ECN 51 - Unit 2

MARKET
MECHANISM
BY: ERICSON R PAMBID

CBEA
MARKET
MECHANISM
Definition:
In economics, the market mechanism is a mechanism by
which the use of money exchanged by buyers and sellers with
an open and understood system of value and time trade-offs in
a market tends to optimize distribution of goods and services in
at least some ways.
This unit aims to show that demand and supply are
the main forces that cause prices to increase or
decrease. The chapter also tries to explain why an
increase in the price of a commodity will make
consumers want to buy less of it and producers
want to sell more and why a price decrease will
cause the opposite reaction.
Terms to remember
• Market - a place where buyers and sellers • Shift of the curve - a change in the entire curve
interact and engage in exchange. caused by a change in the entire demand or
• Demand - reflects the consumer's desire for supply schedule.
a commodity. • Nonprice factors - also known as parameters,
• Supply - the amount of a commodity are factors other than price that also affect
available for sale. demand or supply.
• Aggregate demand - the totality of a group • Demand function - shows how quantity
of consumer's demand. demanded is dependent on its determinants.
• Aggregate supply - the totality of a group of • Supply function - shows how quantity supplied
producer's supply. is dependent on its determinants.
• Demand schedule - the quantities • Equilibrium - condition of balance or equality.
consumers are willing to buy of a good at • Price ceiling - is maximum limit at which the
various prices. price of a commodity is set.
• Supply schedule - the quantities producers • Price floor - a minimum limit beyond which
are willing to offer for sale at various prices. the price of a commodity is not allowed to fall.
• Movement along the curve - a change from • Surplus - an excess of supply over the demand
one point to another on the same curve. for a good.
demand
The demand of a product is defined as the
quantity that buyers are willing to buy
Demand schedule
It shows the quantity of the product demanded a
consumer or an aggregate of consumers at any given
price. Also, the demand schedule must specify the time
period during which the quantities will be bought.
Hypothetical Market Demand Schedule for X Per Week
Price of X (Pesos per kilo) Quantity Demanded (in kilos)
45 100
40 150
The quantity demanded values
are rates of purchases at
35 200
alternative prices
30 250
25 300
20 350
Demand curve Hypothetical Market Demand Curve for
One Week
It is a graphical presentation
50
of the demand schedule. It 45
contains the same prices and 40
quantities presented in the 35
Price per Kilo (in Peso)

demand schedule. 30
25
Hypothetical Market Demand Schedule for X Per Week
20
Price of X (Pesos per kilo) Quantity Demanded (in kilos)
45 100 15
40 150 10
35 200
5
30 250
0
25 300 100 150 200 250 300 350
Quantity Demanded (in Kilos)
20 350
Demand curve 50
Hypothetical Market Demand Curve for
One Week
45
40
The normal demand curve 35

slopes downward from left 30
to right. Any point on the 25
demand curve reflects the 20
quantity that will be bought 15
at the given price. 10
0
100 150 200 250 300 350
Law of Demand 50
Hypothetical Market Demand Curve for
One Week
After analyzing the presented 45
relationship, we can now state that: 40
35

as price (P) , 30
quantity demanded (QD)  25
20
but 15
10
as price (P) , 5
quantity demanded (QD)  0

100 150 200 250 300 350
Changes in quantity demanded and Hypothetical Market Demand Curve for
One Week
movements along the demand curve 50
45
Looking back at the graph, 40

the consumers are willing to buy 250
kilos of X when price is 30.
35

30
A drop in price to P25 will, however,

25
attract the consumers to increase 20
their purchase to 300 kilos. 15
10
This movement along the demand 5
curve is described as 0
100 150 200 250 300 350
change in quantity demanded. Quantity Demanded (in Kilos)
Ceteris paribus assumption
There are factors other than price which also
influences the quantity of demanded namely:
tastes and preferences, income, expectation on

future prices, prices of related goods like
substitutes and complements and the size of Ceteris Paribus
the population. =
Holding other
Therefore, the functional relationship between factors constant
price and quantity demanded is essential since
these non price factors are assumed as
constant. The Law of Demand now states,
Assuming other things constant, price and

quantity demanded are inversely proportional.”
Changes IN DEMAND AND Hypothetical Shift of Demand Curve for
SHIFTS IN THE DEMAND CURVE

