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ASSIGNMENT NO 1

ANALYSIS OF DEMAND & SUPPLY

SUBMITTED BY: NAME: Amna Masud ROLL NO.: L4F1MCOM0278 CLASS: MME SESSION: 2011-13 SEMESTER: 1

SUBMITTED TO: PROF. ITRAT HUSSAIN NAQVI


Due Date: 26/10/2011

Synopsis:
Introduction Demand Law of demand Determinants of Demand Supply Law of Supply Determinants of Supply Market Equilibrium Conclusion

Analysis of Demand and Supply


Introduction:
A market is where buyers and sellers meet to exchange goods and services usually in exchange for money. The market may be in one specific place or not exist physically at all. Buyers determine demand Sellers determine supply Supply and Demand are one of the most fundamental concepts in Economics and it is the backbone of market economy.

Demand:
Demand is defined as the willingness to buy a product at a certain price. The relationship between price and quantity demanded is known as the demand relationship. Demand is the quantity of a good or service needed or desired by the consumer to consume and the ability and willingness to pay for it at a given point of time.

Law of demand:
The Law of Demand states that if all other things are constant, when the price of a product increases, the demand for the product decreases. And when the price of the product decreases, the demand of the product increases. The 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.

TABLE 1 Demand for Ice cream Price Quantity Demanded Rs. 5 10 Rs. 4 20 Rs. 3 30 Rs. 2 40 Rs. 1 50

Determinants of Demand:
The key determinants of demand are as follows: Price of the good: This is the most important determinant of demand. The relationship between price of the good and quantity demanded is generally inverse. Income: Higher the income of the consumer the more will be quantity demanded of the good. The only exception to this will be inferior goods whose demand decreases with an increase in income level. Consumers Expectations: If the consumer expects prices to rise in future he / she may continue to demand higher quantities even in a rising price scenario and vice versa. Price of related goods: o Substitutes: If the price of a substitute goes down than the quantity demanded of the good also goes down and vice versa. o Complements : If the price of gasoline goes up the quantity demanded of automobiles will go down. An increase in the price of a complement reduces demand. Thus the price of complements has an inverse relationship with the demand of a good. Individual taste and preferences: A preference for a particular good may affect the consumers choice and he / she may continue to demand the same even in rising prices.

Shifts in the demand curve:


A shift of the demand curve is referred to as a change in demand due any factor other than price. A demand curve will shift if any of these occurs: Change in the price Change in the income level Change in consumers taste and preferences Change in expectations

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.

Supply:
Supply is defined as the amount of goods the producer is willing to sell in the market at a certain price. The correlation between price and how much of a good or service is supplied to the market is known as the supply relationship.

Law of supply:
The Law of Supply states that the producer wants to supply more of his product when there is an increase in the price of the product. The 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.

TABLE 2 Supply for Ice cream Price Rs. 5 Rs. 4 Rs. 3 Rs. 2 Rs. 1 Quantity Supplied 50 40 30 20 10

Determinants of supply:
The key determinants of supply are as follows: Price of the product: The quantity supplied changes with increase or decrease I the price of the good. Technological changes: Advanced technology can produce more quantity and at lesser costs. This may result in the producer to be willing to supply more quantity of the goods. Resource prices: Changes in production costs like wage costs, raw material cost and energy costs might impact the producers production and eventually the supply. Tax or subsidy: Since the producer aims to minimise costs and expand profit, an increase in tax will increase the total cost, thereby decreasing the supply. Similarly a subsidy might incentivise the producer to supply more of that goods in order to maximise his profits. Sellers Expectations: An expectation that the prices of goods will fall in future might lead to lessen the production by the producer a thereby decrease the supply. Price of other goods: A producer might have several options to produce. Since the money to invest is limited with the producer he would decide to produce the good which offers him the maximum profit. Number of sellers in the market: This is a very important factor or determinant of supply. If there is large number of producers or sellers in the market willing to sell goods than the supply of good will increase.

Shifts in the supply curve:


Shift in the supply curve is also sometimes referred as a change in supply. This happens due to changes in factors of supply other than that of price of the good. A shift in supply will occur if either of the following changes: The (opportunity) cost of resources needed to produce the good The technology available to produce the good. Either factor could cause the supply curve to shift to the left (a decrease in supply) or to the right (an increase in supply). This causes quantity supplied to be greater than it was prior to the shift, for each and every price level.

Market equilibrium:
A market attains equilibrium when both the demand and the supply intersect each other. 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.

Table 3 Ice cream Market Equilibrium Price Rs. 5 Rs. 4 Rs. 3 Rs. 2 Rs. 1 Quantity Demanded 10 20 30 40 50 Quantity Supplied 50 40 30 20 10

Surplus: A surplus occurs when quantity supplied exceeds quantity demanded. There is excess supply or a surplus. Suppliers will lower the price to increase sales.

Price Floor: A price floor is a legal minimum that can be charged for a good. Results in a surplus of a product Common examples include soybeans, milk and minimum wage.

Graphical representation:

A price floor is set at Rs. 4 resulting in a surplus of 20 units.

Shortage:
A shortage occurs when quantity demanded exceeds quantity supplied. There is excess demand or a shortage. Suppliers will raise the price due to too many buyers chasing too few goods. Price Ceiling: A price ceiling is a legal maximum that can be charged for a good. Results in a shortage of a product Common examples include apartment rentals and credit cards interest rates.

Graphical representation:

A price ceiling is set at Rs. 2 resulting in a shortage of 20 units.

Conclusion:
At the end we concluded that Supply and Demand together determine the prices of the economys different goods and services. Prices in turn are the signals that guide the allocation of resources. Economists use the model of supply and demand to analyze competitive markets. In a competitive market, there are many buyers and sellers, each of whom has little or no influence on the market price.

Case study:
Suppose a market demand and supply of plywood is Qd = 40000 20P and Qs = 20000 + 3P. a) Explain mathematically and graphically equilibrium analysis b) Find new price if supply increases in housing then a new demand is Qd1 = 50000 - 2P.

Solution:
Qd = 40000 20P, Qs = 20000 + 3P Qd = Qs 40000 20P = 20000 + 3P -20P 3P = 20000 40000 -23P = -20000 P = 20000/23 P = 869.56 Qd = 40000 2P Qd = 40000 2(869.56) Qd = 40000 17391.2 Qd = 22608 Qd1 = 50000 20P, Qs = 20000 + 3P Qd = Qs 50000 20P = 20000 + 3P -20P 3P = 20000 50000 -23P = -30000 P = 30000/23 P = 1304.34 Qd1 = 50000 20P Qd1 = 50000 20(1304.34) Qd1 = 50000 26086.8 Qd1 = 23913 Qs = 20000 + 3P Qs = 20000 + 3(1304.34) Qs = 20000 + 3912.9 Qs = 23913 Qs = 20000 + 3P Qs = 20000 + 3(869.56) Qs = 20000 + 2608.8 Qs = 22608

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