BIG PICTURE B

Week 4 & 5: Unit Learning Outcomes (ULO): At the end of the unit, you are expected
to:

a. Explain the forces that determine the demand for a firm’s product or service; and
b. Evaluate consumers’ responsiveness in the quantity demanded of a commodity to
the changes in each of the forces that affect demand using the concept of
elasticity.

Big Picture in Focus: ULOa. Explain the forces that determine the demand
for a firm’s product or service.

Metalanguage
The following are terms to be remembered as we go through in studying this unit.
Please refer to these definitions as supplement in case you will encounter difficulty in
understanding demand and supply.
1. Demand refers to the entire relationship between the quantity of product that
buyers wish to purchase per period time and the price of that product.
2. Demand Function is a calculation of the way how prices- costumer expectations
and substitute products are reflected in the demand for a good or service.
3. Qualitative Method is descriptive in nature relating to or involving to quality or
kind.
4. Quantitative Method relates or expressible in terms of quantity or numbers.

Essential Knowledge
Demand in the market determines the amount or volume of products the firm has to
provide. Since firms are aiming for large sales, it is important that it must identify if how
much it would produce in the market. Demand in this sense is vital for firm’s production,
costing, and revenue. This lesson will discuss the nature of demand, demand estimation
and forecasting, and supply. Please note that you are not limited to exclusively refer to
these resources. Thus, you are expected to utilize other books, research articles and other
resources that are available in the university’s library e.g. ebrary,
search.proquest.cometc.,and even online tutorial websites.

1. Demand and the Law of Demand

Demand refers to the ability and willingness of consumer, having the desire
to buy the product at a given price and period of time. It should be noted that
demand is not synonymous to consumption. Demand can be analyze with the aid
 of table, graph, or function reflecting the relationship of quantity demanded and
price or quantity demanded and other factors affecting it.
Ceteris paribus, the relationship of price and quantity demanded is explained
by the Law of Demand. The said law states that: “Holding other factors as constant,
as the price of a particular product increases the level of quantity demanded of the
said product decrease. Likewise, as its price decrease, the level of its quantity
demanded will increase”. The said law implicates the negative relationship between
price and quantity demanded. This condition can be explained by:
a. Substitution Effect – as the price of a particular product increases the
consumer will tend to switch other substitute products which will lead to a
reduction on demand of a particular product.
b. Income Effect – as the price of a particular product increases the purchasing
power of the income reduce which leads also to the reduction on quantity
demanded of the product.

2. In reality, majority of the products follows the mechanism of the law. However, there
are also cases where the said law does not apply. That is, the relationship between
price and quantity demanded is positive. The said cases or goods are as follows:
a. Veblem Goods – goods which satisfies aristocratic desire like diamonds,
antique items, rare paintings, etc. where prices of these items increases the
quantity demanded of wealthy individual will also increase.
b. Giffen Goods – goods due to its essentiality that even if its price increase
still consumers demand increases.
c. Consumers psychological bias or illusion about the quality of commodity with
price change.
d. Case of life saving essential goods and also in times of extraordinary
circumstances like inflation, deflation, war and other natural calamities.
e. Case of speculative demand like stock markets.

3. Demand Curve and Function

Both demand curve and function are tools which present the relationship of
price and/or non-price factors and quantity demanded. Demand curve illustrates
the said relationship through graphical approach. Below is an example of demand
curve derived from a linear function where price only as its factor;

Price
Price

D D
QD/Unit/
Time QD/Unit/Time
Linear Demand Curve Non-Linear Demand Curve
 Figure 3. Demand Curves

Points will move along the curve when price only affects quantity demanded.
This is also termed as movement along the demand curve. Demand curve will shift
either to the left or right if non-price factors affects quantity demanded (depending
on the impact of the non-price factor).

