market & demand

Market & demand

By Dr. Sanchit DagarMarket & demand

Concept of MarketA market is a mechanism by which buyers and sellers interact to determine the price and quantity of a good or serviceDemand side of the market for a product refers to all its consumers and the price they are willing to pay for buying a certain quantity of a product during a period of time.

The Basic Decision-Making UnitsA firm is an organization that transforms resources (inputs) into products (outputs). Firms are the primary producing units in a market economy.An entrepreneur is a person who organizes, manages, and assumes the risks of a firm, taking a new idea or a new product and turning it into a successful business.Households are the consuming units in an economy.

The circular flow of economic activity shows the connections between firms and households in input and output markets.

Payments flow in the opposite direction as the physical flow of resources, goods, and services (counterclockwise).Output, or product, markets are the markets in which goods and services are exchanged.Input markets are the markets in which resourceslabor, capital, and landused to produce products, are exchanged.

Input MarketsInput markets include:The labor market, in which households supply work for wages to firms that demand labor.The capital market, in which households supply their savings, for interest or for claims to future profits, to firms that demand funds to buy capital goods.The land market, in which households supply land or other real property in exchange for rent.

Determinants of Household DemandThe price of the product in question.The income available to the household.The households amount of accumulated wealth.The prices of related products available to the household.The households tastes and preferences.The households expectations about future income, wealth, and prices.A households decision about the quantity of a particular output to demand depends on:

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Concept of MarketA market is a mechanism by which buyers and sellers interact to determine the price and quantity of a good or serviceDemand side of the market for a product refers to all its consumers and the price they are willing to pay for buying a certain quantity of a product during a period of time.

What is Demand???Demand is the desire or want backed up by money

Always related to price and time

Statement of Law of DemandAll other things remaining constant, higher the price of a commodity, smaller is the quantity demanded and lower the price, larger the quantity demanded Dx = f (Px)

Reasons for Inverse Relationship Income effect- the decline in the price of a commodity leads to an equivalent increase in the income of a consumer because he has to spend less to buy the same quantity of goods. The part of the money left can be used for buying some more units of commodity. For e.g.- suppose the price of mangoes falls from Rs.100/- per dozen to 50/- per dozen. Then with the same amount of 100/- you can buy one more dozen, i.e.,2 dozens at Rs. 50/-

Substitution effect- When the price of a commodity falls, the consumer tends to substitute that commodity for other commodity which is relatively expensive. For e.g. Suppose the price of the Urad falls, it will be used by some people in place of other pulses. Thus the demand will increase.

Assumptions Underlying the LawNo change in Consumers IncomeNo change in Consumers PreferencesNo change in FashionNo change in Price of related goodsNo Expectation of future price changes or shortages

Individual Demand ScheduleTabular representation of Quantity of a commodity that an individual is willing and able to purchase over a given period of time at each price of the commodity, while holding constant all other relevant economic variables on which demand depends.

Individual Demand SchedulePrice of Com X(Rs per kg)Quantity demanded of Com X (Qty in kg)

8027046065010

Determinants of Individual DemandIncomePrice of Substitute & Complementary productsTaste & PreferencesAdvertisementExpectation regarding future price changesClimatic Conditions

Market demand ScheduleTabular representation of Quantity of a commodity that all individuals are willing and able to purchase over a given period of time at each price of the commodity, while holding constant all other relevant economic variables on which demand depends.

Market Demand SchedulePrice in (Rs) Units of Commodity X Market demanded per day Demand by Individuals Total A B C411353235102357151591024

Determinants of Market DemandPrice of ProductDistribution of Income & wealthCommunitys Common Habits and Scale of PreferencesSpending Habits of PeopleGrowth of PopulationAge Structure and Sex ratio of PopulationFuture ExpectationsLevel of TaxationFashionsClimate ConditionsCustomsAdvertisement

Multivariate Demand FunctionDx = D (Px, Py, Pz, B, W, A, E, T, U)

Here Dx, stands for demand for item x (say, a car) Px, its own price (of the car) Py, the price of its substitutes (other brands/models) Pz, the price of its complements (like petrol) B, the income (budget) of the purchaser (user/consumer) W, the wealth of the purchaser

A, the advertisement for the product (car) E, the price expectation of the user T, taste or preferences of user U, all other factors.

