Applications of Demand and SupplyMarket Equilibrium

Shift in Demand and Supply

PRICE DETERMINATION UNDER PERFECT COMPETITION

• Market Equilibrium: Qty.Demanded = Qty.Supplied, at a particular price.

Situation when there is Zero Excess Demand and Supply.

Equilibrium Price:Price of a commodity at which its Qty Demanded is

equal to its Qty supplied in the market.

PRICE DETERMINATION UNDER PERFECT COMPETITION

• Under perfect competition, Price of a commodity is determined by the general interaction of market forces of demand and supply in the industry.

• Not determined by a single firm but by industry.

• Market Supply = Market Demand

Excess of Demand• It is a situation when Market Price is lower than the

Equilibrium Price.• Demand > Supply

• Buyers will not be able to buy what they want to buy.• Market Price is pushed up, which leads to two

consequences:– Supply increases as producers are willing to supply more at

a higher price.– Demand decreases as buyers will buy less at a higher price.– This tendency of increase in supply and decrease in

demand will continue until equilibrium is established ie. D=S

Excess of Supply• It is a situation when Market Price is higher than the

Equilibrium Price.• Demand < Supply

• Sellers will not be able to sell what they want to sell.• Market Price is pushed down, which leads to two

consequences:– Supply decreases as producers are willing to supply less at a

lower price.– Demand increases as buyers will buy more at a lower price.– This tendency of decrease in supply and increase in demand

will continue until equilibrium is established ie. D=S

Non-Viable Industry

• No Demand for a Product as the Price is too high.

• Consumers are not willing to buy even a single product.

• The industry is not economically viable to produce such products, eg: Commercial aircrafts.

Graphical Representation

Here,Supply curve lies above Demand curve.They do not intersect at any positive quantity.

Effects of shift in Demand and Supply on Equilibrium Price.

• It means the increase or decrease in Demand or Supply.

• It occurs due to a change in factors other than the price of a commodity and not the price.

(a)Shift in Demand only(b)Shift in Supply only(c)Simultaneous shift in Demand and Supply.

Shift in Demand Only

(A) Rightward Shift in Demand Curve:-Demand for a commodity increases while

supply is Constant.-Equilibrium Price and Quantity Increases.

(B) Leftward Shift in Demand Curve:-Demand for a commodity decreases while

Supply is constant.-Equilibrium Price and Quantity Decreases

Shift in Supply Only

(A)Rightward Shift in Supply Curve.-Supply for a commodity increases while Demand

remains Constant.-Decrease in Equilibrium Price but increase In

Quantity

(B)Leftward Shift in Supply Curve.-Supply for a commodity decreases while Demand

remains Constant.-Increase in Equilibrium Price but decrease in Quantity.

Simultaneous shifts in Demand and Supply

(A)Simultaneous Rightward Shift:(I) When increase in supply is equal to increase in demand:

-Equilibrium price remains the same.

-EquilibriumQuantity Increases

(II) When Increase in Supply is less than increase in Demand:

-Both equilibrium price and quantity will increase.

(III) When increase in Supply is more than increase in Demand:

-Equilibrium price will fall- Equilibrium Quantitywill increase

(B) Simultaneous Leftward Shift:(I)When decrease in supply equals decrease in demand:

-Equilibrium price is unaffected.

-Equilibrium quantity decreases.

• (II) When Decrease in Supply is more than Decrease in Demand:

– Equilibrium Price will increase– Equilibrium Quantity falls

• (III)When Decrease in Supply is less than Decrease in Demand:

– Equilibrium Price and Quantity will fall.

Causes of Shifts in Demand and Supply

• Shifts in Market Demand and Supply are caused by factors other than price .• Remember , these changes are

NOT caused because of a change in price!

Causes of Shift in Demand• (1)Change In Price of Related Goods in

consumption:– Related goods include Substitute and

Complimentary goods.– Substitute Goods:

• If the price of one good rises then the demand for its substitute also rises. Eg. Tea and Coffee.

• Causing a rightward shift in the demand curve.

– Complimentary Goods:• If the price of one good rises the demand for its

compliment will fall. Eg: Tea and Sugar• Causing a leftward shift in the demand curve.

• (2)Change in Income:– This shift occurs when there is a change in the

aggregate income of an economy.– Demand for a Normal good(Direct relation):• When the income rises, the demand also rises.

(Rightward shift)• When the income falls, the demand also falls.

(Leftward shift)• Eg: Wheat

– Demand for an Inferior good(Indirect relation):• When the income rises, the demand falls.(Leftward

shift)• When the income falls, the demand rises.(Rightward

shift)• Eg: Ragi

• (3)Change in Taste:–Favourable Change:• Demand rises(Rightward shift)• The Price and Quantity purchased will

increase.

–Unfavourable Change:• Demand Falls(Leftward shift)• The Price and Quantity purchased will

decrease.

• (4)Change in number of consumers in the market:–Increase in number of consumers:•Market Demand rises (Rightward Shift)• Price and quantity purchased rises.

–Decrease in number of consumers:•Market Demand falls (Leftward Shift)• Price and quantity purchased falls.

Causes of Shift in Supply

• (1)Change in Price of Factor Inputs:– Increase in Price of factor inputs leads to an

increase in cost of production.– Leftward shift in supply curve.–Price of product increases and quantity

exchanged falls.

• (2)Technological Progress:– Technological progress helps in reducing the cost

of production.– This reduces price of the product.– Supply increases. (Rightward Shift)

• (3)Change in Excise duties:– An increase in Excise Duties in production

increases the cost of production.– Hence this shifts the supply curve to the left.– This increases price of the product and decreases

the quantity supplied.

• (4)Increase in price of Substitute Good in Production:– The supply curve of the given product shifts to the

left.– The producer prefers to produce the substitute

good as this gives him more profit.– Price of the given product increases and quantity

exchange will decrease.

• (5)Number of firms in the Market:– An increase in the number of firms leads to an

increase in the competition.– Shifts the market supply curve to the right.– This results in fall in the price of the product and

increase in the quantity exchanged.

• (6)Other Factors:– Change in Weather Conditions– Change in Goals of Producers – Future Expectations of price changes.

Government Intervention

• Direct Intervention:– Control Price and Support Price

• Indirect Intervention:– Taxes – Subsidies

• Indirect Intervention:– Taxes – Subsidies