University of Algiers 3

Faculty of Economics, Commercial Sciences

and Management
First Year LMD - Common Core –
Class N°20

Chapter 2 :Microeconomics
Demand & Supply
Market Equilibrium

Dr. Yakouben Saliha

Professor of Economics
 CHAPTER OBJECTIVES
In this chapter, you will learn about :
-Demand & supply: determinants of demand &
supply, demand & supply curves, the “laws” of
demand and supply, movements along versus shifts
of demand and supply curves.
-Normal & inferior goods, complements &
substitutes, individual demand and supply v
market demand and supply
-Equilibrium prices and quantities, price as a
mechanism for equilibration.
 By the end of this section, you will be able to:
Describe the nature of the demand and the supply curve.

Explain the relationships between market demand and market

supply and how it clears the market.

Determine the equilibrium price and quantity for a product and

understand how the market mechanism works.
 Introduction to Demand and Supply
Demand and supply analysis is a tool to understand the
relevance of economics. It can be used to understand the
impact of changing world economic conditions on market
price. It is also be used to evaluate the impact of public
policies, minimum wages, price supports, and subsidies, taxes
on market production.

In this chapter, we will study how demand and supply works

in a market and how it reaches an equilibrium position.
 What is Demand ?
 The quantity of goods or services that
people are willing and able to buy during a
specified period at a specified price .
 A desire accompanied by ability and
willingness to pay makes a real or effective
demand.
 Demand is based on ability to pay. If you
cannot pay for it, you have no effective
demand.
 A desire without sufficient resources (money
income) is merely a wish.
The price and the quantity demanded

 What a buyer pays for a unit of the

specific good or service is called price.
 The amount of a good or service
consumers are willing and able to
purchase at each prices called
the quantity demanded.
 This means how much consumers want
and are able to buy at a specific price
 Determinants of Demand
The determinants of demand are factors that
influence the quantity of a good or service
that consumers are willing and able to
purchase at different prices.
Demand depends on:
The income available to the consumers.
The prices of other products (substitutes
and complements) available to the
consumers.
The consumer's tastes and preferences.
The consumer's expectations about future
 Own price
A rise in price of a good or service
always decreases the quantity demanded
of that good or service. Conversely, a fall
in price will increase the quantity
demanded.
 income
The effect of income on the demand of a product
differs depending on the nature of the product.
Normal Goods are goods for which demand goes
up when income is higher and for which demand
goes down when income is lower. This is because
people have more purchasing power and can afford
to buy more of the goods they prefer(Cars,
Mobiles, Meat).
Inferior Goods are goods for which demand falls
when income rises, people stop buying an inferior
good and switch their consumption to the
preferred, more expensive alternative.(public
Transportation, used clothes)
income
 Prices of Related Goods:

In reality, there are many goods in the

marketplace that interact with each other in
unique ways. Some goods seem to pair
nicely, whereas others compete
 Prices of Related Goods
 Complement goods are usually goods that in some sense
are consumed together: coffee and sugar, ink and
printers a change in the price of one of the goods will
affect the demand for its complement. In particular, when
the price of one good rises, the demand for its complement
decreases. If coffee increases in price, we will purchase
less sugar.
 Substitute goods A substitute is a good used instead of
another good.
 Substitutes are usually goods that in some way serve a
similar function, they fulfill the same need: coffee and
tea. By definition, the relation between demand for a
product and price of its substitute is of positive nature,
When price of a product(tea) falls (or increases) ,then
demand for its substitute(coffee) falls( or increases.)
Price of other goods
 Tastes and Preferences
Our tastes and preferences change over time.
For example, if a celebrity endorses a new
product, this may increase the demand for a
product. Also Marketing departments
constantly try to influence your preferences,
and sometimes even create them. That’s
because the more you prefer a product, the
more you will demand it!
Many companies invest in branding and
promotion to elevate emotions and drive
consumer desire for their products or brands.
 The Number of Consumers

With an increase (or decrease) in

the size of population, demand
for the product increases(or
decreases).
 Expectations
changes in expectations can have a
considerable impact on current demand.
For example, If consumers predict prices
to rise in the future, they might buy more
now, s a result, current demand increases
If they expect prices to fall, they may
delay purchases, if everyone else does,
market demand falls
 Law of demand
There is a negative relationship (inverse relationship)
between price and quantity demanded, other factors
remaining constant(We use the Term ceteris paribus

or “all else equal” , to examine the relationship

between the quantity demanded of a good per period
of time and the price of that good, while holding
income, other goods prices, tastes, and expectations
constant),
.
 Law of demand
If the price of a goods rises, the quantity demanded
of that goods decreases. If the price of a good falls,
the quantity demanded of that goods increases.

