MICRO ECONOMICS

P. Bharathi

Page 1

THEORY OF DEMAND

Page 2

What is Demand?
The willingness to buy a good or service at all prices backed by purchasing power What is the law of Demand? People demand more at lower prices and low at higher prices.

Page 3

Determinants of Demand
Prices of other goods ( substitute or complementary) Outlook (consumers expectation of future income and prices) Income (normal goods versus inferior goods) Number of potential customers Tastes and fashions

Page 4

Consumers willingness to buy

P QD 10 Rs.5 4 20 3 35 2 55 1 80

Price decreases; QD increases D Rs.5

Rs.4

Rs.3
Rs.2 Rs.1
0 10 20

Quantity Demanded

35

55

80

other things remaining constant

Page 5

in a given time period

GRAPHING DEMAND
Price of Corn CORN Rs5

P $5 4 3 2 1

QD 10 20 35 55 80

10 20 30 40 50 60 70 80 Quantity of Corn

Q
Page 6

GRAPHING DEMAND
Price of Corn CORN Rs.5

P Rs.5 4 3 2 1

QD 10 20 35 55 80

10 20 30 40 5055 60 70 80 Quantity of Corn

Q
Page 7

GRAPHING DEMAND
Price of Corn CORN Rs.5

P Rs.5 4 3 2 1

QD 10 20 35 55 80

10 20 30 40 50 60 70 80 35 Quantity of Corn

Q
Page 8

GRAPHING DEMAND
Price of Corn CORN Rs.5

P Rs.5 4 3 2 1

QD 10 20 35 55 80

10 20 30 40 50 60 70 80 Quantity of Corn

Q
Page 9

DEMAND CURVE
Price of Corn CORN Rs.5

P Rs.5 4 3 2 1

QD 10 20 35 55 80

10 20 30 40 50 60 70 80 Quantity of Corn

Q
Page 10

DEMAND CURVE
Price of Corn CORN Rs.5

P Rs.5 4 3 2 1

QD 10 20 35 55 80

D
10 20 30 40 50 60 70 80 Quantity of Corn

Q
Page 11

Change in QD

Rs.10
Price

1. Price change 2. Movement

[up/down the demand curve]

3. Point to point [along the curve]

Inverse

relationship

Rs.8

QD1 QD2

QD
Page 12

1. Income Effect current buyers buy more. 2. Substitution Effect new buyers. 3. Diminishing Marginal Utility - because buyers of successive units receive less marginal utility, they will buy more only when the price is lowered.

Page 13

Demand Shifters
1.Taste 2. Income 3. Market Size 4. Expectations of consumers about future price, Income, availability of good 5. Prices of related goods

Page 14

Demand Shifters
Substitutes & Complements
D
D1 D2 D1
D2

P1 P2

P
QD1 QD2
Complement

P
Substitute

Bread

Butter

Coffee

Page 15

Change in Demand
D3 D 1 D3

QD3 QD1 QD2

Page 16

Page 17

ELASTICITY OF DEMAND

Relationship between proportionate change in price and quantity demanded

Page 18

Factors governing the elasticity of demand:

Number and closeness of substitutes Significance of commodity in budgets Degree of necessity of goods Habits and attitude of consumer Uses of the commodity Time of demand

Page 19

Factors influencing demand

Number of consumers Price level Availability of substitutes Distribution of wealth Tastes & Fashions Possibility of change in price Climate Advertisement

Page 20

Importance
- In Consumption For producers In exchange In distribution Public finance

Page 21

LAW OF SUPPLY

Page 22

SUPPLY

Supply tells about the amounts of a product that producers are willing and able to make available for sale at each of a series of possible prices.

Page 23

LAW OF SUPPLY

A direct relationship that exists between price and quantity supplied

As Price Rises Quantity Supplied Rises As Price Falls Quantity Supplied Falls
Page 24

Price increases; QS increases Price decreases; QS decreases

Direct

S refers to the whole supply curve and refers to what producers will supply at different prices QS refers to a point on the curve and refers to what producers will supply at a particular price

