DETERMINATION OF EQUILIBRIUM

PRICE AND QUANTITY

CONTENT

1. Introduction
2. Equilibrium Price
3. Use of Demand and Supply Functions to Determine Equilibrium Price and Quantity
4. Effect of Changes in Demand and Supply on the Equilibrium Price
5. Price Legislation

Introduction
In a free market economy, prices are determined by the forces of demand and supply. This is also
known as Price Mechanism or Price System.

Equilibrium Price
Definition of Equilibrium Price

This is the price at which demand equals supply. It is the price at which the quantity of a
commodity that consumers are willing to buy equals the quantity of that commodity that
suppliers are willing to sell. Therefore

At Equilibrium,

Demand = Supply

Equilibrium Price can be illustrated using the demand and supply schedules below:

Price Quantity
Quantity
Demanded
(₦) Supplied
10 60 20
15 50 30
20 40 40
25 30 50
30 20 60
The Equilibrium Point, Point E on the graph, is the point at which demand equals supply. At this
point, Equilibrium price is ₦20, while quantity demanded and quantity supplied equals 40 unit.
If the price is fixed above the equilibrium price, there is excess supply because sellers are willing
to supply at a higher price while consumers are willing to purchaser less quantity at a higher
price. This tends to pull down prices towards the equilibrium price

Also, if any price is fixed below the equilibrium price, consumers will be willing to purchase
more of the commodity at lower prices but suppliers are willing to supply less at lower prices.
This will eventually push up the prices towards the equilibrium price.

Use of Demand and Supply Functions to Determine Equilibrium Price and

Quantity

Example 1: The demand and Supply functions of a commodity are given below:

Quantity demanded (Qd) = 40 – 4p

Quantity Supplied (Qs) 12p = 12p – 24. Where p is Price in naira

1. Determine the equilibrium price and quantity bought and i=sold

2. If the price of the commodity is fixed at ₦6.00, what is the magnitude of excess supply?

Solution:

1. At equilibrium, Qd=Qs 40 – 4p = 12p – 24,

Collecting like terms 40 + 24 = 12p + 4p

64 = 16p
P=4

Therefore, equilibrium price is ₦4.00

To find Q, we substitute 4 for P in any of the functions:

Qd = 40 – 4(4) = 40 – 16 = 24

B. To find the excess supply, substitute N6.00 for p in the two functions.

Qd = 40 – 4(6)

Qs = 12(6) – 24

40 – 24 = 72 – 24

16 = 48

Thus, Excess Supply = Quantity supplied – Quantity demanded

= 48 – 16 = 32units

EVALUATION

Use the diagram below to answer the questions below it.

(a) What does 0P0 represent?

(b) What does LM represent at the price of 0P2?

(b) What happens when the price is fixed at 0P1?

(c) The demand and supply equations for a commodity (in a free market) are given as:

Qd = 10 – 2p Qs = 4p – 8

1. Given that P is in naira; Qd and Qs are in kg, Determine

(i) The equilibrium Price

(ii) The Equilibrium quantity

2. (i) If the price (P) were to be N4.00, what will be the excess supply?

(ii) If the price were fixed at N1.00, what will be the excess demand?

Effect of Changes in Demand and Supply on the

Equilibrium Price
Changes in either Demand or Supply can lead to changes in equilibrium price and quantity. Once
there is any change in either demand or supply, the initial equilibrium will be disrupted and a
new equilibrium will be created. Let’s tackle effect of changes in demand first:

Effect of Changes in Demand on Prices

(a) Increase in Demand

If the demand for a commodity increases while supply remains constant, there will be an excess
of demand over supply, which will eventually push up equilibrium price and equilibrium
quantity. Let’s illustrate this graphically:
In the Figure above, the shift of the demand curve from D0D0 to D1D1 because of increase in
demand pushes up equilibrium price from P0 to P1, and equilibrium quantity from Q0 to Q1.

(b) Decrease in Demand

A decrease in demand while supply remains constant will lead to an excess demand over supply.
This will invariably lead to a decrease in equilibrium price and quantity. This is
diagrammatically illustrated below:
In the figure above, the decrease in demand from D1D1 to D2D2 will push down equilibrium price
from P0 to P2, and equilibrium quantity from Q1 to Q2.

Effect of Changes in Supply on Equilibrium Price

(a) Increase in Supply

If supply increases while demand remains constant, there will be an excess of supply over
demand. This will invariably lead to a decrease in equilibrium price but an increase in
equilibrium quantity. Let’s illustrate this in the diagram below:

In the figure above, the rightward shift of the supply curve (i.e. increase in supply) from S0S0 to
S1S1, causes the equilibrium price to fall from P0 to P1, while equilibrium quantity increases from
Q0 to Q1

(b) Decrease in Supply

A leftward shift of the supply curve (i.e. decrease in supply) while demand remains constant will
lead to an excess demand over supply. This will push up the equilibrium price but pull down
equilibrium quantity. This is illustrated thus:
In the figure above, the decrease in supply from S1S1 to S2S2 to pushes up the equilibrium price to
fall from P1 to P2, while equilibrium quantity decreases from Q1 to Q2.

EVALUATION

1. Explain how increase in demand affects equilibrium price and quantity.

2. Explain how decrease in demand affects equilibrium price and quantity.

Price Legislation
Price legislation, also known as price control policy, refers to how the government or its agency
fixes the price of essential commodities. Price control was carried out in Nigeria by the Price
Control Board.

Types of Price Control Policies

1. Minimum price control policy

The minimum prices are the lowest prices by law, below which the specified goods and services
cannot be sold or bought. Minimum prices may be fixed on commodities if the aim is to protect
producers (especially agricultural producers) from the income fluctuation brought about by poor
harvests.
The figure above shows the effect of minimum price legislation (Price floor). The equilibrium price is
initially at P1. Setting a minimum price pushes it up to P2. This causes the supply to increase while
demand decreases at the same time, both effects being caused by setting the price above the equilibrium
price. A surplus supply of Q1 to Q2 therefore develop.

2. Maximum price control policy

A maximum price controls the highest price level above which goods and services cannot be
sold. Under this condition, nobody is allowed to sell goods and services above the maximum
price but selling below it is allowed.

The figure above shows the maximum price legislation (Price ceiling). The initial market
equilibrium price is P2 and the quantity demanded and supplied is Q2. When the maximum price
P1 which is set below the equilibrium price is imposed, the quantity demanded increases to Q3
and the quantity supplied decreases to Q1. Therefore a shortage of Q1 to Q3 is created. As a result
of excess demand over supply, producers may in turn hoard their products since the price is
actually maintained below the equilibrium price. These hoarded products may be taken to the
parallel market (black market) which will offer more acceptable prices.

Objectives of Price Control Policy

The objectives of price control policy, both minimum and maximum are:

1. To prevent the exploitation of consumers by producers.

2. To avoid or control inflation

3. To help low income earners, e.g. minimum wage earners.

4. To control the profits of companies (especially monopolists).

5. To prevent fluctuations of prices of some products, e.g. agricultural produce.

6. To stabilize the income of some producers, e.g. farmers

7. To make possible planning for future output.

8. To accumulate surplus for government.

Effect of Price Control Policy

1. It stimulates excess demand which cannot be satisfied i.e. shortages in the market.

2. It encourages hoarding of commodities by sellers so as to sell above the maximum price

3. It leads to creation of parallel markets (black market) or under-the-counter sales. In this case,
the goods disappear from the open markets.

4. It encourages conditional sales. In this case, buyers are forced to purchase what they do not
need in addition to what they need.

5. shortages result in queues. People have to line up so as to obtain some of the available goods.

6. It leads to rationing. Consumers are allocated a specific quantity irrespective of their need.

7. Preferential treatments are encouraged. Here, sellers prefer to sell to regular customers, friends
and relatives.

EVALUATION

1. Define price legislation.

2. List and explain the types of price control policies.
3. State five (5) objectives of price control policy.
4. Highlight five (5) effects of price control policy.

TOOLS FOR ECONOMIC ANALYSIS

CONTENT
 1. Simple Linear Equation
2. Measures of Dispersion
3. Pie Chart
4. Histogram
5. Frequency Polygon/Distribution

Simple Linear Equation

Basic tools for Economic analysis are the tools required to reduce the wordiness of economic
theories and principles and help to present them in clearer concise forms. Some of these tools
are

 Simple linear equation

 Simultaneous equation
 Measures of Dispersion, etc

1. Simple Linear Equation

In this, functional relationship between two variables can be illustrated symbolically. For
example, let’s say the demand for more plates of rice depends on the availability of meat.

