Demand, Supply and Market Equilibrium

This assumption of – other things remaining constant – is known as the sisters Paramus. This relationship between the price and quantity bought when expressed in a tabular format is known as the demand schedule. There is an inverse relationship between the price and demand for a product. Demand Schedule The Graphical representation of demand schedule is known as the demand curve. The demand curve shows the price on the vertical axis and the quantity demanded on the horizontal axis. The demand curve Is downward sloping which Is also called the law of downward sloping demand curve.

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This law states that as the price of the commodity Is raised, sisters parlous, buyers tend to buy less of the commodity (as Is evident from the Geiger), and vice versa. This fall in quantity demanded due to the rise in prices can be attributed to two factors: * Substitution Effect: It states that as the price of a good rises, the consumer will substitute the good with its substitute good. For example, a consumer who earlier drank tea, will now prefer coffee due to the rise in price of tea. * Income Effect: Income effect relates to the purchasing power of money.

It implies that as the price of a good rises and with the same income of the consumer, he will now be able to buy less of the goods as compared to earlier. Hence, the demand for he good falls. Market Demand – Market demand is the sum total of demands of all the individual households. The market demand curve Is found by adding together the quantities demanded by all individual households at each price. Factors affecting demand The sisters Paramus assumption Is kept In mind while evaluating the factors affecting demand for a product. Income of the consumer: A consumer’s demand is influenced by the size of his income. With increase in the level causes a rise in consumption. As a result, a consumer buys more. For most of the goods, the income effect is positive. But for the inferior goods, the income effect is negative. That means with a rise in income, demand for inferior goods may fall.. Changes in the price of related goods: Sometimes, the demand for a good might be influenced by prices changes of other goods. There are two types of related goods. They are substitutes and complements. Tea and Coffee are good substitutes.

A rise in the price of coffee will increase the demand for tea and vice versa. Bread and butter are complements. A fall in the price of bread will increase the demand for butter and vice versa. * Tastes and preferences of the consumer: Demand depends on people’s tastes, preferences, habits and social customs. A change in any of these must bring about a change in demand. For example, if people develop a taste for tea in place of coffee, the demand for tea will increase and that for coffee will decrease. * Price Expectations: Expectations of people regarding the future prices of goods also influence their demand.

If people anticipate a rise in the prices of goods in future due to some reasons, the demand for goods will rise to avoid more prices in future. Contrarily, if the people expect a fall in price, the demand for the commodity will fall. State of economic activity: The state of economic activity is major determinant influencing the demand for a commodity. During the period of boom, prosperity prevails in the economy. Investment, employment and income increase. The demand for both capital goods and consumer goods increase. But in period of depression demand declines due to low investment and low income.

The level of demand for a commodity is also influenced by other factors like population, composition of population, taxation policy of the government, advertisement, natural calamities, pattern of saving, inventions and discoveries and outbreak of war, emergencies, either, technical progress etc. Shift in Demand Curve and Movement along Demand Curve Shift in the demand curve implies that there is an increase or decrease in the demand due to factors other than the price of the commodity in question. For example, at a certain price, say P, the initial demand for the commodity is ‘L’. The initial demand curve is D.

Now suppose the income of the consumer increases. This would result in increase in the buying capacity of the consumer and so the quantity demanded by the consumer will increase. Now without any change in the price, I. E. , at the same price P, the annuity demanded will be L” and hence a new demand curve is formed. The demand has increased by AL”. This new demand curve is to the right of the initial demand curve D. This rightward shift in the demand curve denotes the Increase in Demand (change in demand). Similarly, any leftward shift in the demand curve denotes the decrease in the demand.

Where the shift in demand curve assumes price to be constant and other factors variable, Movement along the Demand Curve assumes the opposite, I. E. , other factors (income, expectations) to be constant, while the price changes. This demanded. The downward movement along the demand curve indicates the increase in quantity demanded and the upward movement indicates the decrease in quantity demanded SUPPLY OF A PRODUCT Supply maybe defined as the quantity of a product that a producer is willing and able to supply onto the market at a given price in a given time period.

Hence, at a higher price the producers will be willing to supply more, (other things held constant), as it is the prime motivator for a producer. The price of the product and it’s supply are directly related to each other. This relationship when expressed in the tabular form s known as the supply schedule. The graphical representation of the supply schedule is known as the supply curve. The supply curve is upward sloping in most of the cases.

