Understanding Markets

in
Equillibrium

V.I.G.Menon
Prerequisite: Elements Of Linear
Equations
 Derivation of “Phase Rule” For
Markets


The term Phase Rule is in Chemistry where
many individual chemicals react to form
different Chemical Entities Called “Phases”

Similarly Our Purpose is to investigate the

number of “Communities That can co exist
under certain Conditions Of
Supply/Demand and Price/Income.
 Derivation of “Phase Rule”

We will do an exercise to
evaluate the number of Markets that
Can Coexist in a Given price-demand
conditions.

Derivation of Degrees Of
Freedom
a balancing of
FIXED PARAMETERS
and
SYSTEM VARIABLES
 Definition Of Degrees Of
Freedom

Degrees Of Freedom = number of
variables − number of equations ( ≥
0).
 Fundamental Assumption

Let us Assume that any product comes in
atleast three “varieties”.

For Example “rice” is available at a price
affordable by the Low Income Group,then
the middle class and then the variety for
the “Elite”

Similarly,Mobile Phones,Cars and other
products too…
 Market Evolution

For Understanding this ,let us trace the
arrival of Mobile Phones into Society

First it was a high priced featureless

Then it was medium priced with more
features

Latest is optimal features but lowest price
 Market Evolution

Then there are product that (re)evolve
from Mass Consumption to High Value
types.

Thus we have water available for a
nominal price from the municipal
supplies,now arriving in fancy and exotic
packages.
 Market Types

Low Price –Low Volume (Nobody Bothers)

Low Price-High Volumes (any Mobile)

High Price-Low Volumes (Virtu Mobile)

Medium Price-High Volumes (Blackberry)
 QUESTION:HOW MANY
VARIABLES ARE THERE IN A
MARKET SYSTEM UNDER
EQUILLIBRIUM?

Simplistically, “3”,
(Mean)Demand T, (Mean )Price P, Market-
Composition,

BUT, for more than one Communities and
Products what is the TOTAL number of
variables?
Excuse Me-What is a Community ?

A community is a group of people with

similar consumption profile.See the
following profile of three imaginary
groups all living in the same trade
environments.
 % Of Income Spent

Consumer
Food Housing Durables Travel “Luxuries”

Community1 25 30 25 15 5

Community2 15 10 40 20 15
Community3 2 5 15 40 38
Community (Consumption)Profiles

45
40
% Of Income Spent
35 Food
30 % Of Income Spent
Housing
25
% Of Income Spent
20 Consumer Durables
15 % Of Income Spent
10 Travel
5 % Of Income Spent
Luxuries
0
Community1 Community2 Community3
 Market Transition

Wedefine Market Transition as a process
whereby the equilibrium profiles of
coexisting communities change .
 Consumption Profiles

Soconsumption Profiles indicate how the
income percentages are distributed within
a group (of similar income profiles)

Letus move
ahead!
 Allocate P Products between
C Communities

For each Community ,Market - Composition is
defined by (P-1) Composition terms,see next slide

For ALL Communities in the system, C(P-1) = the

number of composition terms.

Can also vary Demand (by adjusting the supply) &

Price , or T(transactions) + P(Price), which means
2 more variables

(P & T).
 Condition 1

1) Product Fractions/Market Share % in Each Community Should sum

to Unity (which is the total Market) ie.((X11+X12+X13+
=(∑X1i=1 to n) C(=m) equations with p-1 possibilities .The pth
possibility can be found from the equation ,hence p-1
 Condition 2

2)”Transaction Potential” T For Each Product in Each

Community must be Same -otherwise no equillibrium
(T11=T21=T31=…Tm1,T12=….=Tm2) P(C-1) Equations
 Therefore, from condition1 we have, ,
the TOTAL NUMBER OF VARIABLES =

C(P-1) +2
PS: + 2 because of including Price/
(alternatively , Income) and Demand/
(Transactions)

Since the system is in
equilibrium, BY DEFINITION, we
have already implicitly defined
some of the variables.

T = Transaction potential or flux

of Products between two
Communities with respect to a
Transaction.
So, if system is “in equilibrium”,
and if there is NO NET CHANGE in the
net “amounts” of Products moving
between Communities that are in
dynamic equilibrium,

(e.g., NO NET MOVEMENT or

ECONOMICAL CHANGE, PLUS OR
MINUS BETWEEN COMUNITIES), then
From Condition2 ,we have for
each Product, there are:
(C-1) independent equations
relating the Trade potential,
T, of that component in ALL
of the Communities.
For the GENERAL case of P
products and C commmunities,
There are
P(C-1) independent equations.

Thus, we “FIX” P(C-1)

variables when we stipulate that
the system is in equilibrium.
Now, the number of
independent variables or
the total number of
variations which can be
made independently =
the total number of
variables, less those that
are automatically fixed.
F= number of “Freedom” factors

F = [C(P-1) +2] – [P(C-1)]

The variance of a system or the
Degrees of Freedom =

F= P-C +2
Which we call the “phase Rule”
similar to the Gibb’s Phase
Rule in Chemistry.
Consider each of the following three scenarios for
P-D space for the moble phone market:

Elite

Intermediate

Basic
 Previous Slide shows a hypothetical “phase
diagram “ of a community showing the
markets in potential coexistence.At low levels of
Average Income ,inside the green zone, there are two
degrees of freedom(as with red and blue zones), and
so the basic versions exist in equilibrium with the
intermeidiate ranges.
.As average income level increases Basic (red)
versions are in equilibrium with the intermediate
(green) and the Elite versions (Blue) ..At the the
junction all the three markets coexist Degree of
Fredom is zero here.,wheras , along the Blue,Green,
or Blue –Red,or Red-Green boundaries the degree of
freedom is one