One Week
50
If the ceteris paribus assumption is 45
dropped, then changes in the 40
nonprice factor shall take place. This 35

will result in a change in the position 30
of slope of the demand curve and a 25 D2

change in the entire schedule. 20
D1
15
The increase or decease in the 10
entire demand is shown through a 5
shift of the entire demand curve 0
and referred to as a change in 100 150 200 250 300

350
demand

One Week
50
45
The graph shows a shift of the 40
demand curve from D1 to D2. 35
This is a rightward shift and

30
reflects an increase in actual 25 D2

demand at every price level. At a 20
price of P40, original demand D1
amounted to 150 kilos per week;
15
whereas the increase in consumer

10
income, the new demand now

5
corresponds to 200 kilos per week 0

100 150 200 250 300 350

One Week
50
45
The following changes in the nonprice factors
may cause the corresponding shift in the 40
demand curve: 35

Increase in income – shift to the right 30
Decrease in income – shift to the left 25 D2

Greater taste/preference – shift to the right
Less taste/preference – shift to the left 20 D1
Increase in population – shift to the right 15
Decrease in population – shift to the left D3
Greater speculation – shift to the right 10
Less speculation – shift to the left 5
D1 to D2 – shift to the right 0

100 150 200 250 300 350
D1 to D3 – shift to the left Quantity Demanded (in Kilos)
supply
The concept of supply shows the seller’s
side of the market
supply SCHEDULE and supply curve Hypothetical Market Supply Curve
for One Week
The supply of a product is defined 50
as the quantity that sellers are 45

willing to sell. The supply schedule
shows the quantities that are
40
offered for sale at various prices, 35

ceteris paribus. 30
25
Hypothetical Market Supply Schedule for X Per Week
Price of X (Pesos per kilo) Quantity Supplied (in kilos) 20
45 180 15
40 150
10
35 120
5
30 90
25 60 0
30 60 90 120 150 180
20 30 Quantity Supplied (in Kilos)
for One Week
We can see that the higher prices 50
serve as incentives for the sellers to 45

offer more X for sale, while low
prices discourage them from
40
offering more quantities to sell. 35

30
25
Hypothetical Market Supply Schedule for X Per Week
Price of X (Pesos per kilo) Quantity Supplied (in kilos) 20
45 180 15
40 150
10
35 120
5
30 90
25 60 0
30 60 90 120 150 180
20 30 Quantity Supplied (in Kilos)
for One Week
50
45
40
The supply curve is upward 35
sloping from left to right. It

30
shows a direct relationship 25
between prices and quantity 20

supplied, ceteris paribus. 15
10
0
30 60 90 120 150 180
Quantity Supplied (in Kilos)
Law of supply Hypothetical Market Supply Curve
for One Week
50
After analyzing the presented 45
relationship, we can now state that: 40
35
as price (P) ,

30
quantity supplied (QS)  25
20
but 15
as price (P) ,
10
quantity supplied (QS) 

5
0
30 60 90 120 150 180
Hypothetical Shift of Supply Curve
There are also non price determinants that for One Week
influences supply. These include cost of 50
production, availability of economic 45
resource, number of firms in the market, 40
technology applied, and producer’s goals. 35

Under the ceteris paribus assumption, these 30
factors are again assumed constant to 25
enable us to analyze the effect of a change 20
in price on quantity supplied. 15
The law of supply now states, “other things

10
assumed as constant, price and quantity 5
supplied are directly proportional 0

30 60 90 120 150 180
Changes in quantity supplied and Hypothetical Shift of Supply Curve
movements along the supply curve 50
for One Week
Consider the price of P25 per kilo. At

45
the price, the sellers will offer for sale

40
60 kilos of X. 35

30
Should there be an increase in price 25
to P30, quantity supplied will increase 20
to 90 kilos. 15
10
This is reflected as a movement along 5
the supply curve and is referred to as 0
change in the quantity supplied.

