Download Learning Unit 4: Demand, Supply and Prices

Chapter 4: Demand, Supply and Prices
Deriving the market demand schedule from individual demand schedules:
Total quantity demanded per week (market demand): 15, 12, 9, 6, 3
Use the data in the first and last columns of Table 7-2 to construct the market
demand curve for tomatoes.
Page 65, Figure 4-2: The market demand curve
We can write this as an equation: Qd = f(Px, Pg, Y, T, N,…)
…. where the bars above the symbols indicate that these variables are held constant.
Qd = number of tomatoes demanded in the market
Px = price of tomatoes
Pg = prices of related goods
Y = total income of all prospective purchasers of tomatoes
T = tastes of all prospective purchasers of tomatoes
N = total number of potential consumers of tomatoes
…. = allowance for other possible influences.
The difference between a movement along the existing demand curve and a
shift of the curve

When the price of a good changes, there is a movement along the demand curve and a change in
the quantity demanded.

Along demand curve DD a movement from a to b indicates a decrease in the quantity demanded,
while a movement from a to c shows an increase in the quantity demanded.

If one of the other influences on demand changes, there is a change in demand which is
represented by a shift of the demand curve.

An increase in demand is represented by a rightward shift of the demand curve, such as the shift
from DD to D2D2.

A decrease in demand is represented by a leftward shift of the demand curve, such as the shift
from DD to D1D1.
Supply
In symbols we can write:
Qs = f(Px, Pg, Pf, Pe, Ty, N, …)
Qs = quantity supplied in the market
Px = price of the product
Pg = prices of alternative outputs
Pf = prices of factors of production and other inputs
Pe = expected future prices of the product
Ty = technology
N = number of firms supplying the product
…. = allowance for other possible influences
Complete the diagram in the space below.
Complete the diagrams (Figure 4.9 and 4.10) and the summaries in the space below.
A change in the price of the product leads
to a movement along the supply curve SS.
For example, when the price of the product
increases from P1 to P2 the quantity
supplied increases from Q1 to Q2. In other
words, there is a movement along SS from
a to b.
The original supply curve is SS. A change in
any of the determinants of the quantity
supplied other than the price of the product
will lead to a change in supply, illustrated by a
shift of the supply curve. Any factor which
reduces supply will shift the supply curve to
the left, to S1S1. Any factor which increases
supply will shift the supply curve to the right,
to S2S2. Not, for example, the differences in the
quantities supplied at price P1.
Market Equilibrium
Complete the table, diagram and summary.
Price (R/kg)
Qd (kg)
Qs (kg)
Excess S or D (kg) Pressure on price
350
50
300
Excess D
Upward
300
100
200
Excess D
Upward
250
150
100
Excess D
Upward
200
200
0
No excess (equilibrium)
None
150
250
100
Excess S
Downward
100
300
200
Excess S
Downward
50
350
300
Excess S
Downward
Complete the diagram (Figure 4.11) and the summary in the space below.
Note that Pe differs from the example that we did in class.
• The demand curve DD intersects the supply curve at a price of R4 per kg. This is the equilibrium
price. The equilibrium quantity is 200 kg
• At a price of R2, the quantity demanded is 300 kg and the quantity supplied is 100 kg The excess
demand of 200 kg is indicated by points bc
• At a price of R7, the quantity demanded is 50 kg .and the quantity supplied is 350 kg The excess
supply of 300 is indicated by points df.
Exercise
The average price of chicken increased from R25.95 per kilogram in September to R29.95 in
December. This implies that the demand for chicken increased between September and December.
Do you agree? Discuss.
It could be that the price increase was due to an increase in demand. This could be ascribed to a
variety of factors:

An increase in the price of a substitute product (such as mincemeat) or

Increased consumer income (for example because of lower interest rates which increase
household disposable income)

Increased preference for chicken, for example due to advertising

Increase in the number of potential consumers of chicken.

The increase in demand would be illustrated graphically as a rightward shift of the demand curve,
and a higher equilibrium price will be the result.
Alternatively, the higher price could be as a result of supply factors:

An increase in production costs, such as increased wages of workers in the poultry-producing
industry, or increased cost of grain feed

Producers expect to fetch higher prices closer to Christmas, and start withholding their stocks as
of September.

