EC306 Intermediate Microeconomics

Instructor: Dr. Anita Alves Pena

Supply and Demand Functions

A demand function for a good describes mathematically how that good’s quantity demanded changes for
different combinations of its price and other related factors such as income or the price of a related product.
A simple demand function might take the linear form Qd = A − BP where A is a constant and B is a slope

parameter. In this simple case, Qd is a function of only one variable, P , which is the price of the product.
∂Qd dQd
Note that we can interpret B in terms of calculus by noting that ∂P = dP = −B. Similarly, a supply
function is a mathematical representation of how quantity supplied of a product varies for different price
levels and levels of other relevant factors. A simple linear supply curve might take the form Qs = C + DP
∂Qs dQs
where C is a constant and D is a slope parameter. In this case, ∂P = dP = D. Similarly, we can consider
a more complicated demand curve which is a function of additional parameters such as the price of another
good (PO ) and income (M ): Qd = α − βP + γPO + δM . We can again characterize the slope parameters
∂Qd ∂Qd ∂Qd
given calculus. Here, ∂P = −β, ∂PO = γ, and ∂M = δ. Notice that you can extend this framework for
more complicated forms of the demand and supply functions. The general method to find the slope of the
demand or supply function in the direction of a specific variable is to take the first partial derivative of the
relevant function with respect to the variable of interest.
Substitutes and Complements
Two goods are substitutes if an increase in the price of one causes buyers to demand more of the other

product. Two goods are complements if an increase in the price of one causes buyers to demand less of the
other product. The relationships of substitutes and of complements therefore are relationships between the
price of one good and the quantity of another good. Considering the demand curve Qd = α−βP +γPO +δM ,
∂Qd
we can easily tell if products are substitutes or complements by examining ∂PO , which equals the coefficient
γ. If γ > 0, then the two goods are substitutes indicating that an increase in the price of a related good,
PO , is associated with an increase in the quantity demanded of the good itself. If γ < 0, then the two goods
are complements indicating that an increase in PO is associated with a decrease in Qd .
Elasticities and Calculus
Elasticities of demand and supply are used to examine the responsiveness of quantity demanded and
quantity supplied respectively to changes in the price of a product, the prices of related products, income,
or other factors. Elasticities are defined mathematically as equaling the percentage change of one variable
(ΔQ/Q)
divided by the percentage change of another. This can be written algebraically as E d = (ΔP/P ) . Elasticities
also can be defined in terms of calculus. For example, the price elasticity of demand can be written E d =

1
∂Qd P ∂Qd
∂P Q where P and Q represent a point on the demand curve, and ∂P is a partial derivative like those
calculated on the previous class handout. The algebraic and calculus formulas are equivalent, and the
principles of elasticities that you have learned in your textbook all extend here.
Similar to the price elasticity of demand formula, the price elasticity of supply can be written as E s =
∂Qs P
∂P Q where P and Q now represent a point along the supply curve. Similarly still, you can calculate
other elasticities using this general method. Your textbook for example also defines the income elasticity
of demand and the cross-price elasticity of demand. Consider the more complicated version of the demand
function written above where quantity demanded is a function of P , PO , and M . The income elasticity of
(ΔQ/Q) ΔQ M
demand is EM
d
= (ΔM/M) = ΔM Q where M is income. Using calculus, the formula for the income elasticity
d
of demand is EM
d
= ∂Q M
∂M Q .
(ΔQ/Q) ΔQ PO ∂Qd PO
Likewise, the formula for the cross-price elasticity of demand is EPdO = (ΔPO /PO ) = ΔPO Q = ∂PO Q

where Q refers to the quantity of the good whose demand curve we are looking at and PO refers to the price
of another good that is somehow related. Given your understanding of partial derivatives from the previous
handout, you should be able to calculate these and other elasticities with ease using calculus.
Remember that you can also solve these types of questions using the algebraic methods outlined in your
textbook. Both algebra and calculus are mathematical tools that you can use to solve economics problems.
Here, the economic concept is that of demand and supply elasticities which measure changes in quantity
demanded or supplied associated with changes in prices, income, or other relevant variables. Let’s look at
some examples.

WORKED-OUT PROBLEM
The Problem Consider the demand curve Qd = 8 − 3P . What is the price elasticity of demand at
P = 2?
The Solution To solve this problem, we need to know three things. Since the price elasticity of demand
is different at each point along the demand curve, we first want to know at which point we should calculate
this elasticity. This is given in the problem since we are told to calculate the price elasticity when P = 2.
Secondly, we want to know the quantity that will be demanded at this price. We can calculate this by
substituting P = 2 into the demand curve equation. For this problem, Qd = 8 − 3P = 8 − 3(2) = 8 − 6 = 2.
Thirdly, we want to know the partial derivative of Qd with respect to P . Since the demand curve here
is a function of only one variable, price, the partial derivative is equivalent to the standard single variable
∂Qd dQd d(8−3P )
derivative. Therefore, ∂P = dP = dP = −3. Now, using our three pieces of information, we can
∂Qd P
calculate the price elasticity of demand by subbing into our formula. Namely, E d = ∂P Q = −3( 22 ) = −3.

2
WORKED-OUT PROBLEM
The Problem Consider the supply curve Qs = 2 + 3P . What is the price elasticity of supply at P = 2?
The Solution To solve this problem, again we need to know three things. We know that P = 2 at the
point along the supply curve at which we want to calculate this elasticity. The quantity supplied at this
price is calculated by subbing P = 2 into the supply curve equation. Here, Qs = 2 + 3P = 2 + 3(2) = 8. Now
since we have the relevant price and quantity, all we need is the relevant slope or partial derivative of the
∂Qs dQs d(2+3P )
quantity supplied with respect to price. In our case, ∂P = dP = dP = 3. We can calculate the price
s
elasticity of supply by subbing into our formula. Here, E s = ∂Q P
∂P Q = 3( 28 ) = 34 . This is the price elasticity
of supply at P = 2.

ADDITIONAL EXERCISES
1. Consider the demand curve Qd = 10 − 5P . What is the price elasticity of demand at P = 1?

2. Consider the demand curve Qd = 10 − 5P . What is the price elasticity of demand at Q = 5? How
does the answer relate to the question above?

3. Consider the supply curve Qs = 2 + 3P . What is the price elasticity of supply at P = 1?

4. Consider the demand curve Qd = 10 − P + 5M . What is the price elasticity of demand if P = 9 and
M = 2?

3
 5. Consider the demand curve Qd = 10 − P + 5M . What is the income elasticity of demand if P = 9
and M = 2?

6. Consider the demand curve Qd = 10 − P + PO . What is the cross-price elasticity of demand if P = 9

and PO = 5? Are the two goods substitutes or complements?