30 60 90 120 150 180
Changes in supply and Hypothetical Shift of Supply Curve
shifts of the supply curve 50
for One Week
If the ceteris paribus assumption is 45
dropped, which means changes in nonprice 40

factors shall now take place. This will result
in a change in the position or slope of the
35

supply curve and a change in the entire 30
supply schedule. 25 S2
The increase or decease in the supply is 20 S1
also shown through a shift of the entire
supply curve.
15 S3
Factors like the use of improved technology, 10
increase in the number of sellers in the 5
market and decrease in the cost of 0

production, may all cause an increase in the 30 60 90 120 150 180
actual supply.
for One Week
At a price of P40, whereas quantity supplied 45
used to be 150 kilos, the new supply at that 40

price is now 180 kilos which is on a point on
the new supply curve.
35

30
Thus, the rightward shift of the supply 25 S2

curve is the effect of an increase in 20 S1
supply caused by a change in the
nonprice factor. In the same manner, a
15 S3
leftward shift of the supply curve will 10
reflect the decrease in supply. 5
0
30 60 90 120 150 180
for One Week
The following changes in the nonprice factors may

45
cause the corresponding shift in the supply curve: 40
Increase in the number of sellers – shift to the right

35

Decrease in the number of sellers – shift to the left 30
Better technology – shift to the right
Decrease in the cost of production – shift to the right
25 S2
Goals of the firm – it depends 20 S1
S1 to S2 – shift to the left
15 S3
S1 to S3 – shift to the right 10
0
30 60 90 120 150 180
MARKET EQUILIBRIUM
Demand and Supply should eventually be analyzed as one
since the market operates within the forces of both
demand and supply. Combining their curves will show the
point of market equilibrium. This equilibrium is attained at
the point where demand is equal to supply.
Market Equilibrium Hypothetical Shift of Supply Curve
for One Week
60
Demand = Supply
55 55
at P40
50 50 50
At this price, QS = 150 kilos 45 45
40 40 Demand = Supply

All quantity that is offered for sale will be 35 35
bought by the consumers, and all the 30 30 30
demand of the consumers will be met by 25 25

D1
the quantity offered by the sellers. 20
S120
This is the ideal situation. Any price above or 10
below P40 will be temporary because prices

will revert to the equilibrium level. 0
30 60 90 120 150 180 210 240
Quantity (in Kilos)
for One Week
Let us consider the price of P45 in the 60
graph. This is a price above the equilibrium 55 55
price. At this price, the QD is only 120 kilos 50 50 Surplus Supply 50
while the sellers be attracted to offer a 45 45
bigger quantity, and this is 180 kilos. There 40 40 Demand = Supply

is 60 kilos representing a surplus of goods 35 35
that would be unsold if sellers maintained 30 30 Excess Demand 30
their price at that level. To dispose of these 25 25

D1
unsold goods, sellers must lower their prices 20
S120
and the price level will ultimately settle at
equilibrium price. 10
Surplus Supply or Surplus 0

30 60 90 120 150 180 210 240
Quantity (in Kilos)
for One Week
Let us now take the other extreme. What 60
happens at a price of P35, which is lower than
equilibrium price. This low price will attract
55 55
Surplus Supply
the buyers to demand for more. In the graph,
50 50 50
QD corresponds to 180 kilos. On the other 45 45
hand, the low price will discourage the sellers 40 40 Demand = Supply

from offering more. QS at the price of P35 is 35 35
down at 120 kilos. The difference of 60 kilos 30 30 Excess Demand 30
represents a shortage of the product. The 25 25