Demand equationD= a bPWhere a is constant parameter signifying initial demand irrespective of priceb represents slope of demand curvefunctional relationship between price and demand, having minus sign denotes negative function

Exceptions to Law of DemandConspicuous consumption The goods which are purchased for Snob appeal are called as the conspicuous consumption. For e.g.- diamonds. They are the prestige goods. They would like to hold it only when they are costly and rare. Speculative market: in this case the higher the price the higher will be the demand. It happens because of the expectation to increase the price in the future. For e.g. shares, lotteries

ContdGiffens goods: It is a special type of inferior goods where the fall in the price results into the decrease In the quantity demanded. This happens because of peoples preference for superior commodityConsumers Psychological bias: Many a times consumer judges the quality of a good from its price. Such consumers may purchase high price goods because of the feeling of possessing a better quality. The exceptional demand curve shows a positive relation between the price and the quantity demanded.

The Law of DemandThe law of demand states that there is a negative, or inverse, relationship between price and the quantity of a good demanded and its price.This means that demand curves slope downward.

Shifts in Demand CurveExtension and Contraction of Demand occurs due to changes in price, other factors remaining constantWhen more of a commodity is purchased with a fall in price then it is known as extension of Demand and vice versaRefer to movement along same demand curve Increase and Decrease in Demand refers to changes in demand due to factors other than priceAn increase in demand signifies that more will be purchased at a given price than before .Refer to movement from one demand curve to another

Shift of Demand Versus Movement Along a Demand CurveA change in demand is not the same as a change in quantity demanded.In this example, a higher price causes lower quantity demanded.Changes in determinants of demand, other than price, cause a change in demand, or a shift of the entire demand curve, from DA to DB.

When demand shifts to the right, demand increases. This causes quantity demanded to be greater than it was prior to the shift, for each and every price level.A Change in Demand Versus a Change in Quantity Demanded

A Change in Demand Versus a Change in Quantity DemandedTo summarize:Change in price of a good or service leads to

Change in quantity demanded(Movement along the curve).

Change in income, preferences, orprices of other goods or services leads to

Change in demand(Shift of curve).

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The Impact of a Change in IncomeHigher income decreases the demand for an inferior goodHigher income increases the demand for a normal good

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The Impact of a Change in the Price of Related GoodsPrice of hamburger risesDemand for complement good (ketchup) shifts leftDemand for substitute good (chicken) shifts rightQuantity of hamburger demanded falls

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Reasons for shifts (increase or decrease in Demand) Changes in IncomeChanges in Taste, habits and PreferencesChange in Fashions and CustomsChange in Distribution of WealthChange in SubstitutesChange in demand for Complementary goodsAdvertisement and Publicity PersuasionChange in level of taxation

Supply AnalysisSupply during a given period of time means the quantities of goods which are offered for sale at particular pricesSupply is what seller is able and willing to offer for saleSupply and Stock are related but distinct terms-Supply comes out of StockStock determines potential supplyStock is outcome of production

Determinants of SupplyCost of factors of productionState of TechnologyFactors outside Economic Sphere such as weather conditions, natural calamities, etcTax and Subsidy

Law of SupplyOther things remaining same , supply of a commodity rises with a rise in price and falls with a fall in price

Supply schedule

Assumptions :Cost of production is unchangedTechnology is constantGovt policies are unchangedNo change in Transport costsNo speculationPrices of other goods constant

Positions: Supply CurveExtension and Contraction : refer to change in supply due to price, other things remaining same.Movement along the supply curveIncrease and Decrease in Supply: refer to change in supply due to determinants other than price Shifts in Supply Curve

Causes for change in SupplyChange in Cost of ProductionSupply also depends on Natural FactorsChange in Technique of ProductionPolicies of GovernmentBusiness Combines

When market is in Equilibrium?Equilibrium price of a commodity is price at which quantity demanded of commodity equals quantity supplied and market clearsEquilibrium is condition which once achieved tends to persist in time.