This is mainly due to the law of diminishing marginal returns which states that as as the amount of single factor of production is increased, keeping all other factors constant, there is a decrease in the total output after a point of time. Factors affecting the supply * Goals of the firm: Generally, the aim of the firm is to maximize profits. Besides, maximum sales, maximum output and maximum employment are also the goals of the firm. These goals and change in them affect the supply of the commodity. * Price of the substitutes: The supply of particular goods is inversely related to the price of its substitutes. The price of factors of production: With the rise in the price of factors of production the cost of production rises. This result in decrease of supply and vice versa. * Change in technology: A change in technique of production may lead to a change in supply if the technique of production improves, cost of production will fall. Even at the same prices, producers will like to supply more and vice versa. * Taxation policy: The reduction of the commodity is discouraged if heavy tax on its production is imposed. On the contrary, tax concessions encourage producers to increase supply. Number of producers: If the number of producers producing a commodity increases, its supply will increase. With the exit of producers, the supply would decrease. * Natural Factors: Natural calamities like flood, drought and cyclone reduce the supply of a commodity. If natural disasters are absent, production and supply of a good will increase. * Means of transport: Goods transport and communication facilitates free and quick mobility of factors of production to the reducing centers and the final products to the market. Presence of good means of transport and communication thus increases the supply of a good.

The supply curve will shift to left. Curve, Shift in the supply curve implies that there is an increase or decrease in the supply due to factors other than the price of the commodity in question. Any rightward shift in the supply curve from the initial supply curve, denotes the Increase in Supply (change in supply). Similarly, any leftward shift in the supply curve denotes a decrease in the supply. Where the shift in supply curve assumes price to be constant and other factors arable, Movement along the supply Curve assumes the opposite, I. E. , other factors (Price of inputs, governmental policy) to be constant, while the price changes.

This movement along the supply curve implies change in the quantity supplied. The downward movement along supply curve indicates the decrease in quantity supplied and the upward movement indicates the increase in quantity supplied. Group Learning: Demand ; Supply Demand refers to how much (quantity) of a product or service is desired by buyers over a period of time Supply is the amount of goods that is available to the customers. Demand and supply are the driving forces in a market. If demand is less than supply a surplus is created and if demand is more than supply scarcity of that particular good is created.

This leads to change in price of good. For example: Recently demand of onion exceeded beyond supply capacity which lead to huge price increase. The government allowed import of onions from Pakistan in order to suppress the demand. MARKET EQUILIBRIUM In Economics equilibrium means that the different forces operating on a market are in balance, so the resulting price and quantity reconcile the desires of purchasers and suppliers. The market force – demand and supply curves, intersect to give the equilibrium price and the equilibrium quantity.

This point of intersection is known as the point of equilibrium. At this point, at the prevailing price, the quantity demanded by consumers equals the quantity supplied by producers. This phenomenon is also known as the market clearing. P* is the equilibrium price and Q* is the equilibrium quantity. At any price above or lower this price, the market will not be in equilibrium. There are two possible cases for the same: * Shortage- For a price below P*, say RSI 1, the quantity demanded exceeds the quantity that the producers are willing to supply at this price.

As a result there is a shortage of goods in the market, and so due to intense competition, the price of the product increases which intern motivates producers to supply more. This increases the supply and the price to a point, where all the goods supplied are demanded by the consumers. Hence, equilibrium is achieved at P* and Q*. * Surplus: Similarly, at a high price the producers will supply more than what is demanded by the consumers, resulting in surplus of goods. This surplus causes the price to fall till the level of P*, where all the goods are consumed. Effect of same.

It keeps on changing due to various reasons. There is need to understand the impact of these changes in the market equilibrium. For simplification, we take that only one of demand or supply changes, while the other is the same. Change in demand can be attributed to reasons like increase in income of consumer (increase or decrease). Change in supply can be attributed to change in production technology, weather conditions. There are four cases that can take place: Increase in Demand: As supply is same as before, increase in demand (shift in demand curve) implies a shortage of goods.

This causes the price to rise up until it meets the new demand curve at a higher. This is the new market equilibrium. Decrease in Demand: This causes an excess supply leading to decrease in price of the good, until the new demand curve and the supply curve intersect. Increase in Supply: Increase in supply means that the goods produced are more than the demand. Hence, it forces the market price to come down at a level where a new equilibrium point is achieved. Decrease in Supply: With the demand for the product remaining the same, a decrease in supply causes the prices to shoot up.

This increase in price causes the consumers to consume a lesser quantity. Hence, a new point is achieved where the market equilibrium is reached. Group Learning: Market equilibrium Market equilibrium is a condition where quantity demanded meets quantity supplied. The amount of goods sought by buyers is equal to amount of good produced by sellers. For example: Suppose in postseason price of wheat rises because of surplus demand, this surplus is meet by increasing production of wheat which will fulfill the demand ; decrease the price too. This leads to attain market equilibrium.