This can be illustrated symbolically as:

Qr = f(m) Where:

Qr = Demand for Rice

m = Meat

Also, if the demand for Indomie Noodles depends on its price. This can also be illustrated thus:

Qi=f(Pi)

Also, it is generally known in economic parlance that the consumption of an individual depends
on his level of income; that is, consumption is a function of income. This is illustrated as:

C = f(Y) Where

C = Consumption and Y = income. If consumption (C) increases as Income (Y) increases, then C
and Y varies directly. E.g.

C = 12 + 2y

On the other hand, if C decreases as Y increases, then they vary inversely. E.g.

C = 12 – 2y
Example 1: If a household consumption function is represented by C = 10 + 2Y, calculate all the
values of C for Y = 0, 5, 10, and 20.

Solution: Substitute the different values of Y in the equation as in the example below.

If Y = 0, then C = 10 + 2(0) =10,

If Y = 5, then C = 10 + 2(5) C = 20

Other values for C as Y is substituted are 30, 50.

Example 2: The demand and supply functions of a commodity are given as follows:

Quantity Demanded (Qd) = 20 – 2P

Quantity Supplied (QS) = 6P – 12, where P = price in naira Determine the equilibrium price and
quantity sold at that price.

Solution:

Qd = 20 – 2P Qs = 6P – 12

At equilibrium, Qd = Qs 20 – 2P = 6P – 12, Collecting like terms

-2P – 6P = -20 – 12

-8P = -32

8P = 32

P = 32/8 = 4

To determine the quantity sold, substitute 4 for P either in the Demand function or supply
functions:

Qd = 20 – 2(4)

= 20 – 8 = 12

Qs = 6(4) – 12

=24 – 12 = 12

EVALUATION
1. The yield of maize (in bags) varies directly with the application of fertilizer (up to a point).
This is represented by the following function: M = 20 + 0.5(F) Where M = Maize and F =
Fertilizer.

Calculate the quantity of maize that can be obtained when 120 units fertilizer is applied,
assuming that other things are equal.

Measures of Dispersion
Measures of Dispersion or Measures of Variability helps to measure how values are spread out
or clustered in a distribution. These measures are:

a. Range

b. Mean Deviation

c. Standard Deviation

d. Variance

a. Range

This is the simplest measure of dispersion. It is simply the difference between the highest value
and the lowest value in a distribution. It is highly influenced by extreme values.

Example: Determine the range in the following set of data: 18, 24, 15, 19, 33, 27, 14, 30, 41, 32,
53, 14, 9, 20, 24, 45.

Solution:

Highest value = 53

Lowest value = 9

Therefore, Range = 53 – 9 = 44

b. Mean Deviation

This is the arithmetic mean of all absolute deviations (i.e. differences) of the various values in a
distribution. The formula is thus:
Mean deviation = ∑|x–x¯¯¯|n or ∑dn

Where, ∑ = summation

x = the values of observation

x¯¯¯ = The mean of the values of x

n = number of observations Example 1: The quantity of egg demanded by consumers in a week
is shown in the following distribution: 3, 4, 5, 5, 6, 7, 8, and 10. Calculate the mean deviation.

Solution:

(i) First thing to do is to find the arithmetic mean of the values:

Arithmetic mean x¯¯¯=∑dn=3+4+5+5+6+7+8+108=488 = 6

(ii) Subtract each value of x from the mean

(ii) Find the sum of all the absolute deviations from the mean

(iv) Divide the sum by the number of observations.

All these are illustrated in the table below

Quantity Deviation from Absolute

Demanded (x) the mean Deviation
D = ∑|
|d| or ∑|x−x¯¯¯|
x−x¯¯¯|
3 (3 – 6) = -3 3
4 (4 – 6) = -2 2
5 (5 – 6) = -1 1
5 (5 – 6) = -1 1
6 (6 – 6) = 0 0
7 (7 – 6) = 1 1
8 (8 – 6) = 2 2
10 (10 – 8)= 4 4
∑|x−x¯¯¯| = ∑|x−x¯¯¯| or ∑|d|
0 = 14

Mean Deviation = ∑|x–x¯¯¯|n or ∑|d|n

= 148 = 1.75
b (ii) The Mean Deviation of a Distribution of a Group Data

Example: Calculate the mean deviation of the frequency table below:

d= |d| = |
Number (x) Frequency (f) F(x) f|d|
x−x¯¯¯ x−x¯¯¯|
2 5 10 -3 3 15
3 2 6 -2 2 4
4 5 20 -1 1 5
6 5 30 1 1 5
10 1 10 5 5 5
12 2 24 7 7 14
Σf = 20 Σfx = 100 Σf|d| = 58

(i) First, we find the mean:

∑fx∑f=10020=5

Mean Deviation = ∑f|d|∑f=5820=2.9

c. Variance

This is also a measure of dispersion. It is the average of the squared deviation for each value in
the distribution.

The formula for calculating Variance for ungrouped data is = S2 or δ2 = ∑|x–x¯¯¯|2n

While the formula for grouped data = ∑f|x–x¯¯¯|2n

d. Standard Deviation (S.D or δ)

This is the square root of the arithmetic mean of the sum of squares of the deviations of the
values in a distribution. In other words, it is the square root of variance.

The Formula for ungrouped data is thus S.D. or δ = ∑|x–x¯¯¯|2n−−−−−−−√

While that of Grouped Data, S.D. or δ = ∑f|x–x¯¯¯|2n−−−−−−−√ or ∑fx2n–

(∑fxn)2−−−−−−−−−−−−−√
Where f is the frequency of the distribution.

Example: Calculate the variance and Standard Deviation of the frequency distribution below:
 Observation (x) 6 7 8 9 10 11 12
Frequency (f) 4 5 6 9 8 2 4

Solution: We will first find the variance of the distribution, and later the standard deviation.
Steps to follow:

a. Find the arithmetic mean of the distribution

b. Find the deviations of the various values from the mean

c. Find the square of each of the deviations

d. Sum up all the squared deviations

e. Divide the sum of the squared deviations by the number of the values Let show all of these in
the table below

| f|
x f f(x) x−x ¯
x−x ¯¯¯ x−x¯¯¯|
¯¯
|2 2
6 4 24 -2.89 8.35 33.4
7 5 35 -1.89 3.57 17.85
8 6 48 -0.89 0.79 4.74
9 9 81 0.11 0.01 0.99
10 8 80 1.11 1.23 9.84
11 2 22 2.11 4.45 8.9
12 4 48 3.11 9.67 38.68
7 38 338 114.4

Mean x¯¯¯=∑fxf=33838=8.89

Therefore, Variance = f|x–x¯¯¯|2n=114.438=3.01

Standard Deviation (S.D.) or δ = f|x–x¯¯¯|2n−−−−−√=3.01−−−−√=1.71

Pie Chart
A pie chart is a circle, which is divided into sectors. The circle represents the total amount of
data presented. The various sectors represent the relative sizes or proportions of each data sectors
represent the ages of 300 students in a school. Represent the information in a pie chart.
 Age (years) Frequency
0-9 30
10 - 12 80
13 - 15 100
16 - 18 70
19 and above 20
Total 300

Calculation:

Step 1: Add all the frequency

Step 2: Total angle of a circle is 360

Step 3: State each age group each

Step 4: compute each frequencytotal frequency×3600

0-9 years: 30300×36001=360

10-12 years: 80300×36001=960

13-15 years: 100300×36001=1200

16-18 yeas: 70300×36001=840

19 + years: 20300×36001=240

Check: 36o + 96o + 120o + 84o + 24o = 360o

Step 5: Draw the circle and fix the angle for each age group.

Note: When the pie chart is drawn and we are asked to calculate the degrees, we divide by
degree multiplied by total number of items.

Histogram
It is the graph of a frequency distribution. It is a set of rectangular bars having their bases as the
interval between the class boundaries and their areas proportional to the frequencies of the
classes values of the variables are put on x-axis while the frequencies are on the Y-axis. No gaps
are left between the bars.
Example: Draw a histogram of the data presented below.

x0123456
f 3356212

Solution:

Scale: x axis – let 1 cm represent 1 unit

y axis – let 1 cm represent 1 unit

Frequency Polygon/Distribution
Frequency polygon is like histogram. The successive mid-points of the tops of the rectangular
bars in the histogram are joined by straight lines. The resulting graph is called a frequency
polygon.