Economists call this inverse relationship between

price and quantity demanded the law of demand.
The law of demand assumes that all other variables
that affect demand (which we explained ) are held
constant.
 The demand equation or function
Function: a relationship or expression
involving one or more variables.
• In economics, functions frequently
describe cause and effect.
• The variable on the left-hand side is what
is being explained (“the effect”).
• On the right-hand side is what’s doing the
explaining (“the causes”).
 The demand equation or function
The demand function A demand function is a
mathematical equation representing the relationship
between demand and its determinants. The function
shows us how the demand for a product is affected
by factors such as its own price, buyer income, and
the related products’ price (substitutes and
complements). From the equation, we know how
they affect – whether positive or negative – and how
significantly they affect the demand for a product.
Demand function states the relationship between
demand for a product(the dependent variables) and
its determinants ( the independent variables).
QDx=f(Px,Pr,I,G)
the demand function will then read as demand for
a commodity Qd depends on its price Px. The
same statement may be written in its functional
form as:
(Qd is function of price)
Where :
QDx is demand for commodity x. the dependent variable
Px is price of X . the independent variable.
From the demand function above, its can be written as:
QD = a - bP
 The demand function
That is, quantity demanded is a function of price.

Q = quantity demanded

P = Price of the good

a = It expresses the quantity demanded of a good when its

price is zero, i.e. it is the quantity demanded that is not
affected by the price.(the point of satiety)
b = slope of the demand curve, is the derivative of the demand
function QD with respect to P. I;e,b=ΔQ/ΔP=δQ/δP<0

.
 Demand schedule
Economists call a table(chart) that shows
the quantity demanded at each price
a demand schedule.
 Demand curve
A demand curve shows the relationship between
price and quantity demanded on a graph, with
quantity on the horizontal axis and the price on
the vertical axis.

Note that this is an exception to the normal rule in

mathematics that the independent variable (x)
goes on the horizontal axis and the dependent
variable (y) goes on the vertical axis. Economics
 Demand curve

The demand curve has a negative slope, the negative slope of

the demand curve D shows the inverse relationship between
the price of a goodand its quantity demanded,
The demand curve always slopes downward from left to right
direction because price and quantity demanded of the product
are conversely related to each other
 individual demand Vs market
demand

Demand can be used either for the

price-quantity relationship for an
individual consumer
(an individual demand), or for all
consumers in a particular market
(a market demand).
 Individual demand
Individual demand implies, the
quantity of good or service demanded
by an individual or a household, at a
given price and at a given period of
time. For example, the quantity of
detergent purchased by an individual
or a household, in a month, is termed
.as individual demand
Individual Demand Schedule
Individual Demand Curve
Example: Qd = 40 – 2P
Q P
40 0
38 1
36 2
34 3
32 4
30 5
28 6
26 7
0 20
 Market Demand
 The market demand is the total
quantity demanded by all the
individuals in a market at a particular
point of time at various alternative
prices.
 The market demand for a product
depends on all the factors that
determine the individual’s demand and
on the number of consumers in the
market
 Market Demand Schedule
Example
Suppose , there are only 3 consumers(A,B
and C) of Pepsi and their weekly individual
demand for Pepsi at its different prices is
given as in table below.
 Market Demand Schedule
N0. Of Pepsi Cans demanded Market
Price by demand
A B C A+B+C=

12 0 0 0 0
10 0 0 4 4
8 0 4 8 12
6 3 8 12 23
4 5 12 16 33
2 8 16 20 44
0 11 20 24 55

The last column of the table shows the market

demand for Pepsi. The market demand curve can be
obtained by plotting the data in the last column of the
table.
Market Demand Curve
 The market demand function
The determination of the market demand function differs
whether the individual demand functions are identical or no
identical

A. Suppose each individual has an identical demand function.

In that case, we multiply the total consumers in the market
by the individual demand function to obtain
it. :QDX=n.Qdx

For example, there are 100 buyers in the gasoline market with
the following individual demand functions: Qd = 9.3 – 0.7P

The market demand function for the above case is :

Qd = 100 (9.3 – 0.7P) = 930 – 70P

 The market demand function
B. However, if the demand function varies between individuals,
we cannot apply the above calculation. Instead, we have to add
each demand function.
QDX=∑.Qdx
=Qdx1+Qdx2+Qdx3……..Qdxn
For example, there are three consumers in the market: A, B, and
C. The three demand functions for a product are as follows:

Qda = 70 – 10 P Qdb = 80 – 4 P Qdc = 30 – P

From this information, we can derive the market demand
function by adding up all the individual functions. Thus, the
market demand function is :

Qdm = (70 – 10 P) + (80 – 4 P) + (30 – P) = 180 – 15P

 Changes in Quantity
Demanded Versus Changes
in Demand

The most important relationship in

individual markets is that between
market price and quantity
demanded.
Changes in Quantity Demanded
Versus Changes in Demand
• A change in quantity demanded is not the same as a
change in demand.