4. On the other hand, demand function illustrates the relationship of price and quantity
demanded through mathematical approach. Below is an example of a linear
demand function indicating price and non-rice factors:
QD = a – bP + cPS – dPC + eFEPfI + gTP

where: QD is the amount of goods demanded

P is the products own price
PS is the price of its substitute good
PC is the price of its complement good
FEP is the Future Expectation of Price of the product
I is Income which could be positively or negatively related to QD
TP is the Taste and Preference of consumer towards the product
ais the value of quantity when price is zero; this also represents the
sales of the firm at price zero.
b,c,d,e,f,gare marginal effects of the above mentioned factor

Other demand functions example:

Q = aPb whereb is the price elasticity coefficient and P is Price

Q = aPbYc whereb is the price elasticity coefficient, c is income elasticity
coefficients, P is Price, and Y is Income

5. Factors Affecting Demand

Apart from the product’s own price, demand is also affected by other factors
which are also termed as non-price factors. Multiple factors may affect the demand
level but to name a few, the following are considered in this lesson:
a. Price of Related Goods. This refers to the prices of its substitute or
complement products. Price of substitute goods affects quantity demanded
of a particular product while the price of its complement goods affects
quantity demanded negatively.
b. Income. This factor affects quantity demanded in two different ways,
whether the good is normal or inferior. If the good is normal, income affects
quantity demanded positively. And when the good is inferior it affects
quantity demanded negatively.
c. Taste and Preference. This refers to the likes and dislikes of the consumer
towards the product. Hence, this factor affects quantity demanded positively.
 d. Future Expectation of Prices. This refers to the anticipation of consumers
with regards to price changes of the product in the future, whether it would
increase or decrease. This factor affects quantity demanded negatively.
e. Population Size. This factor also determines the level of demand in the
market of a particular product. A larger size means more demand. Thus, this
factor affects quantity demanded positively/
As discussed earlier, the above factors will trigger the demand curve shifts
whether to the left or right. Say, an increase in population size will lead to an
increase in demand and so the demand curve will shift to the right. On the other
hand, a reduction in income will lead also to a reduction on demand of a normal
good and hence will shift the demand curve to the left. Always remember that when
a factor will lead to an increase of demand then the curve will shift to the right. And
when a factor will lead to a reduction in demand then the curve will shift to the left.

6. Demand Forecasting
Firm’s pricing mechanism as well as promotion policies will base on the
current demand in the market. Unfortunately, those will not be realized if firm will
not undergo into demand estimation. Demand estimation is a process of identifying
current values of demand under the influence of various prices and other
determined variables. The main goal of demand estimation is to come up a
mathematical model that would reflect the relationship between its dependent
variable (demand) and independent variables (prices, income, taste and
preferences, etc.) to forecast demand.
Demand forecasting estimates the future demand of the product. It helps the
firm to determine the estimated demand for its products so that it can plan its
production activity accordingly. It is undertaken either in a macro, industry, or firm
level. There are different methods on demand forecasting, namely:

For Existing Products

 Qualitative Method

a. Survey Method – under this method few consumers are selected and their
response on the probable demand is collected. The demand of the sample so
ascertained is then magnified to generate the total demand of all the consumers
for that commodity in the forecast period.
b. Expert Opinion – under this method the researcher identifies the experts on the
commodity whose demand forecast is being attempted and probes with them on
the likely demand for the product in the forecast period.
c. Delphi Method – under this method, a panel is chosen to give suggestions in
solving the problems in hand. Panel members are separated from each other and
give their views in an anonymous manner.
d. Consumer Interview – under this method a list of potential buyers would be drawn
and each buyer will be approached and asked about their buying plans. This may
be conducted in a: complete enumeration, sample survey, or end-use method.
 Quantitative Method
a. Trend Projection – under this method, demand is estimated on the basis of
analysis of past data. This method makes use of time series (data over a period of
time). Trend in the time series can be estimated by using least square method or
free hand method or moving average method or semi-average method.
b. Regression and Correlation – these methods combine economic theory and
statistical techniques of estimation. in this method, the relationship between
dependant variables(sales) and independent variables(price of related goods,
income, advertisement etc..) is ascertained.
c. Extrapolation – in this method the future demand can be extrapolated by applying
binomial expansion method. This is based on the assumption that the rate of
change in demand in the past has been uniform.
d. Simultaneous Equation – also called the complete system approach to forecasting.
This is the most sophisticated econometric method of forecasting. It explains the
behavior of all variables which the firm can control.

