02- deamnd and supply

8/7/2019 02- Deamnd and Supply

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Demand AnalysisDemand

Desire + ability to pay + willingness to pay

Demand is relative term

Price

Time

Place


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Determinants of Demand

y Income

y Price

y Prices of related goods

y Taste and preferencesy Customs and traditions

y Government policy

y

Advertisingy Population

y Consumer expectations


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Law of Demandy A decrease in the price of a good, all other things held

constant, will cause an increase in the quantity demanded

of the good.y An increase in the price of a good, all other things held

constant, will cause a decrease in the quantity demanded

of the good.


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Change in Quantity Demanded

Quantity

Price

P0

Q0

P1

Q1

An increase in price

causes a decrease inquantity demanded.


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Change in Quantity Demanded

Quantity

Price

P0

Q0

P1

Q1

A decrease in price

causes an increase inquantity demanded.


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Increase in Demand

Quantity

Price

P0

Q0 Q1

An increase in demand

refers to a rightward shift

in the market demandcurve.


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Decrease in Demand

Quantity

Price

P0

Q1 Q0

A decrease in demand

refers to a leftward shift

in the market demandcurve.


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Exception to the law of demandy GiffenGoods

y Prestigious goods

y Buyers illusions

y Necessary goods

y Brand loyalty


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Elasticityy Elasticity is a measure of responsiveness of one

variable to another variable.

y Can involve any two variables.y An elastic relationship is responsive.

y An inelastic relationship is unresponsive.


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Types ofElasticity of demandy Price Elasticity of demand

y Income elasticity of demand

y Cross Elasticity of demand

y PromotionalElasticity of demand


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Price e asticity:

)

p

=%(Q/%(P

y Causality: denominator numerator!

yAn elastic response is one where numerator isgreater than denominator.

i.e., %(Q>%(P so Ep "y Imagine extreme example.

yAn inelastic response is one where numerator issmaller than denominator.

i.e., %(Q


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Look at the Extremesy Perfectly Elastic DEp !infinite

y Perfectly Inelastic D

P

Q

P

Q

Ep!0

D

D


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Relatively Elastic vs. Inelastic

Demand Curves

Q1 Q2 Q2

P1

P2

DD

D is relatively more elastic

than D

P

Q


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Point Elasticity Formulay Point elasticity

y Point elasticity isresponsiveness at a pointalong the demandfunction

Ep !(Q/Q1

(P/P1simplifying:Ep !(Q/(P)* P1/Q1

y Price (Rs.)

QQ

D


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Point Elasticity Formulay Point elasticity

y Point elasticity isresponsiveness at apoint along thedemand function

Ep !(Q/Q1

(P/P1simplifying:Ep !(Q/(P)* P1/Q1

y Price (Rs.)

QQ

D


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Example: Q=56-0.002*Py Point elasticity

Ep!(Q/(P)* P1/Q1

y SupposeP=17000y Q=56-0.002*17000y Q=56-34=22y Plug into equation gives:

Ep!-0.002)* 17000 /22

Ep =-34/22=-1.54

y Price (Rs)

Q

7k

D


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Briefly, arc elasticity is simply an average elasticityalong a range of the demand curve.


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Arc Elasticity Formulay Arc elasticity:

Responsiveness along a range of D.

function

Ep !(Q/((Q1+Q2)/2)(P/((P1+P2)/2)

simplifying:Ep!(Q/(P)*((P1+P2)/(Q1+Q2))

Price ($)

QQ

1

Q1

Avg.

responsiveness

D


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Example Q=56-0.002*Py Arc elasticityEp !(Q/(P)*((P1+P2)/(Q1+Q2))

y Look at P range 16k - 17ky

Q=56-0.002*17000y Q=56-34=22y Plug into equation gives:

Ep!-0.002)*(33000/46)

Ep =-66/46=-1.43

Price ($)

Q22

7k

D

24

16


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Factors influence Price elasticity of demandy Nature of commodity

yAvailability of substitute

y Multiplicity of usesy Habit

y Proportion of income spent

y Price range


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Managerial Applications ofPrice elasticity of

demandy Pricing Decision

y Fiscal policy

y Labor markety International trade


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Income Elasticity of Demand

y Recall demand function is:

Q=f(P,I,Prelated,Tastes,Buyers,Expectations...)

y Change in I causes shiftin demand.y Size of shift depends on income elasticity.

y EI!(Q/(I

y Focus again on point formula.

y Value of EI determines type of good.


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Values for Income Elasticity

()-

)y Sign indicates normal or inferior

EI>0 implies normal good.

EI1 then this is luxury(responsive to income).

y If0


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Cross Price Elasticity (EXY)

QX=f(PX,I,PY,Tastes, Buyers,Expectations...)

y Change in PYcauses shift in demand for X.

y Size of shift depends on cross-price elasticity.

y EXY!(QX/(P

Y

y Sign indicates relationship between two goods

EXY

>0 implies goods are substitutes.EXY


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Promotion or Advertising elasticity

of demand

Rate of change in demand for a commodity due to achange in promotion expenditure


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Demand forecasting

It is an objective assessment or estimation of future

course of demand- Micro level

- Industry level

- Macro level


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OBJECTIVES OF SHORT TERM DEMAND FORECASTING

y Production planning

y Evolving sales policy

y Fixing sales targetsy Determining price policy

y Inventory control

y Determining short-term financial planning


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OBJECTIVES OF LONG-TERM DEMAND

FORECASTING

y BUSINESS PLANNING

y MANPOWER PLANNING

y LONG-TERM FINANCIAL PLANNING


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Opinion pollsy Executive polling

y Sales force polling

y Consumers intention polling


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Quantitative Techniquesy Time series Analysis

Reasons for fluctuations in Time Series data

y Secular trendy Cyclical Fluctuations

y Seasonal Variations

y Irregular or random influences


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Smoothing Techniques- Moving averages

- and Exponential Smoothing


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Supply


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Supply Shifters

y Input prices

y Technology or

government regulations

y Number of firms

y Substitutes in

production

y Taxesy Producer expectations


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The Supply Function

y An equation representing the supply curve:

QxS= f(Px , PR,W, H,)

y QxS= quantity supplied of good X.

y Px = price of good X.

y PR= price of a related good

y

W = price of inputs (e.g., wages)y H = other variable affecting supply


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Law ofSupplyy Adecrease in the price of a good, all other things held

constant, will cause a decrease in the quantity suppliedof the good.

y An increase in the price of a good, all other things heldconstant, will cause an increase in the quantitysupplied of the good.


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Change in Quantity Supplied

Quantity

Price

P1

Q1

P0

Q0

A decrease in price

causes a decrease in

quantity supplied.


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Change in Quantity Supplied

Quantity

Price

P0

Q0

P1

Q1

An increase in price

causes an increase in

quantity supplied.


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Change in Supply

Quantity

Price

P0

Q1Q0

An increase in supply

refers to a rightward shift

in the market supply curve.


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Change in Supply

Quantity

Price

P0

Q1 Q0

A decrease in supply refers

to a leftward shift in the

market supply curve.


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Market Equilibrium

y Balancing supply anddemand

yQxS= Qx

d

y Steady-state


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Price

Quantity

S

D

8

Equilibrium Price and quantity

7


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Price

Quantity

S

D

5

6 12

Shortage

12 - 6 = 6

6

If ric is t l ...

7


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Price

Quantity

S

D

9

14

Surplus

14 - 6 = 8

6

8

8

If price is too high

7

02- deamnd and supply

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