D1
consumer’s demand for it will not be 20
S120
completely met. To fully exploit demand, the
consumers should be willing to pay more and 10
revert the price level to P40 where supply

meets demand. 0
30 60 90 120 150 180 210 240
Quantity (in Kilos)
Excess Demand or Shortage
Shifts to Both the Demand
and Supply Curves
The point of equilibrium is subject to change Shifts in
either the demand curve alone, or the supply curve alone,
or in both the demand and supply curves at the same
time can cause a change in the equilibrium point.
For example, a rightward shift of the supply curve, with
the original demand curve maintained, will result in a
decrease in the equilibrium price as shown in the
following figure:
and Supply Curves S1
S2
In the graph, the original A

P3
equilibrium price is at P3 per kilo.
Price (per kilo)

The rightward shift of the supply
curve has caused the equilibrium B
P2
price to drop to P2 per kilo.
A hypothetical shift in the market

supply curve with demand curve d1
kept constant.
Q1 Q2
Quantity (in kilos)
and Supply Curves
In the like manner, a shift of the S1
demand curve with the original
supply curve maintained will
cause a change in the equilibrium P4
B
point.
Price (per kilo)

In the graph, a rightward shift of P3
A
the demand curve, with the supply d2

curve maintained, has caused the Excess Demand (Q3-Q1)
equilibrium price from P3 to P4
per kilo. d1
A hypothetical shift of the market

demand curve with supply curve Q1 Q2 Q3
kept constant. Quantity (in kilos)
Shifts to Both the Demand S1
and Supply Curves

Let us now consider a simultaneous S2
shift in both the demand and supply
curve as shown in the graph.
A B
In the graph, both the demand and P3
suppl curves show a rightward shift.
Price (per kilo)

Since the increase in demand is
proportionate to the increase in supply,
the equilibrium price is maintained at d2
P3 per kilo. However, the new
equilibrium point corresponds to a
bigger quantity which is now Q5 kilos.
d1
A hypothetical shift of the market
demand and market supply curves.
Q3 Q5
Quantity (in kilos)

The Dynamics
of demand and supply
We shall now illustrate several examples of how we move
from an original equilibrium to a new equilibrium position
over time as a result of a shift of either the demand curve
or the supply curve of a commodity.
Shifts in demand
Let us assume that these are the 100
S
market demand and supply 90
conditions for beef per day in
Manila.
80
75
70
We can see in the graph that at a 60
Price (Peso)
price of P75, the quantity that 50
d
consumers are willing to buy

which is 1,500 kilos, is equal to the
40
quantity the producers are 30
offering for sale, which is also 20
1,500 kilos. This is therefore our 10
equilibrium position, a price of 0

P75 and a quantity of 1,500 kilos. 500 1000 1500 2000 2500 3000 3500
Quantity (in Kilos)
Shifts in demand Shift of Demand to the right
100
S
Supposing a month later, a new
90
minimum wage law is 80
implemented, granting the

75
70
workers an increase in their 60

d2
incomes and resulting in the
Price (Peso)
d1
willingness of Manila consumers
50
to increase their daily 40
consumption of beef. This results 30
in a new equilibrium position as 20
shown in the graph. 10
0
500 1000 1500 2000 2500 3000 3500
Quantity (in Kilos)
Shifts in demand Shift of Demand to the right
100
S
A rightward shift of the demand curve is 90
shown in the graph. This reflects an 80

increase in demand which resulted from 75
the increased wages. Since income is

70
d2
nonprice determinant of demand, its 60
change causes a shift of the entire
Price (Peso)
d1
demand curve. Thus, d2 reflects higher
50
quantities demanded of beef at the price 40
schedule ranging from P60 to P90 in the

30
graph. This shift has resulted in a new
equilibrium position at a higher 20
equilibrium price of P80 and a higher 10

equilibrium quantity of 2,000 kilos.
0
500 1000 1500 2000 2500 3000 3500
Quantity (in Kilos)
Shifts in demand Shift of Demand to the left
100
S
Let us now study a reverse 90
situation. Let us say that the 80
consumer's demand for beef 75