Equilibrium of Supply and Demand

SDED&SPrice Excess SupplyExcess Demand

Effect of Shift in Supply or Demand Demand & Supply shiftsEffect on price and quantityIf demand risesDemand curve shifts to rightBoth P & Q increasesIf demand fallsDemand curve shifts to leftBoth P & Q fallsIf supply risesSupply curve shifts to rightP falls but Q increasesIf supply fallsSupply curve shifts to leftP increases & Q decreases

Simultaneous shifts of Supply and DemandNew equilibrium price and quantity may be greater than, equal or even less than initial equilibrium levels depending on the magnitude and direction of two curves

If both D & S shift to right by same amount , the equilibrium point shifts to right by same amount and hence equilibrium price remains same.

Impact of Excise tax on Price and QuantityAn excise is a tax on each unit of commodityIf collected from sellers tax causes supply curve to shift upward by the amount of taxResult is that consumers purchase a smaller quantity at a higher price while sellers receive a smaller net price after payment of tax

Impact of Excise tax on Price and Quantity

DS0S1E0TaxE1Q0Q1TPoP1

Impact of Rent Control on Housing MarketsRent control is a type of price ceiling or maximum rent set below equilibrium price that government use for making rented housing affordable, however the effect has been opposite ie shortage of apartments

Rent Control create shortages

ShortageSDE

1.2 1.6 2Millions of Apartments $1400Monthly Rent$1000

$600

Quantity DemandedQuantity demanded is the amount (number of units) of a product that a household would buy in a given time period if it could buy all it wanted at the current market price.

Demand in Output MarketsA demand schedule is a table showing how much of a given product a household would be willing to buy at different prices.Demand curves are usually derived from demand schedules.

The Demand CurveThe demand curve is a graph illustrating how much of a given product a household would be willing to buy at different prices.

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Other Properties of Demand CurvesDemand curves intersect the quantity (X)-axis, as a result of time limitations and diminishing marginal utility.Demand curves intersect the (Y)-axis, as a result of limited incomes and wealth.

Income and WealthIncome is the sum of all households wages, salaries, profits, interest payments, rents, and other forms of earnings in a given period of time. It is a flow measure.Wealth, or net worth, is the total value of what a household owns minus what it owes. It is a stock measure.

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Related Goods and ServicesNormal Goods are goods for which demand goes up when income is higher and for which demand goes down when income is lower.Inferior Goods are goods for which demand falls when income rises.

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Related Goods and ServicesSubstitutes are goods that can serve as replacements for one another; when the price of one increases, demand for the other goes up. Perfect substitutes are identical products.Complements are goods that go together; a decrease in the price of one results in an increase in demand for the other, and vice versa.

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From Household to Market DemandDemand for a good or service can be defined for an individual household, or for a group of households that make up a market.Market demand is the sum of all the quantities of a good or service demanded per period by all the households buying in the market for that good or service.

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From Household Demand to Market DemandAssuming there are only two households in the market, market demand is derived as follows:

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Supply in Output MarketsA supply schedule is a table showing how much of a product firms will supply at different prices.Quantity supplied represents the number of units of a product that a firm would be willing and able to offer for sale at a particular price during a given time period.

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The Supply Curve and the Supply ScheduleA supply curve is a graph illustrating how much of a product a firm will supply at different prices.

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The Law of SupplyThe law of supply states that there is a positive relationship between price and quantity of a good supplied.This means that supply curves typically have a positive slope.

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Determinants of SupplyThe price of the good or service.The cost of producing the good, which in turn depends on:The price of required inputs (labor, capital, and land),The technologies that can be used to produce the product,The prices of related products.