Changes in price affect the quantity

demanded per period.
Changes in income, other goods
prices, tastes, or expectations affect
demand.
 The Difference between the Change in Demand
and the Change in Quantity Demanded
Quantity Demanded Demand:

Representation It is a single point on the demand Demand is represented by the

curve. demand curve, which shows the
various quantities that would be
demanded at different prices.
Demand curve Changes in the quantity demanded Changes in demand are caused by
are caused by changes in the price factors like income, preferences, or
of the good itself, leading to the prices of related goods, and these
movement along the demand curve changes result in the demand curve
(not shifting the entire curve). shifting either to the left (decrease)
or to the right (increase).

Example If the price of electric cars drops If electric cars become more popular,
from $50,000 to $40,000, the the demand for electric cars
quantity demanded increases, increases, shifting the demand curve
meaning more people will buy to the right.
electric cars at the lower price.
This is a movement along the
demand curve
Movement Along a Demand Curve Versus Shift of
Demand

• A higher price causes

lower quantity demanded
and a move along the
demand curve D.

Change in price of a good or

service leads to Change in
quantity demanded
Move from point A to point B.
Or from point A to point C
Movement along the
curve
Movement Along a Demand Curve Versus Shift of
Demand
• Changes in determinants of
demand, other than price,
cause a change in demand,
or a shift of the entire
demand curve, from D to D1
OR D2.

Change in income,
preferences, or prices of
other goods or services
leads to

Change in demand
(Shift of curve).
 The Impact of a Change in
Income
• Higher income • Higher income
decreases the demand increases the demand
for an inferior good for a normal good
 The Impact of a Change
in the Price of Related Goods

• Demand for
complement
good
(ketchup)
shifts left

• Demand for
substitute
good
(chicken)
• Price of hamburger rises shifts right
• Quantity of hamburger
demanded per month falls
 Example
 Suppose income increases, are consumers going to buy
more or less goods?
Price 8 7 6 5 4 3 2 1 0
QD BEFORE
INCOME
0 2 3 5 7 10 14 20 26
INCREASES
QD AFTER
INCOME
3 5 7 10 12 15 19 24 30
INCREASES

With an increase in
income, consumers will
purchase larger quantities,
pushing demand to the
right, and causing the
demand curve to shift
right.
 Supply of Goods and Services

When economists talk

about supply, they mean the
total amount of products that a
producer or seller is willing and
able to provide or to sell to
buyers to sell at each price.
 Quantity supplied

Quantity supplied represents the

number of units of a product that a
firm would be offer for sale at a
particular price during a given time
period.
 Determinants of Supply
Price of the good or service
Input Prices
Technology
Taxes and subsidies
Number of Producers
 Price of the good or service
Changes in the price of goods or
services will affect the quantity
supplied; if the prices increase the
quantity supplied increases, and if the
prices of goods and sevices decrease
the quantity supplied decreases also.
 Input Prices
Perhaps the most obvious shock to the
supply curve is the cost of inputs. Also
known as ‘Factors of Production’, these
are the combination of labor, materials,
and machinery used to produce goods and
services. A rise in input prices increases
the cost of production, disincentivizing
producers to produce.
 Technology
Technology changes have a direct impact on the
cost of production. If suddenly a new innovation
allows you to cut your work time in half, you
will cut down your costs of labor. If technology
allows you to conserve wasted resources, then
your input prices will decrease, These changes
will increase supply
Improvements in technology will lower costs of
production and increase supply
Decay in technology will increase costs of
production
 Number of Producers
When more firms enter the market,
supply will increase
When firms leave the market, supply will
decrease
 Taxes and subsidies
A tax will increase costs of production,
causing a decrease in supply, while a
subsidy will decrease costs of production,
causing an increase in supply.
 law of supply

 A rise in price almost always leads to an increase in

the quantity supplied of that good or service, while
a fall in price will decrease the quantity supplied.
 Economists call this positive relationship(direct)
between price and quantity supplied—that a higher
price leads to a higher quantity supplied and a lower
price leads to a lower quantity supplied—the law of
supply.
 Supply schedule