70
decreases as a result of a price
decrease for pork. The
60
Price (Peso)
d1
consumers now tend to 50
d2
substitute pork for beef resulting 40
in a decreased demand for beef. 30
Since the price of a substitute 20

good is nonprice determinant of
demand, this will cause a shift of 10
the entire demand curve. 0

500 1000 1500 2000 2500 3000 3500
Quantity (in Kilos)
Shifts in demand Shift of Demand to the left
In this graph, we see leftward shift of 100

S
the demand curve from d1, to d2. This 90
shows a decrease in demand as a
result of the consumer's willingness
80
75
to substitute pork for beef because 70
of the lower price of pork in the 60
Price (Peso)
market. This new demand curve 50
d1
reflects a lower quantities of beef d2

purchased at the various prices. The
40
downward shift of the demand curve 30
has resulted in a new equilibrium 20
position at a lower equilibrium price 10
of P70 and a lower equilibrium 0

quantity of 1,000 kilos. 500 1000 1500 2000 2500 3000 3500
Quantity (in Kilos)
Shifts in supply Shift of Supply to the right
100
S1
Let's say that a breakthrough in cow
90
breeding technology results in an
increased supply of cows and more beef is 80 S2
now available for sale in Manila. This
75
70
change is now illustrated in the next graph. 65
60
Price (Peso)
Since improved technology is a non price 50
determinant of supply, the entire supply
curve shifts to the right resulting in a new 40
equilibrium position: a lower equilibrium 30

d1
price of P65 and a higher equilibrium
quantity of 2,000 kilos. The new supply 20
curve S2 reflects higher quantities of beef 10

supplied at the given prices.
0
500 1000 1500 2000 2500 3000 3500
Quantity (in Kilos)
Shifts in supply Shift of Supply to the left
Let us again take a reverse situation. Let's say 100

S2
that a cow pestilence in Mindanao results in a 90
death of a considerable number of cattle and S1
less beef is now available for sale in Manila. This 80
will result in a downward shift of the supply 75
curve as illustrated in the graph. 70
d1
60
As a result of the change in the nonprice
Price (Peso)
determinant, the supply curve has shifted to the 50
left. This new supply curve reflects smaller
quantities of beef supplied at the various prices.
40
The above change has resulted in a new 30

equilibrium position at a higher equilibrium
price of P80 and a lower equilibrium quantity of 20
1,000 kilos.
10
0
500 1000 1500 2000 2500
Quantity (in Kilos)
Simultaneous shifts Shift of Supply to the left
in demand and supply
120
Let us now illustrate a case in a longer run period,

where demand and supply curves undergo shifts S1
100
simultaneously.
Let’s say that an increased demand for beef in Manila S2

is met by an increased shipment of beef from 80
Mindanao to Manila. Both the demand and supply
Price (Peso)
curve shall shift to the right as a result of these
changes. 60 d2
The new supply curve S2 reflects higher quantities

supplied at various prices and the new demand curve 40
d1
d2 reflects higher quantities demanded at various
prices. The rightward shift of both curves has resulted
in a new equilibrium position at the intersection S2 20
and d2. Because the increase in demand was matched
by proportionate increase in supply, equilibrium price
has remained constant at P70 while a new equilibrium 0
quantity is now 2,500 kilos. 500 1000 1500 2000 2500 3000
Quantity (in Kilos)
Given:
Qd = 60 – P/2
SAMPLE Qs = 5 + 5P
Prices: 0, 2, 4, 6, 8, 10, 12, 14, 16
PROBLEMS
Construct the demand and supply curve.
Plot the points in a single graph. Identify the
equilibrium price and quantity
Based on the following functions for Given:

demand and supply, compute the demand and supply Qd = 200 – 5P
schedules: Qs = 110 + 10P
Prices: 2, 4, 6, 8, 10
Qd = 500 – 20P
Qs = 50 + 10P Construct the demand and supply curve.
Prices: 5, 10, 15, 20, 25 Plot the points in a single graph. Identify the
equilibrium price and quantity
Plot the above schedules on a single graph.
Identify the equilibrium price and equilibrium Suppose that the price increases by 10
quantity. Indicate also the Surplus and Shortage in the pesos, what happens to the demand curve? Add
graph. another column to show the points of the new
demand curve. Show the new D2 in the graph.
Elasticities
of demand and supply
Learning outcomes
At the end of the lesson, you will be able to:
1. define and describe elasticity;
2. describe the different classifications of elasticity;
3. compute for the price elasticity of demand, income elasticity of
demand, cross price elasticity of demand, and price elasticity of
supply.
Elasticity
• Elasticity is the measure of responsiveness, or it is a measure of how much
buyers and sellers respond to changes in market conditions.
• It is the ratio of the percent change in one variable to the percent change in
another variable.
• The key thing to understand is that we use elasticity when we want to see
how one think changes when we change something else.
• Elasticity various among products because some of them may be more
essential to the consumer. (Ex. Essential goods, luxury goods, substitute
goods or complimentary goods).
• Elasticities are often used in demand analysis to measure the effect of
changes in demand-determining variables.
• It is also used in production and cost analysis to evaluate the effect of
changes in input on output, and the effect of output changes on costs.
In term of how responsive of demand and supply are, degrees of
elasticity may either be:
1. Elastic – a change in a determinant will lead to a proportionately greater change in
demand and supply. The absolute of the coefficient of elasticity is greater than one.
Example: If the price of LPG increases by 10% and as a result the quantity
demanded goes down by 12%, then we say that the demand for LPG is elastic.
2. Inelastic - a change in a determinant will lead to a proportionately lesser change in

demand or supply. The absolute value of the coefficient of elasticity is less than one.
Example: Suppose the price of cellphone load goes up by 5% and the quantity
demanded goes down by 3%, then we can say that demand for cellphone load is
inelastic.
3. Unitary Elastic - a change in a determinant will lead to a proportionately equal change