Class interval Frequency Class boundary

21 - 30 2 20.5 - 30.5
31 - 40 5 30 - 40.5
41 - 50 7 40.5 - 50.5
51 - 60 9 50.5 - 60.5
61 - 70 11 60.5 - 70.5
71 - 80 8 70.5 - 80.5
81 - 90 5 80.5 - 90.5
91 - 100 3 90.5 - 100.5

Frequency Polygon

EVALUATION

1. What is the similarity and difference between histogram and frequency polygon?
2. A trading company has a turnover data for three of its subsidiaries A, B, C, whose
contributions are 60%, 25% and 15% respectively. Present the data in a pie chart.
3. Define the Variance and Standard Deviation of a set of observations
4. The quantity of milk demanded by eight consumers in a week is shown in the following
distribution: 2, 4, 6, 8, 4, 6, 7, 10. You are required to calculate the mean deviation,
variance and standard deviation.

THE THEORY OF DEMAND

CONTENT

1. Types of Demand
2. Change in Demand and Change in Quantity Demanded
Types of Demand
(i) Derived demand

It is the type of demand which occurs as a result of demand for other commodities. The demand
for one commodity will necessitate the demand for another commodity. For example, flour and
sugar are demanded because there is demand for bread. Labour is demanded to construct the
highway because there is a demand for good roads. So, labour , flour and sugar are ‘’derived’’
demand commodities. Demand for all factors of production are derived demand.

(ii) Joint or complementary demand

It is a demand which occurs when two commodities that are related to each other are demanded
at the same time. These two commodities are said to be complementary to each other as a change
in the demand for one commodity will bring about a similar change in the demand for the other.
Examples of joint demand are bread and butter, tea and milk, car and petrol. Sometimes they are
described as ‘’joint demand good’’.

(iii) Competitive demand

When two commodities are fairly close substitutes to each other, they are in competitive demand.
In other words, they serve the same purpose or perform a similar function such that an increase
in the demand for one will result in a fall in the demand for the other. Examples of commodities
that are close substitutes are Bournvita and Ovaltine, Malta Guiness and Maltina, Omo and
Elephant detergents, butter and margarine, etc. if the price of any of the pairs of commodities is
high, the consumers may switch over to the other close substitute which has a lower price.

(iv) Composite demand

Demand is said to be composite when a commodity is required to serve two or more purposes.
For example, sugar is widely used in the home for beverages as well as in industries for making
pastries and confectionery. If the industrial demand for sugar suddenly increases, it will affect
the quantity of sugar demand in the home.

EVALUATION

1. List four (4) types of demand.

2. Explain any two types of demand.

Change in Demand and Change in Quantity Demanded

Change in the Quantity Demanded
When there is a change in the quantity demanded, the demand curve does not shift. There is a
movement along a particular demand curve. The main determinant of a change in the quantity of
a commodity demanded is the price of the commodity itself. The quantity of a commodity
demanded changes with price. More is bought at a lower price than at a higher price.

A change in the quantity demanded is of two types; increase in the quantity demanded and
decrease in the quantity demanded.

Increase in Quantity Demanded

There is an increase in quantity demanded when the quantity bought by the consumers increases
as a result of a decrease in price of the commodity. A decrease in the price of the commodity
from P1 to P2 brought about an increase in the quantity demanded from Q1 to Q2.

Decrease in Quantity Demanded

There is a decrease in the quantity demanded when the quantity bought by the consumers
decreases as a result of an increase in the price of the commodity. An increase in the price of the
commodity from P1 to P2 brought about a decrease in the quantity demanded from Q1 to Q2.

Changes in Demand

There is a change in demand if the demand curve shifts to an entirely new position. There is
completely new demand schedule and demand curve, showing that at the old price; more or less
of the commodity would be bought. A change in demand is determined by the factors affecting
demand other than the price of the commodity. For example; changes in taste and fashion,
changes in population size, changes in income, etc

A change in demand is also of two types; increase in demand and decrease in demand.
Increase in Demand (Rightward Shift of Demand Curve)

There is an increase in demand when the demand curve shifts to the right indicating that at the
old price, more of the commodity will be demanded. A shift of demand curve to the right
(Increase in demand) i.e. from D1D1 to D2D2 is brought about by favourable change in factors
affecting demand apart from the price of the commodity itself.

Decrease in Demand (Leftward Shift of Demand Curve)

There is a decrease in demand when the demand curve shifts to the left indicating that at the old
price, less of the commodity will be demanded. A shift of demand curve to the left (Decrease in
demand) i.e. from D2D2 to D1D1 is brought about by an unfavourable change in the factors
affecting demand apart from the price of the commodity itself.

EVALUATION

1. List and explain four types of demand.

ELASTICITY OF DEMAND
CONTENT

1. Definition of Elasticity of Demand

2. Types of Elasticity of Demand
3. Degrees of Elasticity
4. Abnormal Elasticity of Demand
5. Worked Examples
 6. Factors Determining Elasticity of Demand
7. Importance of Elasticity of Demand

Definition of Elasticity of Demand

This measures the degree of responsiveness of quantity of a commodity demanded to changes in
the price of the commodity or to changes in income or taste of the consumer or to changes in
prices of other commodities. This definition breaks down the various segments in which
elasticity of demand will be examined:

Types of Elasticity of Demand

A. Price Elasticity of Demand

B. Income Elasticity of demand

C. Cross Elasticity of Demand

(A) Price Elasticity of Demand

This measures the degree of responsiveness of demand for a particular commodity to a small
change in the price of such commodity. Price elasticity of demand is often called the Elasticity of
Demand

The formula for Price Elasticity of Demand is:

Ed = Percentage Change in Quantity DemandedPercentage Change in Price =

%Δφd%Δp
OR Ed = Change in Quantity DemandedInitial Quantity Demanded÷Change in
PriceInitial Price
Symbolically, Ed =Δφdφd÷Δρρ=ΔφdΔρ×ρφd

Where: ∆φd = Change in Quantity Demanded

∆ρ = Change in Price

φd = Quantity Demanded

ρ = Price of the Commodity

∆φd = φ2 – φ1
∆ρ = ρ2 – ρ1

Where: φ1 = Initial Quantity Demanded

φ2 = New Quantity Demanded

ρ1 = Initial Price

ρ2 = New Price

(B) Income Elasticity of Demand

This measures the degree of responsiveness of quantity demanded to changes in income. In other
words, income elasticity of demand can be described as the percentage change in quantity
resulting from percentage change in a consumer’s income.

The formula for Income Elasticity of Demand is:

Ei =Percentage Change in Quantity DemandedPercentage Change in Income =

%Δφd%Δy
OR Ei=Change in Quantity DemandedInitial Quantity Demanded×Change in
IncomeInitial Income
Symbolically =Δφdφd×Δyy

Where ∆y is change in income.

(C) Cross Elasticity of Demand

This is the degree of responsiveness of quantity demanded of a particular commodity to changes

in the price of another similar commodity.

The formula for Cross Elasticity of Demand is :

Ed =Percentage Change in Quantity Demanded of Commodity XPercentage Change in

Price of Commodity Y=%ΔφdX%Δpy
OR Exy =Change in Quantity Demanded of Commodity XInitial Quantity Demanded of
Commodity X÷Change in Price of Commodity YInitial Price of Commodity Y
Symbolically, Exy =ΔφdXφX÷ΔρYρY=ΔφdXΔρY×ρYφX

In each of the measures of elasticity above, if the coefficient is greater than 1, demand is said to
be elastic. If the coefficient is less than 1, demand is inelastic. But If it is equal to 1, elasticity of
demand is said to unitary. Three
Degrees of Elasticity
Elastic Demand

Demand is elastic if a little or slight change in price or income brings about a larger proportional
change in the quantity demanded of a commodity. Here, the coefficient of elasticity of demand in
greater than one (i.e. e > 1).

The graphical illustration of the Elastic demand is given thus:

Inelastic Demand

Demand is inelastic if a little change in price or income leads a less than proportional change in
the quantity demanded. Here, the coefficient of the elasticity of demand is less than one (i.e. <
1).

The graphical illustration of inelastic demand is thus:

Unitary Elastic Demand

Demand is unitary if a change in price or income brings about the same proportional change in
the quantity demanded.