The decrease in supply would be illustrated graphically as a leftward shift of the supply curve, and
a higher equilibrium price will be the result.
Multiple Choice Questions
1. In the market for Callaway golf equipment, which of the following events would increase demand,
ceteris paribus?
[4] A decrease in the price (and therefore rental charges) of golf carts, a complement.
2. In the market for Nightclubs, which of the following variables would decrease demand (in terms of
entry stamp sales), ceteris paribus?
[4] A rise in the price of alcoholic drinks, a complement in consumption.
3. As the price of biltong (a substitute in production of steak) decreases, ceteris paribus
[2] the supply of steak will increase.
4. If the price of pies is currently R12,50 ceteris paribus, then
[3] there will be a surplus of 50.
5. What is likely to happen in the market for pies if the current price is R12,50 (assuming there is no
intervention by government)?
[4] There is likely to be a decrease in the quantity of pies supplied as the price falls.
6. If the price of powdered soup, a substitute in consumption for canned soup, falls then
[4] the demand curve for canned soup will shift to the left.
7. If there is a shortage in a goods market, which of the following will happen to reach or restore
equilibrium?
[3] As the price of the product increases, the quantity demanded of the product decreases along the
demand curve.
Short Questions
1. Name any three determinants of an individual’s demand for a particular good (or service).
• The price of the product.
• The prices of related products (substitutes and complements)
• The income of the consumer
• The taste (or preference) of the consumer.
• The size of the household.
2. Explain the relationship between individual demand and market demand.
Individual demand refers to the quantities demanded by a particular consumer as a function of the
variables which determine the quantity demanded:
Qd = f (Px, Pg, Y, T, N,.....)
Market demand is simply the sum of all the individual demands. The market demand is obtained by
adding the individual demand curves horizontally (i.e. at each price).
3. List any three factors that can cause a rightward shift of the demand curve.
• An increase in the price of a substitute
• A decrease in the price of a complement
• An increase in consumers’ income
• A change in taste/preference (increased desire to buy)
• Population increase
• Expected future price of the good (price is expected to increase in the future)
4. List any three factors that can cause a leftward shift of the demand curve.
• An decrease in the price of a substitute
• An increase in the price of a complement
• A decrease in consumers’ income
• A change in taste/preference (reduced desire to buy)
• Population decrease
• Expected future price of the good (price is expected to decrease in the future)
5. Use an example to distinguish between a movement along a demand curve and a shift of the
demand curve. What terms do we use to distinguish between these two types of change?

A movement along a demand curve occurs when the price of the product changes, and the result
of the price change is referred to as a change in the quantity demanded.

For example, an increase in the price of potatoes will cause a decrease in the quantity demanded.

A shift of the demand curve occurs if any of the determinants of demand other than price,
changes. At any given price, there is a decreased demand or a greater demand for the product.

For example, if consumers develop an increased preference for potatoes, the demand curve will
shift to the right.
6. Make use of diagrams to explain how the decrease in the price of one product (for example rice)
will influence the demand of a substitute (for example samp).

The demand for rice is shown in (a) and the demand for samp in (b).

The original demand curves are DD (a) and DD (b) respectively.

If the price of rice falls from P1 to P2, the quantity of rice demanded per period increases from Q1
to Q2. (movement along the existing demand curve)

The increased quantity of rice demanded (as a result of the lower price) leads to a decrease in the
demand for the substitute, samp. (Shift of the demand curve to the left)

The decrease in the demand for samp is shown in diagram (b), as a leftward shift of the demand
curve from DD to D1D1.

At each price of samp, less samp is demanded when the price of rice is P2 than when the price of
rice was P1.
7. Make use of diagrams to explain how the increase in the price of a complement (for example
shampoo) will influence the demand for another product (for example conditioner).

The demand for shampoo is shown in (a) and the demand for conditioner in (b).

The original demand curves are DD and DCDC respectively.

If the price of shampoo increases from P1 to P2, the quantity of shampoo demanded per period
decreases from Q1 to Q2.

The decreased quantity of shampoo demanded (as a result of the higher price) leads to a
decrease in the demand for conditioner (the complement).

At each price of conditioner, fewer units of conditioner are demanded per period when the price of
shampoo is P2 than when it is P1.

The demand curve in (b) thus shifts to the left, to D1
8. Define the supply of a good.
Supply is defined as the quantities of a good or service that producers plan to sell at each possible
price during a certain period.
9. List six factors that would cause the supply curve to shift to the right.
• Decrease in the prices of alternative products (substitutes in production)
• Increase in the prices of joint products (complements in production)
• Decrease in the price of inputs
• Increase in the expected future price
• Cost-reducing improvement in technology
• More firms enter the market
10. Make use of a diagram to explain the difference between a movement along the supply curve and
a shift of the supply curve. Mention one possible cause of each of these changes.

When the price of a good changes, there is a movement along the demand curve and a change in
the quantity demanded.

Along demand curve DD a movement from a to b indicates a decrease in the quantity demanded,
while a movement from a to c shows an increase in the quantity demanded.

If one of the other influences on demand changes, there is a change in demand which is
represented by a shift of the demand curve.

An increase in demand is represented by a rightward shift of the demand curve, such as the shift
from DD to D2D2.

A decrease in demand is represented by a leftward shift of the demand curve, such as the shift
from DD to D1D1.
11. Make use of a diagram to illustrate:

market equilibrium

excess demand

excess supply

The demand curve DD intersects the supply curve at a price of R4 per kg.

This is the equilibrium price. The equilibrium quantity is 200 kg

For any price below the equilibrium price (e.g. R2), a situation of excess demand will exist.

For any price above the equilibrium price (e.g. R7), a situation of excess supply will exist.
12. Use a diagram to illustrate and explain consumer surplus and producer surplus.

DD is the demand curve, P1 the market price and Q1 the quantity demanded at the market price.

For each quantity between 0 and Q1 (except Q1) consumers are willing to pay more than the
price P1 they are actually paying.

The shaded area thus represents a gain to consumers, called the consumer surplus.

SS is the supply curve, P1 the market price and Q1 the quantity supplied at the market price.

For each quantity between 0 and Q1 (except Q1) producers are willing to supply at a lower price
than the price P1 they are actually receiving.

The shaded area thus represents producer surplus.
13. What are the functions of prices in a market economy?

Prices perform a rationing function – goods and services go to those who place the highest value
on them.

Prices perform an allocative function – direct the factors of production among different uses in the
economy.