P2 P1
QS1 QS2

Reasons For Upward sloping S Curve

1. Current producers produce more 2. New producers are attracted to the market.

Page 25

SUPPLY CURVE
Price Rs.5

Supply Schedule

P QS Rs.5 4 3 2 1
20 30 40 50 60 70 80 Quantity

60 50 35 20 5

o 5 10

Q
Page 26

SUPPLY CURVE
Price Rs5

Supply Schedule

P QS Rs.5 4 3 2 1
10 20 30 40 50 60 70 80 Quantity

60 50 35 20 5

Q
Page 27

SUPPLY CURVE
Price Rs.5

Supply Schedule

P QS Rs.5 4 3 2 1
10 20 303540 50 60 70 80 Quantity

60 50 35 20 5

Q
Page 28

SUPPLY CURVE
Price Rs.5

Supply Schedule

P QS Rs.5 4 3 2 1
10 20 30 40 50 60 70 80 Quantity

60 50 35 20 5

Q
Page 29

SUPPLY CURVE
Price Rs.5

Supply Schedule

P QS Rs.5 4 3 2 1
10 20 30 40 50 60 70 80 Quantity

60 50 35 20 5

Q
Page 30

SUPPLY CURVE
Price Rs.5

Supply Schedule

P QS Rs.5 4 3 2 1
10 20 30 40 50 60 70 80 Quantity

60 50 35 20 5

Q
Page 31

Page 32

1. Cost of Inputs Decreases, supply Increases

If cost of inputs

[wages & raw materials]

If cost of inputs

increases supply Decreases

S2 S S1

P R I C E

Quantity Supplied

Page 33

Substitutes in production

P2
TEA

S
P

S2

S1
COFFEE

P1

QS1 QS2 Producers want to produce more of the good where price is increasing, P1 P2 QS2 QS1
or at least, where the price is not going down. Page 34

S
P

S1 S2
COFFEE

PRICE FALL TEA

Because technical improvement helps to produce more , producers dont have to have as many [saves Rs]
S P R I C E

Supply curve

moves
to the right. S

QUANTITY Page 35

P S1 S2

50

QS1

QS2

Supply
Page 36

S2

S1

S2

are expected

If Prices

to decrease

are expected

If Prices

to increase

If producers expect future prices to decline, they will

(increase/decrease) current production.

If producers expect future prices to increase, they will

(increase/decrease) current production.

Page 37

S3

S1

S2

Free money from the Government (subsidies) induces suppliers to supply more.

When subsidies are taken away, then suppliers lose money and will decrease supply.

Page 38

S3

S1

S2

When taxes are decreased, the supply curve moves to the right. When taxes are raised, the supply curve moves to the left.
Page 39

DETERMINANTS OF SUPPLY

Resource Prices Technology Taxes & Subsidies Prices of Other Goods Price Expectations Number of Sellers

Page 40

Market Equilibrium

Page 41

The Market Mechanism

Market Mechanism Summary
1) Supply and demand interact to determine the equilibrium price. 2) When not in equilibrium, the market will adjust to a shortage or surplus and return to the equilibrium. 3) Markets must be competitive for the mechanism to be efficient.

Page 42

MARKET DEMAND & SUPPLY

Price Price Rs.5 Demand

S
Market Equilibrium

Price

Supply

P QD 4 2,000 Rs.5 4,000 Rs3 Rs.4 7,000 Rs.3 2 11,000 Rs. 2 16,000 Rs. 1
1

PQ Rs.5 12,000 S Rs.4 10,000 Rs.3 Rs.2 7,000 Rs.1 4,000 1,000
D Q
Page 43

6 7 8

10 12 14 16 Quantity

The Market Mechanism

Y

Price (Rs. per unit)

D
O Quantity X

Page 44

The Market Mechanism

Price (Rs. per unit)

Surplus
P1 P
If price is above equilibrium Point-Supply exceeds Demand.

Quantity Page 45

The Market Mechanism

Price (Rs. per unit) S

P3

Assume the price is P2, then: 1) Quantity Demanded is greater than quantity Supplied 2) Producers raise price. 3) Quantity supplied increases 4) Equilibrium is restored

P2
Shortage D

Q1

Q3

Q2 Quantity
Page 46

Effects of Government Intervention Price Controls

If the Government decides that the equilibrium price is too high, they may establish a maximum allowable ceiling price.

Page 47

Price Ceilings and Price Floors

Price Ceiling
is a legally established maximum price which a seller can charge or a buyer must pay.

Price Floor
is a legally established minimum price which a seller can charge or a buyer must pay.
Page 48

49

49

Page 49