The graphical illustration of unitary demand is drawn below:

The above cases are Normal cases of Elasticity of Demand. But there are two abnormal cases
Abnormal Elasticity of Demand
a. Perfectly Elastic Demand or Infinitely Elastic Demand

b. Perfectly Inelastic Demand or Zero Elastic Demand

a. Perfectly Elastic Demand or Infinitely Elastic Demand

This is the case in which consumers are willing to purchase any or all the quantity that is offered
for sale at the prevailing price, but will buy none at all at any slight increase in price.

The coefficient of Perfectly Elastic Demand is infinite (i.e. e = ∞ )

Graphically, this can be illustrated as:

b. Perfectly Inelastic Demand or Zero Elastic Demand

This occurs when a change in price does not affect any change in quantity demanded. A good
example of good that falls into this category is salt. People will demand for same amount of salt
regardless the price.

The coefficient of elasticity of this demand is 0 (i.e. E = 0)

Perfectly Inelastic Demand is graphically illustrated thus:

EVALUATION

1. What are the formula for calculating the following: price elasticity of demand, income
elasticity of demand and cross elasticity of demand?

2. Mention the coefficient of the following degrees of elasticity: (i) Elastic demand (ii) Inelastic
demand (iii) Unitary Elastic Demand

Worked Examples
Worked Example 1. The price of garri (in bags) rose from N1, 500 to N2, 100. The quantity
purchase resultantly reduced from 1800 bags to 1500bags. Determine the elasticity of demand
for the product.

Solution: Using the formula:

Ed =Change in Quantity DemandedInitial Quantity Demanded÷Change

in PriceInitial Price

Ed =Δφdφd÷Δρρ

Ed =1500–18001800÷2100–15001500

=−300800÷6001500 =−16÷25
Cross multiplying,
16×52=512=0.42

Since the Ed = 0.42, this shows that the demand for the commodity has an inelastic demand
because the coefficient of elasticity is less than 1.

Note: We do not reckon with the negative because it is believed that the formula has imaginary
negative which has cancelled the negative sign. This is because elasticity of demand cannot be
negative.

Example 2: Mr. Ademolu’s income increased from N12, 000 to N20, 000. His demand for tins
of milk also increased from 300 to 520. Determine his income elasticity of Demand.

Ei =Change in Quantity DemandedInitial Quantity Demanded÷Change in

IncomeInitial Income
=Δφdφd÷Δii

Ei =520–300300÷20000–1200012000

=220300÷8,00012,000 =1115÷23
Cross multiplying,

1115×32=1110=1.1

Since the elasticity of Income is 1.1 i.e. greater than 1, Mr Ademolu’s demand for milk is elastic.

Example 3: Given that the price of a commodity Y increased from N2,200 to N2,750, and that
this results in an increased in the quantity demanded of another commodity X from 6, 000 to 12,
000 unit. Determine the cross elasticity of demand

Exy =Change in Quantity Demanded of Commodity XInitial Quantity Demanded of

Commodity X÷Change in Price of Commodity YInitial Price of Commodity Y

Exy =8000–60006000÷2750–22002200

Exy =2,0006,000÷5502,200

=13÷55220
Cross multiplying,

13×22055=220165=1.3
Since the coefficient is greater than 1, this shows that the cross elasticity of demand for
Commodity X and Y is Elastic. The goods are said to be substitutes.

Factors Determining Elasticity of Demand

1. Availability or Non-availability of Substitutes: Commodities that have close
substitutes will have an elastic demand. This is because at the slight increase in price,
consumers will shift their demand to a cheaper substitute. In the same vein, commodities
without close substitute will have an inelastic demand. Consumer will have no choice
than to buy the same commodity even at higher price
2. The degree of essentiality: The extent to which a commodity is regarded as essential by
consumers will determine the elasticity of demand for it. Essential goods usually have
inelastic demand. This is because consumers would not decrease their demand for such
goods even when there is a slight increase in the price.
3. Habit: The more habitual the consumption of a commodity, the more inelastic the
demand for such product will be for a consumer. Such a consumer would not mind the
slight increase in price of the good.
4. Consumer’s Income: The level of income of a consumer will determine his
responsiveness to prices changes. If a consumer’s income is high, his demand for goods
will be inelastic as he is less likely to be bothered by such small increase in price. On the
other hand, a low-income earner will have an elastic demand.
5. The proportion of the consumer’s income spent on the commodity: If the proportion
of a consumer’s income spent on a particular commodity is very small, its demand tends
to be inelastic .e.g. matches, pens, salt.
6. The number of uses of a commodity: The greater the number of uses to which a
commodity can be put, the greater will be its price elasticity of demand.
7. Complementarily between goods: Demand is usually inelastic for goods that are used as
complements to other commodities.
8. Time for adjustment: Demand tends to be inelastic in the short-run.

Importance of Elasticity of Demand

The following are the importance of elasticity of demand:

1. Increase in revenue: It helps the producers or sellers to increase their revenue in a bid to
raise the prices of their commodities. This will depend on whether their goods are
inelastic or elastic.
2. Determination of maximum output: It also helps the producers to determine the
maximum output to produce in order to ensure higher turnover and profit.
3. Determination of cross elasticity: It helps the producer to determine which goods to
produce more when goods of the same substitutes exist.
4. Imposition of taxes by government: Elasticity of demand helps the government in
determining the imposition of taxes on goods and services.
EVALUATION

1. If at N16 per tuber, 40 tubers were demanded and when the price fell to N12 per tuber, 60
tubers were demanded. What is the price elasticity of demand?
2. What are the factors determining the elasticity of demand?

THEORY OF SUPPLY
CONTENT

1. Types of Supply
2. Change in Supply and Change in Quantity Supplied

Types of Supply
 Joint or complementary supply
 Composite supply
 Competitive supply

A. Joint or complementary supply

If two or more commodities are produced and supplied from one source, it is called joint or
complementary supply. Increase in the production, demand and supply of one will definitely
bring about increase in the production and supply of the other commodities that are produced
from the same source.

B. Composite supply

If a particular commodity can serve two or more purposes, it is said to be in composite supply.
The supply of palm oil for the production of soap will greatly affect the production of pomade
and the use of the same palm oil for cooking of food.

C. Competitive supply

Supply is said to be competitive when many commodities are supplied for the satisfaction of a
particular want. For example meat and fish, butter and margarine etc. So competitive supply of
two or more commodities that serve as substitute or alternative to one another.

EVALUATION
 1. Mention types of supply you know.
2. Explain the meaning of competitive supply.

Change in Supply and Change in Quantity Supplied

Change in Quantity Supplied

This is a movement along a particular supply curve. It is determined by the price of the
commodity. More of the commodity is supplied at higher prices than at lower prices. A change in
quantity supplied is of two types:

1. Decrease in the Quantity Supplied

The quantity of a commodity supplied decreases as a result of a decrease in the price of that
commodity. It can be explained graphically as below

From the table above, quantity supplied decreased from 0Q1 to 0Q2 as a result of falling of price
from P1 to P2.

2. Increase in Quantity Supplied

The quantity of a commodity supplied increases as a result of increase in the price of that
commodity.
From the table above, the Quantity supplied increase from 0Q1 to 0Q2 as a result of increase in price from
P1 to P2

Change in Supply (Shifts of the Supply Curve)

With this, supply curve shifts to an entirely new position, indicating that at each of the old prices
more or less of the commodity will be supplied. It is determined by the factors affecting supply
other than the price of the commodity. A change in supply is of two types:

1. Increase in Supply

This is the rightward shift of supply curve indicating that at old prices, more of the commodity
will be supplied. It is brought about by favourable changes in the factors that affect supply
except the price of the commodity. It can be explained graphically as below:

From the above graph, supply curve shifted from S0S0 to S1S1 and the quantity supplied increased
from 0Q0 to 0Q1 at the old price P.
2. Decrease in Supply

This is the leftward shift of supply curve indicating that less of the commodity will be supplied at
the old price. This is brought about by an unfavourable change in the factors affecting supply
other than the price of the commodity. For example increase in taxation will lead to reduction in
supply.

From the diagram above, the supply curve shifted from S1S1 to S0S0 and the quantity supplied
decreased from Q1 to Q0 at the old price of P.

EVALUATION

1. Define change in supply

2. Distinguish between change in supply and change in quantity supply

ELASTICITY OF SUPPLY
CONTENT

1. Definition of Elasticity of Supply

2. Degrees of Elasticity of Supply
3. The Two Abnormal Elasticity of Supply
4. Measurement of Elasticity of Supply
5. Factors Affecting the Elasticity of Supply

Definition of Elasticity of Supply

Just as it is with demand, there also exists what we called Elasticity of Supply. Elasticity of
Supply is the degree of responsiveness of the supply of a commodity to changes in price. If a
change in price causes more than a proportionate change in supply, then supply is elastic. But if a
change in prices causes a less than a proportionate change in supply, then supply is inelastic.