For New Products

a. Evolutionary Approach. In this method, the demand for new product is estimated
on the basis of existing product. E.g. Demand forecasting of colored TV on the
basis of demand for black & white TV.
b. Substitute Approach. The demand for the new product is analyzed as substitute
for the existing product.
c. Growth curve Approach. On the basis of the growth of an established product, the
demand for the new product is estimated.
d. Opinion Polling Approach. In this approach, the demand for the new product is
estimated by inquiring directly from the consumers by using sample survey.
e. Sales Experience Approach. The demand is estimated by supplying the new
product in a sample market and analyzing the immediate response on that product
in the market.
f. Vicarious Approach. Consumer’s reactions on the new products are found out
indirectly with the help of specialized dealers.

7. Supply and the Law of Supply

Supply refers to the ability and willingness of the producer to sell at a given
price on a particular period of time. It reflects the seller’s decision in dealing the
market with respect on its selling activities. Supply is not synonymous to stock as
the latter refers to the amount or volume of goods stored and is not yet intended for
sale. Similar to demand, supply can also be analyze with the aid of table, graph, or
functions.
The relationship of price and quantity supplied can be explained with the use
of the Law of Supply. The law simply states that: “Holding other factors as constant,
as the price of the product increase the level of its quantity supplied also increases.
Likewise, as the price of the product decrease the level of its quantity supplied will
also decrease”. The said condition tells us that there is a positive relationship
between price and quantity supplied and this is due to the profit motive of the seller.
 Note that the summation of the entire supply of each seller would reflect the supply
of the market.

8. Supply Curve and Function

Supply curve is a tool in supply analysis that shows the relationship of price
and quantity supplied in a graphical form. Since there is a positive relationship
established between the two factors (base on the Law of Supply) the structure of
its curve is upward sloping. Below is the graph showing the supply curve.

Price Price

S
S

QS/Unit/ QS/Unit/
Time Time
Linear Supply Curve Non-Linear Supply Curve

Figure 4. Supply Curves

Under the supply analysis, points will just move along its curve if only price
affects quantity supplied. This is also termed as movement along the supply curve.
However, if non-price factors affects quantity supplied then the entire curve will
shift either upward or downward depending on the impact of the said factors to
quantity supplied.

Supply function, on the other hand, is another tool which reflects the
relationship between price and quantity supplied in a mathematical form.

Self-Help: You can also refer to the sources below to help you further
understand the lesson
Reginio, N. &Ranalan, R L. (2020). Project WRITE XI: managerial economics. CHED
XI, Course Pack Making.

Let’s Check

Reasoning. State your answer in a brief manner.

 Suppose that hot weather causes the demand for ice cream to increase. As a head
of a manufacturing business of ice cream, what would be your planning strategy/ies to
meet the demand in the market?
______________________________________________________________________________
______________________________________________________________________________
______________________________________________________________________________
______________________________________________________________________________
______________________________________________________________________________
______________________________________________________________________________
______________________________________________________________________________
.

Let’s Analyze

Problem Solving.Provide a legible solution to the given problem below. Improper and/or
partial solutions will not be credited.

The Creative Publishing Company (CPC) is a coupon bookpublisher with markets in

several southeastern states. CPC coupon books are sold directly to thepublic, sold through religious
and other charitable organizations, or given away as promotionalitems. Operating experience
during the past year suggests the following demand function forCPC's coupon books:

Q = 5000 - 4000P + 0.02Pop + 0.25I + 1.5A

Where: Q is quantity, P is price ($), Pop is population, I is disposable income per household ($),
andA is advertising expenditures ($).
Source: Managerial economics by Bentzen, E. &Hirschey, M. (2016)

A. Determine the demand faced by CPC in a typical market in which P = $10, Pop - 1 000000
persons, I - $60000, and A - $10000.