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A Change in Supply Versus a Change in Quantity SuppliedA change in supply is not the same as a change in quantity supplied.In this example, a higher price causes higher quantity supplied, and a move along the demand curve.In this example, changes in determinants of supply, other than price, cause an increase in supply, or a shift of the entire supply curve, from SA to SB.

When supply shifts to the right, supply increases. This causes quantity supplied to be greater than it was prior to the shift, for each and every price level.A Change in Supply Versusa Change in Quantity Supplied

A Change in Supply Versusa Change in Quantity SuppliedTo summarize:Change in price of a good or service leads to

Change in quantity supplied(Movement along the curve).

Change in costs, input prices, technology, or prices of related goods and services leads to

Change in supply(Shift of curve).

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From Individual Supplyto Market SupplyThe supply of a good or service can be defined for an individual firm, or for a group of firms that make up a market or an industry.Market supply is the sum of all the quantities of a good or service supplied per period by all the firms selling in the market for that good or service.

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Market SupplyAs with market demand, market supply is the horizontal summation of individual firms supply curves.

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Market EquilibriumThe operation of the market depends on the interaction between buyers and sellers.An equilibrium is the condition that exists when quantity supplied and quantity demanded are equal.At equilibrium, there is no tendency for the market price to change.

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Market EquilibriumOnly in equilibrium is quantity supplied equal to quantity demanded.At any price level other than P0, the wishes of buyers and sellers do not coincide.

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Market DisequilibriaExcess demand, or shortage, is the condition that exists when quantity demanded exceeds quantity supplied at the current price.When quantity demanded exceeds quantity supplied, price tends to rise until equilibrium is restored.

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Market DisequilibriaExcess supply, or surplus, is the condition that exists when quantity supplied exceeds quantity demanded at the current price.When quantity supplied exceeds quantity demanded, price tends to fall until equilibrium is restored.

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Increases in Demand and SupplyHigher demand leads to higher equilibrium price and higher equilibrium quantity.Higher supply leads to lower equilibrium price and higher equilibrium quantity.

Decreases in Demand and SupplyLower demand leads to lower price and lower quantity exchanged.Lower supply leads to higher price and lower quantity exchanged.

Relative Magnitudes of ChangeThe relative magnitudes of change in supply and demand determine the outcome of market equilibrium.

Relative Magnitudes of ChangeWhen supply and demand both increase, quantity will increase, but price may go up or down.

Sheet1ANNA'S DEMAND SCHEDULE FOR TELEPHONE CALLSPRICE (PER CALL)QUANTITY DEMANDED (CALLS PER MONTH)$0300.50253.5077.00310.00115.000

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Sheet1ANNA'S DEMAND SCHEDULE FOR TELEPHONE CALLSPRICE (PER CALL)QUANTITY DEMANDED (CALLS PER MONTH)$0300.50253.5077.00310.00115.000

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Sheet1CLARENCE BROWN'S SUPPLY SCHEDULE FOR SOYBEANSPRICE (PER BUSHEL)QUANTITY SUPPLIED (THOUSANDS OF BUSHELS PER YEAR)$201.75102.25203.00304.00455.0045

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Thousands of bushels of soybeans produced per yearPrice of soybeans per bushel ($)

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Sheet1CLARENCE BROWN'S SUPPLY SCHEDULE FOR SOYBEANSPRICE (PER BUSHEL)QUANTITY SUPPLIED (THOUSANDS OF BUSHELS PER YEAR)$1.5001.75102.25203.00304.00455.0045

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Sheet1CLARENCE BROWN'S SUPPLY SCHEDULE FOR SOYBEANSPRICE (PER BUSHEL)QUANTITY SUPPLIED (THOUSANDS OF BUSHELS PER YEAR)$201.75102.25203.00304.00455.0045

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Sheet1CLARENCE BROWN'S SUPPLY SCHEDULE FOR SOYBEANSPRICE (PER BUSHEL)QUANTITY SUPPLIED (THOUSANDS OF BUSHELS PER YEAR)$1.5001.75102.25203.00304.00455.0045

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