of
diminishing marginal rate of substitution (MRS). The MRS measures the rate at which a
consumer is willing to substitute one good for another while remaining on the same indifference
curve. It represents the amount of one good that a consumer is willing to give up in order to
obtain one more unit of the other good while maintaining the same level of satisfaction.

If an indifference curve were to slope upwards, it would imply that the consumer is willing to
give up more of one good in exchange for more of the other good, which contradicts the
principle of diminishing MRS. In reality, consumers generally exhibit diminishing marginal
utility for goods, meaning that as they consume more of a good, the additional satisfaction they
derive from each additional unit decreases. This leads to a downward-sloping indifference curve,
reflecting the trade-off between goods that consumers are willing to make in order to maintain a
constant level of satisfaction.

To introduce these it is useful to think of collections or bundles of goods. To simplify, let’s

identify two bundles, A and B. The way we think of preferences always boils down to
comparing two bundles. Even if we are choosing among three or more bundles, we can always
proceed by comparing pairs and eliminating the lesser bundle until we are left with our choice.

When we call something a good, we mean exactly that – something that a consumer likes and
enjoys consuming. Something that a consumer might not like we call a bad. The fewer bads

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consumed, the happier a consumer is. To keep things simple, we will focus only on goods, but it
is easy to incorporate bads into the same framework by considering their absence – the fewer the
bads the better.

The three fundamental assumptions about preferences are:

1. Completeness: We say preferences are complete when a consumer can always say one of the
following about two bundles: A is preferred to B, B is preferred to A or A is equally good as B

2. Transitivity: We say preferences are transitive if they are internally consistent: if A is

preferred to B and B is preferred to C, then it must be that A is preferred to C.

3. More is better: If bundle A represents more of at least one good, and no less of any other
good, then bundle A is preferred to B. This is often referred to as strict monotonicity of
preferences.

Figure 4.1

Think about indifference curves that slope upward as in figure 4.1. In this case we have two
bundles on the same indifference curve, A and B but B has more of both burritos and sandwiches
than does A. So this violates the assumption of more is better. More is better (or strict
monotonicity of preferences) implies indifference curves are downward sloping.

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