B. Calculate the level of demand if CPC increases annual advertising expenditures from $10000to
$15000.
C. Calculate the demand curves faced by CPC in parts A and B.

In a Nutshell
In this part you are going to jot down what you have learned in this unit. The said
statement of yours could be in a form of concluding statements, arguments, or
perspective you have drawn from this lesson. The first one is done for you.

1. Demand refers to the ability and willingness of consumer, having the desire to buy
the product at a given price and period of time. It should be noted that demand is
not synonymous to consumption.

Now it’s your turn!

2.

3.

4.
 5.

Q&A List
In this section you are going to list what boggles you in this unit. You may indicate
your questions but noting you have to indicate the answers after your question is being
raised and clarified. You can write your questions below.

Questions/Issues Answers
1.

2.

3.

4.

5.

Keywords Index

Demand Supply Law of Demand

Law of Supply Non-Price Factors Demand Forecasting
 Demand Estimation Qualitative Method Quantitative Method

Big Picture in Focus: ULOb. Evaluate consumers’ responsiveness in the

quantity demanded of a commodity to the changes in each of the forces
that affect demand using the concept of elasticity.

Metalanguage
The following are terms to be remembered as we go through in studying this unit.
Please refer to these definitions as supplement in case you will encounter difficulty in
determiningelasticity.
1. Elasticity is a measure of responsiveness of one variable to a change of another
variable.
2. Revenue refers to the sales or income of a business.

Essential Knowledge
Demand analysis examines the responsiveness or sensitivity of consumers’ demand
to change in the factors that determine their buying decision. The previous lesson
emphasizes the direction of the change when one of these factors change. This lesson
focuses on the quantitative effect of these changes. Focus of this lesson will be on the
following variables: price, income, and prices of related goods (cross-price). Please note
that you are not limited to exclusively refer to these resources. Thus, you are expected to
utilize other books, research articles and other resources that are available in the
university’s library e.g. ebrary, search.proquest.cometc.,and even online tutorial websites.

1. Elasticity and its Types

Elasticity is a measure of responsiveness used in demand analysis.
Quantitatively, this is defined as the change in a dependent variable resulting from
a change in the value of an independent variable. Demand elasticity measures the
impact or magnitude of changes in demand-determining variables, such as price of
the good, prices of related goods, and income.
Price elasticity of demand. This measures the relationship between a
change in the quantity demanded of a particular good and a change in its price.
Price elasticity of demand is a term in economics often used when discussing price
sensitivity. The formula for calculating price elasticity of demand is:
% change in quantity demanded
price elasticity of demand 
% change in price
Point elasticity
This measures elasticity at a given point on a function or on the demand curve,
and is given by

Arc price elasticity

This measures price elasticity between two points on the demand curve, and is
given by

Price elasticity and its range of values

Note that the price elasticity of demand is always interpreted in terms of its
absolute value when we are referring to whether demand is elastic or inelastic. Its
negativity arises simply because of the inverse relationship between price and
quantity demanded. Table 1 shows the range of values and its interpretation.
Table 1. Range of Values

Source: Wilkinson, Nick (2005). Managerial economics A problem-solving approach

Relationship of price elasticity with revenue, cost, and profit

The concept of price elasticity is important for managers in order to

determine the right price to charge and make forecast. The table below (2)
summarizes the relationship of price elasticity with the firm’s revenue, costs, and
profit.
 Table 2. Relationship of price elasticity with revenue, cost, and profit
Source: Wilkinson, Nick (2005). Managerial economics A problem-solving approach

Some important implications:

 Firms will always maximize revenue if it charges a higher price when demand is
inelastic.
 Firms will maximize sales if it cuts its price on a product with elastic demand.

Factors affecting the price elasticity of demand

 Availability of substitutes. Perhaps this is the most obvious factor affecting demand
elasticity is the availability of substitutes. The more there are close substitutes
available in the market the more elastic is its demand.
 Proportion of income spent on the commodity. When an item represents a
relatively small portion of the total budget, we tend to pay little attention to its price
(thus, inelastic), other factors remaining the same.
 Time period. Demand tends to be more elastic in the longer term as consumers
have enough time to look for and switch to different products.

