CHAPTER 2

THE LAW OF DEMAND

AND SUPPLY
 In an economy, where prices are continuously rising people
have always wondered what factors cause prices to fluctuate.

This chapter aims to show that demand and supply are the
main forces that causes prices to increase or decrease.
 In a market economy, the forces of demand and supply play a
very significant role in the determination of what goods to produce and
at what prices they should be sold.

This chapter shall analyze demand and supply first separately and
alter on combined in an attempt to show how they work together in a
market system.
 DEMAND
Demand Schedule and Demand Curve
The demand for a product is defined as the quantity that buyers are willing
to buy. The demand schedule shows the quantity of the product demanded by a
consumer or an aggregate of consumers at any given price.

Therefore, the demand function shows how the quantity demanded of a

particular good responds to price change. In addition, the demand schedule
must specify the time period during which the quantities will be bought. This
is best illustrated by Table 2.1
 TABLE 2.1
Hypothetical Market Demand Schedule for X Per
Week
Price of X (per kilo) Quantity Demanded (in
kilos)
P45 100

40 150

35 200

30 250

25 300

20 350
Figure 2.1 Hypothetical Market Demand Curve for One Week
 The demand curve is a graphical presentation of the demand
schedule and therefore, contains the same prices and quantities
presented in the demand schedule. Plotting the data from Table 2.1, we
now arrive at the following figure: Figure 2.1

The normal demand curve slopes downward from left to right.

Any point on the demand curve reflects the quantity that will be bought
at the given price.
 The Law of Demand

After analyzing the above relationship, we can now state

that as price increases, the quantity demanded of the product
decreases, but as price decreases, the quantity purchased will
instead increase.
 Changes in Quantity Demanded and
Movements along the Demand Curve

Looking back at Figure 2.1, the consumers are willing to buy

250 kilos of x when price is P30. A drop in the price to P25 will,
however, attract the consumers to increase their purchase to 300
kilos. This is a movement from point D to point E along the
demand curve and described as a change in quantity demanded.
 Ceteris Paribus Assumption

Let us now restate the Law of Demand by taking into account

that there are factors other than price which also influence: tastes
and references, income, expectation on future prices, prices of
related goods like substitute and complements and the size of the
population. Therefore, the functional relationship between 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 Shifts in the
Demand Curve
If the Ceteris Paribus assumption is dropped, then changes in the non price factor
shall take place. This will result in a change in the position or slope of the demand
curve and a change in the entire demand schedule.
The increase or decrease in the entire demand is shown through a shift of the entire
demand curve and referred to as a change in demand.
The demand curve may also shift to the left. Decrease in consumer incomes, a
change in fashion or taste, a decrease in the price of a substitute good, may all cause the
actual demand to decrease. This will be shown through a leftward shift in the demand
curve:
The following changes in the non price factors may cause the corresponding shift
in the demand curve.
 SUPPLY

*The concept of supply shows the seller’s side of the

market.
*The amount of a commodity available for sale.
 Supply Schedule and Supply Curve
The supply of a product is defined as the quantity that
sellers are willing to sell. The supply schedule shows the
quantities that are offered for sale at various prices. If the
quantities offered are only of one seller, than it is an individual
supply schedule. The aggregate supply quantities of a group of
sellers are presented as a market supply schedule.
Let us look at the following market supply schedule.
 TABLE 2.2
Hypothetical Market Supply Schedule of X Per Week

PRICE (per kilo) Quantity Supplied (per kilo)

P45 180

40 150

35 120

30 90

25 60

20 30
Figure 2.3 Hypothetical Shift of the Demand Curve
 From the above schedule, we can see that higher prices serve as
incentives for the sellers to offer more X for sale, while low prices
discourage them from offering more quantities to sell.

The supply curve is upward sloping from the left to right. It shows
a direct relationship between price and quantity supplied. Any point
on the supply curve reflects the quantity that will be supplied at that
given price.

After analyzing the above relationship we can now state that as

price increases, the quantity supplied of a product tends to increase
and as price decreases, quantity supplied instead decreases.
Figure 2.4 Hypothetical Shift of the Market Supply Schedule for One Week
 Changes in Quantity Supplied and Movements
Along The Supply Curve

Consider the price of P25 per kilo. At the price, the

sellers will offer for sale 60 kilos of X. Should there be an
increase in price to P30, quantity supplied will increase to
90 kilos. This is reflected as movement along the supply
curve and is referred to as change in the quantity supplied.
This is a change from point B to point C on the supply
curve and is caused by a change in the price of the good.