in demand or supply. The absolute value of the coefficient of elasticity is equal to one.
Example: Let us say that the price of string beans goes down by 6% and as a result
the quantity demanded goes up by 6% also, we describe the demand for string beans
as unitary elastic.
Three types
of Elasticity of demand
1. Price Elasticity of Demand
a. Arc Elasticity
b. Point Elasticity
2. Income Elasticity of Demand
3. Cross Price Elasticity of Demand
1. Price elasticity of demand
This measures the responsiveness of demand to a
change in the price of the good. The concept of
elasticity is measured in percentage changes. The
value of price elasticity may be measured in two
ways:
a. Arc Elasticity
b. Point Elasticity
arc elasticity
The value of elasticity is computed by choosing two
points on the demand curve and comparing the
percentage changes in the quantity and the price
on those two points.
𝑄2 − 𝑄1 Where:
(𝑄2 + 𝑄1)ൗ Q2 = new quantity demanded
𝐴𝑟𝑐 𝑒𝑙𝑎𝑠𝑡𝑖𝑐𝑖𝑡𝑦 (𝐸𝑎) = 2 Q1 = original quantity demanded
𝑃2 − 𝑃1 P2 = new price of the good
(𝑃2 + 𝑃1)ൗ P1 = original price of the good
2
1.a. arc elasticity
Normally, coefficient of the price elasticity of demand has a negative sign because it
reflects the inverse relationship between price and the quantity demanded.
The size of the coefficient, regardless of the negative sign, will signify the nature of the
good involved. When price elasticity of demand is greater than 1, this signifies that the
demand is elastic since the percentage change in the quantity demanded is greater than
the percentage change in price. Therefore, the good is non-essential since consumers will
respond greatly to a change in price.
When price elasticity of demand is less than 1, this signifies that demand is inelastic since
the percentage change in quantity demanded is less than the percentage change in price.
Therefore, the good is essential since consumers will show a slight response to a change
in price.
When the coefficient of price elasticity is equal to 1, the demand for the product is
unitary elastic, suggesting proportionate changes in quantity demanded and the price of
the good.
Sample problem
If price increases from P10 to P14 and quantity demanded falls from 60 to 40
units, what is the elasticity of demand?
𝑄2 − 𝑄1 40 − 60
(𝑄2 + 𝑄1)ൗ (40 + 60)ൗ −20
𝐸𝑎 = 2 𝐸𝑎 = 2 𝐸𝑎 = 50
𝑃2 − 𝑃1 14 − 10 4
(𝑃2 + 𝑃1)ൗ (14 + 10)ൗ 12
2 2
Degree of Elasticity:
−0.4
𝐸𝑎 =
0.33
𝐸𝑎 = −1.21 Elastic
Ep > 1
Sample problem
Yesterday, the price of envelopes was P3 a box, and Julie was willing to buy 10 boxes. Today, the
price has gone up to P3.75 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?
𝑄2 − 𝑄1 8 − 10
(𝑄2 + 𝑄1)ൗ (8 + 10)ൗ −2
𝐸𝑎 = 2 𝐸𝑎 = 2 𝐸𝑎 = 9
𝑃2 − 𝑃1 3.75 − 3 0.75
(𝑃2 + 𝑃1)ൗ (3.75 + 3)ൗ 3.38
2 2
−0.22
𝐸𝑎 =
0.22
𝐸𝑎 = −1.0 Unitary Elastic
Ep = 1
Sample problem
If price increases from P8 to P12 and quantity demanded decreases from 6 to 4 units, what is the
elasticity of demand?
𝑄2 − 𝑄1 4 −6
(𝑄2 + 𝑄1)ൗ (4 + 6)ൗ −2
𝐸𝑎 = 2 𝐸𝑎 = 2 𝐸𝑎 = 5
𝑃2 − 𝑃1 12 − 8 4
(𝑃2 + 𝑃1)ൗ (12 + 8)ൗ 10
2 2
−0.4
𝐸𝑎 =
0.4
𝐸𝑎 = −1.0 Unitary Elastic
Ep = 1
1.B. point elasticity
Measures the degree of elasticity on a single point
on the demand curve. Changes on a single point
are infinitesimally or extremely small.
Where:
𝑄2 − 𝑄1 𝑃 Q2 = new quantity demanded
𝑃𝑜𝑖𝑛𝑡 𝑒𝑙𝑎𝑠𝑡𝑖𝑐𝑖𝑡𝑦 𝐸𝑝 = Q1 = original quantity demanded
𝑄 𝑃2 − 𝑃1
P2 = new price of the good
P1 = original price of the good
Price elasticity is important to the seller since it gauges how far demand can
change relative to price. The price elasticity of demand measure how far
consumers are willing to buy a good especially when its price rises reflective of
the economic, social and psychological forces shaping consumer preference
Sample problem
Point Price Quantity Compute for the point elasticity for a
change from point B to C.
A 10 400
B 20 300
𝑄2−𝑄1 𝑃
C 30 200 Ep= 𝑄 𝑃2 −𝑃1
D 40 100
200−300 20 −100 20 Ep= −.33 2 Ep= −0.66