Income elasticity of demand. This is defined as the measure of responsiveness or

sensitivity in the demand for a product when consumers’ income change, and is given
by

% change in quantity demanded

income elasticity of demand 
% change in income

Income elasticity and its range of values

 Income elasticity can be positive or negative, depending on whether the product is
normal or inferior. Normal products can be further divided into luxury products and
staple products, according to whether the income elasticity is more than one or less
than one respectively. This is summarized in Table 3

Table 3.Range of values

Source: Wilkinson, Nick (2005). Managerial economics A problem-solving approach

Managers are interested to understand and measure income elasticities for their
products in order to select target markets and make forecasts. It is important to
emphasize that income is an exogenous variable, that is, outside the firm’s control,
but a firm can somehow influence its sales by selecting from different target markets
with different levels of average income.

Cross-price elasticity of demand. This is defined as the measure of responsiveness

or sensitivity in the demand for a productwhen price of another product changes, and
is given by
% change in quantity of Y demanded
cross - price elasticity of demand 
% change in price of X

Cross-price elasticity and its range of values

Cross-elasticity can be positive or negative according to whether the other

product is a substitute or a complement. If the value of the elasticity is positive, then
the two commodities are substitute because an increase in the price of the other
commodity (may be a competitor’s product) leads to an increase in the demand for
the firm’s commodity. On the other hand, if the cross-price elasticity is negative, the
two commodities are complementary because an increase in the price of the other
commodity results to a decrease in the consumption for the firm’s commodity.

Managers are interested in cross-price elasticity because it gives them the

knowledge on the existence of meaningful relations of products (whether substitutes
or complements) within the firm’s own product mix. It also measures the degree of
competition that is present in the market.
 Self-Help: You can also refer to the sources below to help you further
understand the lesson

Reginio, N. &Ranalan, R L. (2020). Project WRITE XI: managerial economics. CHED

XI, Course Pack Making.

Let’s Check

Reasoning. State your answer in a brief manner.

Suppose that the price of rice increases by 10% and your income and other buying
influences did not change, how would this affect your purchasing decision?
______________________________________________________________________________
______________________________________________________________________________
______________________________________________________________________________
______________________________________________________________________________
______________________________________________________________________________
______________________________________________________________________________
______________________________________________________________________________
.

Let’s Analyze

Essay.Describe the likely effects to total revenue in the following situations.

1. Price increases and demand is inelastic

______________________________________________________________________________
______________________________________________________________________________
_____________________________________________________________________

2. Price decreases and demand is elastic

______________________________________________________________________________
______________________________________________________________________________
_____________________________________________________________________

3. Price increases and demand is elastic.

______________________________________________________________________________
______________________________________________________________________________
_____________________________________________________________________

4. Price decreases and demand is inelastic

______________________________________________________________________________
______________________________________________________________________________
_____________________________________________________________________

5. Price increases and demand is unitary elastic

______________________________________________________________________________
______________________________________________________________________________
_____________________________________________________________________

In a Nutshell
In this part you are going to jot down what you have learned in this unit. The said
statement of yours could be in a form of concluding statements, arguments, or
perspective you have drawn from this lesson. The first one is done for you.

1. Elasticity is a very important tools that managers can use in demand analysis.
Demand elasticity measures the impact or magnitude of changes in demand-
determining variables, such as price of the good, prices of related goods, and
income.

Now it’s your turn!

2.

3.

4.
 5.

Q&A List
In this section you are going to list what boggles you in this unit. You may indicate
your questions but noting you have to indicate the answers after your question is being
raised and clarified. You can write your questions below.

Questions/Issues Answers
1.

2.

3.

4.

5.

Keywords Index
Elasticity Point Elasticity Method Arc Elasticity Method
Price Elasticity Income Elasticity Cross-Price Elasticity
Revenue Cost Profit