Degrees of Elasticity of Supply

1. Elastic Supply
2. Inelastic Supply
3. Unitary Elastic Supply

The Two Abnormal Elasticity of Supply

1. Perfectly Elastic Supply
2. Perfectly Inelastic Supply

We shall illustrate all of these graphically, just as the case with demand

A (i) Elastic Supply

This is when change in price causes more than a proportionate change in supply. It is illustrated
thus:

A (ii) Inelastic Supply

This is when change in price causes less than a proportionate change in supply. It is illustrated
thus:
A (iii) Unitary Elastic Supply

This is when change in price leads to the same proportional change in supply. It is drawn as
follows:

B (i) Perfectly Elastic Supply

This is when the quantities supplied remains constant irrespective of increase or decrease in
price. It is drawn as follows:
B (ii) Perfectly Inelastic Supply

This is a situation in which suppliers supply all the quantities they have at the prevailing price,
but no more at any price below or above it. It is also drawn as follows:

Measurement of Elasticity of Supply

Price Elasticity of Supply can be measured or calculated by using the formula below:

Es =Percentage Change in Quantity SuppliedPercentage

Change in Price
OR =Δφsφs÷Δpp=ΔφsΔp×pφ
Where:

∆φs = Change in Quantity Supplied

∆p = Change in Price

φs = Initial Quantity Supplied

p = Initial Price of the commodity

Example: A farmer producing corn, increased quantity offered for sale from 6400kg to 8000kg,
when the price per kg increased from N80 to N100 per kg. What is the elasticity of Supply for
Corn?

Solution: Let’s find the percentage in quantity supplied and also percentage change in Price.

∆φs = 8000 – 6400 = 1600

∆p = 100 – 80 = 20

p = 80

φs = 6400

% Change in Quantity Supplied =16006400×1001=1004=25

% Change in Price =2080×1001=25

Es =Percentage Change in Quantity SuppliedPercentage
Change in Price=2525

Es = 1

This shows that the Elasticity of supply is Unitary

Factors Affecting the Elasticity of Supply

1. Extent of capacity utilization in the industry: This means the extent to which an
industry has fully utilise its resources in production will determine whether it can
increase supply or not even when there is a change in price. If an industry has reached
full capacity utilization, it may not be able to increase production immediately. Such
supply will remain inelastic even with increase in price.
 2. The Time it takes to Increase Production capacity: If a firm has reached full
utilization of its productive capacity, it may not be easy to increase production in the
short run. It may take a long time for other fixed factor of production to be changed in
response to change is price. Therefore, in the short run, supply will remain inelastic,
despite the increase in price.
3. The nature of the commodity in relation to the time required to produce it: The
longer time required to produce a particular commodity, the more inelastic the supply of
it, especially in the short run. For example, agricultural goods like cocoa have an
inelastic supply in the short run. This is because the farmer cannot easily increase
production of cocoa in a short period of time. Manufactured products on the other hand
have elastic supply because they take a relatively short time to produce
4. Whether a product is Durable or perishable: The supply of durable commodities tends
to be elastic. If supply falls, much of it can be preserved until when the price appreciates.
But in the case of perishable goods like tomatoes, the seller will still be forced to supply
even when the price falls.
5. Ease of entry or exit of firms: If, when the price of a commodity increases or decreases,
new firms can easily enter or go out of production, the supply of such commodity will be
elastic. But, if it is difficult for new firms to enter or leave the industry, supply will tend
to be inelastic.

EVALUATION

1. Define elasticity of supply.

2. List and explain the degrees of elasticity of supply.
3. Highlight five (5) factors affecting the elasticity of supply.

THE PRODUCTION POSSIBILITY

CURVE – PPC
CONTENT

1. Definition of Production Possibility Curve

2. Conditions that May Cause the Outward Shift of Production Possibility Curve

Definition of Production Possibility Curve

The production possibility curve (PPC) is a graphical representation of the possible combinations
of two commodities that can be produced in an economy given her level of technology and the
efficient utilization of all available productive resources. Production possibility curve may also
be referred to production possibility frontier, production possibility boundary, production
indifference curve or production transformation curve. The production possibility curve analysis
is based on a number of assumptions including:

 That only two classes of commodities are produced in an economy.

 That all productive resources are being fully employed or utilized.
 That the resources meant for production are scarce or limited.

The production possibility curve is a tool used to solve economic problems of allocation of
resources and choice in terms of what, how and for whom to produce.

There are some possible options in the use of available resources for production as illustrated in
the table and graph below:

Production Possibility Table: For Food Crops and Textiles

Units of
Possible Units of
combinations Food crops
Textiles
A 0 100
B 10 80
C 20 50
D 30 20
E 40 0

Production Possibility Curve

The possible combinations/options are:

A – All resources are concentrated on the production of textiles and no food.

B, C and D – resources are used to produced different combinations of textiles and food crops.

E – All resources are utilized on the production of food crops and no textiles.

Points A and E are extreme cases where only one commodity is produced and the other is
alternatively forgone.

Points A, B, C, D and E indicate efficient use of economic resources in production.

To move from one point to another on the curve (e.g. A to B or C to D), some quantity of textiles
have to be forgone to produce more of food crops. To move from extreme E to point D, C or B,
some quantity of food crops must be forgone for more of textiles. This shows the direct
connection between the production possibility curves with the concept of opportunity cost.

The opportunity cost of producing one type of commodity is measured in terms of the quantity of
the other commodity forgone. The downward slope of the PPC illustrates that there is an
opportunity cost involved in production of more of a commodity. Points within the curve (e.g.
point P) are available but resources are under-utilized. Points outside the curve (e.g. point Q) are
unattainable due to insufficient or limited resources.

Conditions that May Cause the Outward Shift of Production

Possibility Curve
The conditions that may warrant outward shift of Production Possibility Curve are stated below:

1. Significant improvements in technical knowledge and managerial competence throughout

the country’s economy.
2. Tremendous improvements in training of the workforce.
3. Large increase in the labour size of the country
4. Improvements in transportation network, communications facilities, and such civil
infrastructure.
5. Significant improvement in health facilities, public housing, sports and leisure facilities
and other social infrastructure.
6. Significant increase of foreign investments in the domestic economy of the country
concerned.
7. Increases in the stock of capital goods such as factories and offices, throughout the
country.

EVALUATION

1. What is production possibility curve?

2. Of what economic importance is the PPC?
3. Briefly explain the relationship of PPC with the concept of opportunity cost.
Production Concepts and the Theory of Cost
Production Concepts
i. Total Product (TP) Total Product is the total quantity of commodities produced by a
combination of factors of production at a point in time. TP is expressed as the product of
Average Product and Labour units, that is: TP = AP × L

ii. Average Product (AP) AP is defined as the output per unit of the variable factor (Labour or
Capital) employed. It can be obtained by dividing total product by the number of labour or
capital (variable factor) employed. That is, AP =Total Product(TP)Labour or Capital

iii. Marginal Product (MP) MP is the addition to total product as a result of employing an extra
or additional unit of variable factor. It can be expressed as:

MP =Change in Total Product(TP)Change in Variable Factor

Total, Average and Marginal Product can be presented in a table as below:

Average Marginal
No. of Total
Labour Product
Product Product
1 2 2 -
2 8 4 6
3 24 8 16
4 48 12 24
5 80 16 32
6 93 15.5 13
7 98 14 5
8 98 12.3 0
9 93 10.3 -5

The relationship between Total Product, Average Product and Marginal Product can be
represented in a graph as shown below:
EVALUATION

1. Briefly explain the concepts of the following:

 Total Product
 Average Product
 Marginal Product

THE LAW OF VARIABLE PROPORTIONS

The law of variable proportions explains the variations in output as a result of combining more or
less units of a variable factor of production with a fixed factor. This can result in three stages in
production: – Increasing output (increasing returns) – Constant output (constant returns) –
Declining output (diminishing returns)

THE LAW OF DIMINISHING RETURNS

The law of diminishing returns is also called the Law of decreasing returns or the Law of
diminishing marginal productivity. The law states that if one variable factor of production is
continuously increased by a constant amount, in combination with a fixed quantity of another
factor of production, a point will be reached after which each successive unit of the variable
factor yields a decreasing marginal product. This law applies more to land in agriculture than to
other fixed factors of production.
This can be further illustrated on a table as below:

Marginal
Units of land Units of labour Total Average
(Fixed factor) (Variable factor) Product Product
Product
5 Hectares 1 30 30
5 Hectares 2 64 34
5 Hectares 3 108 44
5 Hectares 4 144 36
5 Hectares 5 170 26
5 Hectares 6 180 10
5 Hectares 7 168 -12

From the table, there was an initial increasing return up to the optimum point. When the fourth
unit of labour was employed, then marginal output starts decreasing. This is the point where
diminishing returns set in. The marginal product keeps falling as labour is increased until when
it becomes negative (-12 at labour unit 7).