Ep= 300 30 −20
Ep= 300 10
Inelastic
Ep < 1
2. Income elasticity of demand
This measures how the quantity demanded
changes as consumer income changes.
𝐷2−𝐷1 𝐷2−𝐷1
𝐷 𝑌 % 𝐷2− 𝐷1
𝐼𝑛𝑐𝑜𝑚𝑒 𝑒𝑙𝑎𝑠𝑡𝑖𝑐𝑖𝑡𝑦 𝐸𝑖 = 𝐷
𝑌2 −𝑌1 or 𝑌2−𝑌1
x 𝐷
or % 𝑌2− 𝑌1
𝑌
Where:
D2 = new demanded
D1 = original demanded
Y2 = new income
Y1 = original income
A positive sign of Ei signifies that the good demanded is a normal good, which is what a consumer
tends to buy more when his income increases. This is true for steak, pizzas, and luxury items. The
negative (-) sign for IE indicates the demand for inferior goods, which are goods that are bought when
incomes are low because low incomes prevent the consumers from buying higher priced goods.
3. Cross price elasticity of demand
This measures how quantity demanded changes as the price of a related good changes. Cross
elasticity (CE) measures the responsiveness of the demand for a good to the change in the price
of a substitute good or a complement.
Earlier in this chapter, we discussed what substitute goods are and what complements are. A +
(positive) sign for CE signifies that the two goods involved are substitute goods which means that
as the price of the substitute good increases, the demand for the other good will increase. This is
true for rice and bread, which are substitute goods. If the price of bread goes up, consumers will
substitute rice for bread; thus, the demand for rice increases.
The - (negative) sign for CE indicates that the two goods are complements, which means that the
demand for a good will increase when the price of a complement decreases. On the other hand,
CE for cellphones and cellphone loads is negative. Since these two goods are used together, the
price of one will affect the demand for the other. If the price of cellphone load increases
significantly, the demand for cellphones will tend to decline.
3. Cross price elasticity of demand
The coefficient of cross elasticity of demand measured the
percentage change in the demand of Good X which is a shift of
the demand curve, in response to a percentage change in the
price of Good Y thus:
∆𝑄𝑥
𝑄𝑥 ∆𝑄𝑥 𝑃𝑦 % ∆𝑄𝑥
𝐶𝑟𝑜𝑠𝑠 𝑒𝑙𝑎𝑠𝑡𝑖𝑐𝑖𝑡𝑦 𝐸𝑐 = ∆𝑃𝑦 or 𝑄𝑥
x
∆𝑃𝑦
or % ∆𝑃𝑦
𝑃𝑦
Where:
Q = quantity
P = price

ECN 51 - Unit 2

Uploaded by

Document Information

Original Title

Copyright

Available Formats

Share this document

Share or Embed Document

Sharing Options

Did you find this document useful?

Is this content inappropriate?

Copyright:

Available Formats

ECN 51 - Unit 2

Uploaded by

Copyright:

Available Formats

MARKET

BY: ERICSON R PAMBID

of the demand schedule. It 45

contains the same prices and 40

quantities presented in the 35

Price per Kilo (in Peso)

The normal demand curve 35

Price per Kilo (in Peso)

to right. Any point on the 25

demand curve reflects the 20

quantity that will be bought 15

at the given price. 10

After analyzing the presented 45

relationship, we can now state that: 40

Price per Kilo (in Peso)

quantity demanded (QD)  25

quantity demanded (QD)  0

Looking back at the graph, 40

Price per Kilo (in Peso)

A drop in price to P25 will, however,

attract the consumers to increase 20

their purchase to 300 kilos. 15

This movement along the demand 5

tastes and preferences, income, expectation on

Assuming other things constant, price and

SHIFTS IN THE DEMAND CURVE

If the ceteris paribus assumption is 45

dropped, then changes in the 40

nonprice factor shall take place. This 35

Price per Kilo (in Peso)

of slope of the demand curve and a 25 D2

The increase or decease in the 10

entire demand is shown through a 5

shift of the entire demand curve 0

and referred to as a change in 100 150 200 250 300

SHIFTS IN THE DEMAND CURVE

The graph shows a shift of the 40

demand curve from D1 to D2. 35

This is a rightward shift and

Price per Kilo (in Peso)

reflects an increase in actual 25 D2

whereas the increase in consumer

income, the new demand now

corresponds to 200 kilos per week 0

SHIFTS IN THE DEMAND CURVE

Price per Kilo (in Peso)

Decrease in income – shift to the left 25 D2

Less speculation – shift to the left 5

D1 to D2 – shift to the right 0

as the quantity that sellers are 45

offered for sale at various prices, 35

Price per Kilo (in Peso)

serve as incentives for the sellers to 45

offering more quantities to sell. 35

Price per Kilo (in Peso)

The supply curve is upward 35

sloping from left to right. It

Price per Kilo (in Peso)

shows a direct relationship 25

between prices and quantity 20

After analyzing the presented 45

relationship, we can now state that: 40

Price per Kilo (in Peso)