EVALUATION

1. Name the 3 stages of productivity/output in the law of variable proportion.

2. Explain briefly the law of diminishing returns.
3. When is optimum output attained?
4. Complete the table below

Average Marginal
Variable Fixed Total
Factor Factor Product
Product Product
1 2 16 16 F
2 2 A 18 20
3 2 72 C G
4 2 96 24 24
5 2 B 22 H
6 2 120 D 10
7 2 120 17.2 I
8 2 112 E J

 Calculate the values of A, B, C,… J

 Draw the Total Product (TP) and Marginal Product (MP) curves in one diagram.(Graph
sheet is not required).
THE ECONOMIST’S AND ACCOUNTANT’S VIEWS OF
COST
The economist views cost in terms of opportunity cost, that is, the foregone alternative, namely,
how an individual can sacrifice one thing in order to obtain another. On the other hand, the
accountant views cost in terms of the amount of money spent in order to have a commodity. In
other words, the accountant views cost in terms of actual payment made, which is referred to in
economics as money cost.

OPPORTUNITY COST AND MONEY COST

Opportunity cost-also referred to as real cost or true cost is the satisfaction of one want at the
expense of another want. It refers to the wants that are left unsatisfied in order to satisfy another
more pressing need.

Money cost-on the other hand refers to the money value of a commodity. It is the cost in terms of
legal tender (currency) value.

EXPLICIT AND IMPLICIT COST

Explicit cost- refers to all payments made directly for the materials used during the course of
production. These costs include direct cash paid for transportation, salaries, raw materials,
advertisement, etc

Implicit cost- on the other hand, this refers to the cost which the owner of the firm directly incurs
on factors of production, e.g. the investors salary, normal profit and other personal expenses. As
a result of the involvement of some opportunity cost elements, these costs are usually classified
as implicit.

The term ‘cost’ means different things to different people. Cost i.e. the alternative forgone to set
up a business known as the implicit cost and the amount of money spent (money cost) for hiring
or acquiring long term business (variable cost), which is known as the explicit cost. i.e.

TC = FC + VC or implicit + explicit cost

This is the total amount of money invested in the entire business such include cost of fixed assets
like machinery, equipment and variable costs like raw materials, labour, repairs.

1. TYPES OF COSTS

A. FIXED COSTS (FC) is the sum of the cost of all the fixed inputs used in production process.
It does not change (remain constant) in the short run, no matter the level of output. Examples are
cost of machinery, equipment, land, rent, rates and security.
B. VARIABLE COST (VC) is the sum of all the variable input of production. It changes in the
short run with changes in level of production. Examples are cost of fuel, raw materials etc.

C. TOTAL COST (TC): It is the sum of all the fixed and variable costs incurred during
production process. It varies with level of output. It is also derived by multiplying the unit cost of
production by the total output or quantity produced of a commodity.

TC = FC + VC;

TC = AC × Q

Where AC = Average or unit cost;

Q = Quantity produced
1. AVERAGE COST (AC): It is the cost of producing each unit the commodity. It is the total
cost divided by the total output i.e. AC=TCQ for example. The total cost of producing a
commodity is N400 and 100 units of the commodity is produced, average cost is
AC=N400100=N4.00. It can be explained graphically as below:

(ii) MARGINAL COST (MC): It is called incremental cost. It is the addition to total cost needed
to produce as a result of producing an extra or additional unit of output. It does not depend on
fixed but variable cost. It has the shape of marking an answer to a question correctly.

Formula:

i.e. MC = marginal cost

∆TC = change in Total Cost

∆Q = change in output

Mathematically,

MC = Tn+1 – Tn

Where Tn+1 or Tn2 – Tn; Tn3 – Tn2 …

Example:

TABLE 1

Output TC AC MC
2 3,000 1500 -
3 6,000 2,000 3,000
4 8,000 1,600 2,000
5 9,000 1,500 1,000

Find the TC, AC and MC

Solution:

TC = FC + VC

Q2 : TC2 = AC2 × Q2

= 1500 × 2

= 3000

Q3 : TC3 = AC3 × Q3

= 2000 × 3

= 6000

Q4 : TC4 = AC4 × Q4

= 1600 × 5

= 8000

Q5 : TC5 = AC5 × TC5

= 1500 × 6

= 9000

AC2=TC2Q2=30002=1500=1500AC3=TC3Q3=60003=2000AC4=TC4Q4
=80004=2000AC5=TC5Q5=90005=1800MC=ΔTCΔQMC3=MC3–MC2Q3–
Q2MC3=6000–30003–2=3000MC4=MC4–MC3Q4–Q3MC4=8000–60004–
3=200MC5=MC5–MC4Q5–Q4MC5=9000–80005–4=100

Note: MC for first output is zero because at the start of production, nothing is produced. Initial
output is zero.

Other cost concepts worthy of note are Total Fixed Cost (TFC)

(i) TC=TC + VC or TFC=AFC×Q

(ii) AC=AFC+AVC

(iii) AFC=TFCQ

(iv) AVC=TVCQ

Where Q = Output

Example: Table 2 Cost Schedule of a firm

Output TFC TVC TC AVC ATC MC

0 100 0 C 0 100 -
1 100 40 D 40 140 K
2 100 A 164 G 84 L
3 100 B 180 H 60 8
4 100 88 E 22 I 8
5 100 96 F 19.5 J 8

From the cost schedule, calculate the values of the letters A – L.

Solution:

(A) TVC2 = TC2 – FC2

= 164 – 100

= 64
(B) TVC3 = TC3 – FC3

= 180 – 100

= 80

(C) TC0 = FC0 + VC0

= 100 + 0

= 100

(D) TC1 = FC1 + VC1

= 100 + 40

= 140

(E) TC4 = FC4 + VC4

= 100 + 96

= 196

(F) TC5 = FC5 + VC5

= 100 + 96

= 196

(G) AVC2=TV2Q2AVC2=642=32

(H) AVC3=TV3Q3AVC2=803=26.7

(I) ATC4=TC4Q4AVC2=18842=47

(J) ATC5=TC5Q5AVC2=1965=39.2

(K) MC1=TC1–TC0Q1–Q0=140–1001–0=40

(L) MC2=TC2–TC1Q2–Q1=164–1402–1=24
RELATIONSHIP BETWEEN THE CURVES
(i) AC and MC: AC first declines, reaches a minimum point and then rises again.

(ii) When AC is falling, MC though rising, will be below it.

(iii) AC = MC when AC is at minimum

(iv) As AC rises, MC > AC

(v) MC curve cuts the AC curve from below at the minimum

(vi) After cutting the AC, MC rises faster than AC.

(vii) Both AC and MC are U shaped

(viii) If a firm can cover its variable cost, it should continue production, but if not, it may have to
shut down.

(ix) As total increases, MC falls up to a point at which AC is lows

Illustration of the relationship of the curve

TIME DIMENSION AND COST OF PRODUCTION
In production, there are two main time dimension as the firm grows.

SHORT RUN is a period of time in which some factor inputs are fixed and some are variable.
Some factors are fixed, like plants machinery and scale of production. Some factors like raw
materials, disposables, fuel etc are varied while

LONG RUN is a period long enough for all the factors of production (inputs) to be varied or
changed. In the long there are no fixed factors. All factors are variable. However, short and long
run periods differ from firm to firm. It does not depend on specific length of time.

EVALUATION

1. Differentiate between Economist’s and Accountant’s view of cost

2. TC = ____ + ____

3. AC = ______

4. (a) Distinguish between short run and long run cost

(b) Under what conditions will a firm continue to operate at a loss in the short run? WAEC June
2002 question 5.

5. (a) Distinguish between (i) implicit and explicit costs (ii) Real and Money costs.

(b) What would you recommend to a firm whose average cost is greater than its price?

6. The table below represents the cost function of a poultry farm. The price of a crate of egg is
$21. Use the information contained in the table to answer the question that follows.

(a) What is the fixed cost of the farm? (2marks)

(b) i. Calculate the Marginal Cost at each level of output (9 marks) ii. What is the profit
maximizing output of the firm (3 marks)

(c) Draw the demand curve for the farm (6 marks) WAEC June 2010 question 2.

THE THEORY OF REVENUE

CONTENT

1. Definition of Revenue
2. Types of Revenue
 3. Profit
4. Profit Maximization

Definition of Revenue
Revenue of a firm is the receipt (money) obtained from sale of its products. It is the income
realized by a firm from the commodity sold.

Types of Revenue
The following are the types of revenue:

1. Total Revenue (TR)

This is the total amount of money a firm receives from the sale of its products. It is derived by
multiplying the price of a commodity with the quantity sold. Therefore, Total Revenue (TR) =
Price (P) x Quantity (Q).

2. Marginal Revenue (MR)

This is the addition to total revenue resulting from the sale of an additional unit of output unit
sales per period of time. Mathematically, it is obtained by

MR =TRn–TRn−1 or ΔTRΔQ

Where

∆ = Change

TR = Total Revenge

Q = Quantity Sold

3. Average Revenue (AR)

Average revenue is the revenue per unit of product sold. It is also equal to the price of the firm’s
product. It is represented by a formula:

AR =TRQ or AR=P
Profit
Meaning of Profit

This is the excess of the receipts over the expenditure of an organization. It is the difference
between total revenue and total cost.

Profit (π) = Revenue – cost of production

Example: The total cost and total revenue functions of Oloyede are given in the table below.

Quantity (kg) TC (₦) TR (₦) MC MR

2 65 120 a i
7 176 210 b j
13 284 396 c k
18 401 542 d l
22 501 642 e m
25 594 711 f n
27 699 751 g o
28 769 768 h p

(i) Complete the table for Marginal Revenue

(ii) What is the company’s profit maximizing output level?

(iii) Determine total profit at the profit maximizing output level.

Solution:

(a) MC2=ΔTCΔQ

(b) MC2=TC2–TC1Q2−Q1MC2=176–657–2=1115=22.2

(c) MC3=TC3–TC2Q3–Q2MC3=284–17613–7=1086=18

(d) MC4=TC4–TC3Q4–Q3MC4=401–28418–13=1175=23.4

(e) MC5=TC5–TC4Q5–Q4MC5=501–40122–18=1004=25

(f) MC6=MC6–MC5Q6–Q5MC6=594–50125–22=933=31

(g) MC7=MC7–MC6Q7–Q6MC7=699–59427–25=1052=52.5
(h) MC8=MC8–MC7Q8–Q7MC8=769–69928–27=701=70

(i) MR=ΔMRΔQ

(j) MR2=210–1207–2=9015=18

(k) MR3=396–21013–7=1866=31

(l) MR4=542–39618–13=1465=29.2

(m) MR5=642–54222–18=1004=25

(n) MR6=711–64225–22=693=23

(o) MR7=751–71127–25=402=20

(p) MR8=768–75128–27=171=17

Profit Maximization

It is the aim of business organizations to make as much profit as possible. A firm will make
profit when the following conditions are met. (i) TR ≥ TC

(ii) MR ≥ MC

EVALUATION
The above diagram illustrates the demand for and supply of maize. Use the diagram to answer
the questions that follows.

(i) What is the Total Revenue of the farmer at the initial equilibrium?

(ii) Calculate the Total Revenue of the farmer if the supply curve shifts to S0S1.

(iii) What change occurs in the total revenue of the farmer when the price falls from $100 to $40
per tonne?

LABOUR
CONTENT

1. Definition of Labour
2. The Labour Force
3. Efficiency of Labour
4. Mobility of Labour
5. Factors Affecting the Size of the Labour Force of a Country

Definition of Labour
Labour can be defined as all human efforts of any kind, skilled or unskilled, mental or manual,
directed towards the production of goods and services.
The Labour Force
Labour Force may be defined as the total number of people available, capable and willing to
supply the labour for the production of economic goods and services. It consists of those who
have jobs or who are seeking for jobs in the labour market. They are normally found between the
age brackets of 18 to 60 years.

EVALUATION

1. Define Labour
2. Explain the term “Labour Force”
3. Mention the age bracket of Labour of labour force

Efficiency of Labour
Efficiency of labour may be defined as the extent or degree to which labour can be combined
with other factors of production to yield maximum output. It relates to quality and skill of labour.
Efficiency of labour can be measured in terms of the quantity of output which can be obtained
from a given input of labour, if other variables are constant. If labour is efficient, the quality of
goods and services produced will be high.

Factors Determining Efficiency of Labour

The following are the factors that determine the efficiency of labour:

1. Education and Training: The higher the level of education and training, the more
efficient labour will be.
2. Level of technology: When the level of technology improves, it will have a positive
effective on efficiency. e.g. introduction computer and accounting software will improve
the work of an accountant.
3. Attractive wages: When the salary or wage of a worker is attractive it will boost or
promote the efficiency and productivity of the worker. e.g. Bank workers are more
efficient than civil servants.
4. Improvement in health facilities: Improvement in health facilities will also affect
efficiency of labour. Many firms have their own hospitals and medical officials whose
duty is to take care of workers. It is only healthy workers that can exhibit high degree of
efficiency.
5. Promotion: Frequent promotions of workers in any organization can lead to increase in
efficiency of labour.

Mobility of Labour
Mobility of labour may be defined as the ease and willingness with which labour or workers can
move from one geographical area to another or from one occupation to another. Labour is said to
be mobile if workers find it easy to move from one area to another or to change jobs.

Types of Mobility of Labour

There are three types of mobility of labour.

 Geographical mobility of labour

 Occupational mobility of labour
 Industrial mobility of labour

Geographical Mobility of labour

This refers to the ease with which workers can move from one geographical location to another.
It could take place with a country or across international boundaries. When workers moves from
one town to another without changing their job they are doing, we say that they have moved
geographically.

Factors Affecting Geographical Mobility of Labour

1. Accommodation problems
2. Cost of transportation
3. Family and cultural ties
4. Language barrier
5. Discrimination

Occupational Mobility of Labour

Occupational mobility of labour refers to the ease with which a worker or labour moves from one
occupation or job to another.

When a musician becomes a footballer, he has changed his occupation. This change of
occupation is move rampant and easier for the unskilled labourers who do not require special
training in order to do their work.

Industrial Mobility of Labour

This concerns the free movement of labour from one industrial set up or one firm to another. The
three types of labour – unskilled, semi-skilled and skilled, can easily involve in this movement.
This movement can take place within a firm or from one firm to another, and it is further divided
into two namely – vertical and horizontal mobility of labour respectively.

Vertical or Longitudinal Mobility of Labour

This usually takes the form of promotion within the same industry or place of work. E.g. the
Head of Department of a school could be promoted to become Vice Principal.

Horizontal or lateral Mobility of Labour

This takes place when a worker moves from one industry to another but still performs the same
task and occupies the same rank.

Factors Affecting the Size of the Labour Force of a Country

1. The Population of the country: (Ceteris Paribus) All things being equal, as the
population is increasing, the labour force of the country will also increase.
2. The official working age of the country: As the span of working age is increasing, the
more the labour force. For instance in Nigeria, the span for labour force is 18 and 60. In
order to increase the labour force of a country the entry ages can be lower to about 16 and
or increase the retirement age to say 65 years.
3. Sex distribution of the population: Where female has greater number than male, there
is tendency to produce less labour force than the one with more of male. Some female
may be going for maternity leave often and often, also they may choose not to work
while they are still nursing their babies, all these affect the labour force.
4. The education system/school leaving age: Take Nigeria as a case of study – the
educational system use to be 6-5-4 in those days but it was changed to 6-3-3-4.
Sometimes back but now it is 9-3-4. This system has increased the years we spend in the
school from 15 to 16 years. Also it has reduced the supply of labour force by a year.
Talking of the school leaving age, all things been equal, Nigerian should not be younger
than 22 years. If the starting age is lower than required it means the leaving age will be
lower than required and the labour force will be increasing.
5. Age distribution of the population: If the percentage of children in a particular country
is greater, in population it can boast of greater labour force in the nearest future.
6. Pursuit of higher education
7. Number of working hours and working days
8. The number of disable
9. The number of people unwilling to work
10. Migration

EVALUATION

1. What is efficiency of labour

2. Define the term mobility of labour
3. What are the causes of occupational mobility of labour
4. Explain factors influencing geographical mobility of labour

THE LABOUR MARKET

CONTENT

1. Supply of and Demand for Labour

2. Marginal Revenue Productivity
3. The Law of Diminishing Returns
4. Efficiency of Labour
5. Mobility of Labour
6. Wage Determination
7. Trade Unions
8. Employers’ Association

Supply of and Demand for Labour

Labor market is any arrangement or medium which brings job seekers and employers of labour
together. It is a market in which workers sell their labour in order to earn wages i.e. labour
supply.

The Concept of Labour Force

Labour force may be defined as the total number of capable men and women who are gainfully
employed and those who fall within the age bracket, capable and willing to work but have no
work to do in a country at a particular period of time. It varies from country to country, usually
those whose ages fall in the age’s bracket of 18-65years and are still not in school; belong to the
labor force of a country. The labour force also known as the working population is the
productive sector of a country’s total population. It is also defined as the economic active
segment of a country’s population.

Supply of Labour

Supply of labor refers to the total number of men offered for employment over a period of time
and at a given wage rate

Factors Affecting the Supply of Labour

(1) The size of the labour force, which determines the number of people who are ready and
willing to work.

(2) The amount of training and length of time it takes to acquire the skills to do the job.

(3) The availability of other sources of income.

(4) Labour mobility.

(5) Social and cultural factors.

(6) Quality of life factors in the community where the job is located.

(7) Money of the factors that affect worker’s productivity will also affect the willingness of
workers to supply their labor.

Demand for Labour

Demand for labour may be defined as the total number of workers employers are willing and
ready to employ at a particular time and at a given wage rate. Demand for labour as a factor of
production is a derived demand which is derived from the demand for the product which laborers
are going to produce.

Factors Affecting the Demand for Labour

(1) Productivity

(2) Demand for the product

(3) Cost of substitution

(4) Technology

(5) Economic development

(6) Elasticity of demand for a product

Marginal Revenue Productivity

MRP of labour is a theory of the demand for labour and market wage determination, where
workers are assumed to be paid the value of their marginal revenue product to the business.

MRP > W: The firm will buy more labour

MRP = W: The firm is buying the right amount of labor

MRP < W: The firm is buying too much labor

The Law of Diminishing Returns

Why is it that labour demand is at its optimal point when MRP of labor is equal to the wage?
This holds true because of the law of diminishing returns.

Efficiency of Labour
Efficiency of a labor refers to an increase in production as a result of the combination of labor
and other factors of production.

Ways by Which Efficiency of Labour Can Be Improved or

Factors Affecting Efficiency of Labour

(1) Education and training

(2) Improved health facilities

(3) Efficiency management

(4) Promotion

(5) Application of division of labor

(6) Improved working conditions

(7) Work environment

(8) Working relationships

(9) Quality and quantity of other factors

(10) Appropriate incentives

(11) Technological improvement

(12) Job security and welfare services

(13) Weather conditions

(14) Red-tapism

Mobility of Labour
It refers to the movement of labor from one occupation, work place or geographical area to
another.

Types of Mobility of Labour

(1) Occupational mobility of labour

(2) Industrial mobility of labour

(3) Geographical mobility of labour

Causes of Mobility of Labour or Factors Influencing Mobility of Labour

(1) Unfavourable working conditions

(2) Marriage

(3) Promotion

(4) Irregular payment of salaries

(5) Bad management

(6) Lack of incentives

(7) Lack of job security and social amenities

(8) Accommodation problem

(9) Length or cost of training

(10) Activities of trade unions

Wage Determination
A wage is the payment for labour service in the production of commodities. It is a cost to the
employers for the use of the labour.

(a) Wage Determination in a Competitive Labour Market

Wages are determined by the interaction of the forces of demand and supply in a free market
economy. If the demand for a certain type or category of labour is higher than its supply, wages
will be high; but if supply is higher than demand, wages paid will be low.
In the diagram above, the price of labour is ₦10,000 per week. 50 units of labour are both
demanded and supplied.

(b) Wage Determination in a Non-competitive Labour Market

This occurs when there are some levels of monopolistic power, either from the supply side of
labour or from the demand side of labour. If the supply side believes they have some
monopolistic power, they will drive up the wage rate over what is obtainable in a competitive
market; while if the demand side believed that they have some monopolistic power they will
drive down the wage below what is obtainable in a competitive market. The wage rate can be
determined through time rate, piece rate and fees.

Reasons for Differences in Wages

(1) The influences of supply of demand for labour: The rate at which a particular labour is
demanded relative to its supply affects the reward it will attract. For example, demand for
unskilled labour is lower than its supply. Therefore, its reward is low. The demand for medical
doctors is still higher pay than their supply, hence the higher pay to them.

(2) Trade union influence: Trade union uses the instruments of industrial action like strike,
negotiation, threat, work to rule, etc to press for higher reward for their member.

(3) Difference in natural ability: The work that needs special skills and natural ability attracts
more wages. For example, doctors attract more wages than messengers because one does not
need any special skill to become a messenger.

(4) Difference in the degree of productivity: A high efficient worker is likely to be paid a
higher wage by an employer than an inefficient worker whose productivity is low.
(5) Difference in the degree of risk and attractiveness: There are some occupations which are
dangerous and difficult to perform and involve great risks. Such occupations tend to attract high
wages in order to compensate for the risks undertaken.

(6) Discrimination on the basis of sex: Men are more rewarded in some societies where sex
discrimination is than women.

Wage Determinants

Wages can be determined under the following approaches

(1) The forces of demand and supply

(2) Activities of Trade Union

(3) Government policy

Trade Unions
A trade union is an organized body of employees set up to negotiate with their employers for
better working conditions for its members. A trade union is an organization of paid workers in
which their primary objective is to improve the salaries and welfare conditions of their members.
It is an association formed to take collective action in matters relating to their welfare and
condition of service.

Objectives of Trade Union

(1) To negotiate for improvement in the conditions of service of their members.

(2) They educate their members on civil and political opportunities

(3) They organize workers to participate actively in issues/ matters that affect them.

(4) They organize workers into an effective functional group

(5) They offer social services to their members

(6) They encourage firms to increase workers participation in business making

(7) They engage in training and retraining of members through conduct of seminars and
workshops to improve their skills.

(8) To seek improvement in the condition of service of their members.

(9) To safeguard the employment of their members

(10) To organize members into an effective voice on matters that affects them.

(11) To educate their members on their rights

(12) To ensure that a high standard of professional practice

Weapons that Can be Used by a Trade Union During a Trade Dispute

1. Collective bargaining: In this method, representatives of the union and employers will meet
to negotiate or deliberate on issues affecting the workers (negotiation of pay and conditions of
service etc.)

2. Work to rule/Go-slow: Working slowly to reduce production so as to force employers to

listen to the demand of workers.

3. Threat of strike: This is giving employers notice of intention to embark on a strike action

4. Strike: This is stoppage of work by employees to back their demands

5. Picketing: In this case representatives of the union prevents other workers from gaining
access to the work place.

6. Demonstrations/protests: This involve workers carrying placards singing and shouting to get
the attention of management to address their concerns.

Employers’ Association
Employer’s association is formed to enable members to adopt a common policy in labour
negotiations. Example is the Nigerian Employer’s Consultative Association (NECA) formed in
1957. While trade unions are usually interested in negotiations about wage increases and
improving the working conditions of workers, employer’s associations are normally interested in
discussing ways of increasing productivity.

Weapons that Can Be Used by an Employers’ Association During a Trade

Dispute

(1) Negotiation

(2) Strike breakers

(3) Blacklist

(4) Lock-out: Closing down the factory until the dispute is resolved

EVALUATION

1. Define labour force.

2 (a) What is meant by the supply of labour?

(b) State fve (5) factors affecting the supply of labour.

3 (a) Explain the meaning of demand for labour.

(b) State fve (5) factors affecting the demand for labour.

4. (a) What is efficiency of labour?

(b) Enumerate five (5) ways by which efficiency of labour can be improved.

5. (a) Define mobility of labour.

(b) Mention three (3) types of mobility of labour.

(c) State five (5) factors influencing the mobility of labour.

6. (a) What is wage determination?

(b) Explain how wage is determined in (i) a competitive labour market (ii) non-competitive
labour market.

7. Highlight five (5) reasons for differences in wages.