A supply schedule is a table, that

shows the quantity supplied at a
range of different prices.
 Supply Schedule

Quantity Supplied (Qs) Price (P)

80 10
100 15
120 20
140 25
160 30
180 35
200 40
 Supply (Function) equation

Usually, economists use several variables to explain how

they affect supply. They assume other factors do not
.change or ceteris paribus

The supply function equation is

QS = C + dP
 Supply equation
 Where Qs is quantity supplied
 c=the level of supply independent
of price
 P = Price of the good

 d= slope of the Supply curve and is

always positive
. d=ΔQs/ΔP
 supply curve
A supply curve is a graphic illustration of the
relationship between price, shown on the
vertical axis, and quantity, shown on the
horizontal axis.
The supply schedule and the supply curve are just
two different ways of showing the same
information. Notice that the horizontal and
vertical axes on the graph for the supply curve
are the same as for the demand curve.
8 7 6 5 4 3 2 1 0 Px

45 40 35 30 25 20 15 10 5 QSx

From the curve we notice if the price increases , the

quantity supplied increases, and if the price falls, the
quantity supplied falls. For example, when the price
increases from 3 to 4, the quantity supplied increases
from 20 to 25, and vice versa. This indicates the direct
relationship between price and quantity supplied..
 Individual Supply Schedule

Individual supply schedule is a tabular statement

of the various quantities of product that is
supplied by a particular single seller or producer
at various price levels over a period of time, with
all other factors being constant. The schedule of
supply is a table that represents it. For instance :
 Individual Individual Supply
supply Curve Schedule
Schedule of Individual Supply

)$( Price Quantity (Kgs)

1 10

2 20

3 30

4 40

5 50
 Market Supply

Market supply is the total

amount of an item
producers are willing and
able to sell at different
prices, over a given period
of time
 Market Supply Schedule
Price Quantity Quantity
per unit supplied supplied Market
of by by Supply (Qa +
product Company Compan Qb)
X (Px) A (Qa) y B (Qb)

100 1,000 3,000 4,000

200 2,000 4,000 6,000
300 3,000 5,000 8,000
400 4,000 6,000 10,000
500 5,000 7,000 12,000
 Market Supply Equation
we calculate the market supply function of a
product by aggregating the quantities supplied by
each company. Say, the quantity function supplied
by individual producers is Qs = -100 + 200P, and
there are ten companies in the market. Then the
market demand function in this case is
Qs = 10 (-100 + 200P) = -1000 + 2000P
 Market Supply Equation

Likewise, to determine its function, we add

up the own supply function of each
.producer
Qda = -70 + 10 P Qdb = -80 + 4 P
Qdc = -30 + P
From this information, we can derive the market
Supply function by adding up all the individual
functions. Thus, the market demand function is :

Qdm = (-70 +10 P) + (-80 + 4 P) + (-30 +P) =

-180 +15P
 Change in Quantity Supplied vs.
Change in supply

• A higher price causes higher quantity

supplied, and a move along the demand
curve.
• A change in determinants of supply
other than price causes an increase in
supply, or a shift of the entire supply
curve.
 Change in Quantity Supplied

When the supply of a good rises due to

rise in the price of the good alone, it is
termed as an expansion of supply.
When supply of a good falls due to fall
in its price, it is called contraction of
supply. Graphically, it means a
movement along the supply curve.
Movement Along a Supply Curve
 change in supply

When at the given price, the supply of a good

increases, it is called increase in supply. When at the
given price, the supply decreases, it is called decrease
in supply. Graphically, it means shift of supply curve.
In the figure, at price P, the supply is Q. When there is
increase in supply at the given price, the supply curve
shifts to the right, If there is a decrease in supply at the
given price, the supply curve shifts to the left
Shifts in supply curve
 Shift of Supply Versus
Movement Along a Supply Curve
To summarize:
Change in price of a good or service
leads to

Change in quantity supplied

(Movement along the curve).
Change in costs, input prices, technology, or prices of
related goods and services
leads to

Change in supply
(Shift of curve).
 Market Equilibrium
 The market equilibrium exists when quantity
demanded ( quantity supplied ( and there is no
tendency for price to change The equilibrium can be
determined using two methods:
 Determination of Market Equilibrium Using a
Schedule
 B.Determination of Market Equilibrium Graphically
 In economics, when the quantity demanded of a
commodity equals the quantity supplied equilibrium
is achieved. Graphically, this can be represented by
the intersection of the market demand and supply
curve. This point gives us the equilibrium price and
the equilibrium quantity
 Determination of Market
Equilibrium Graphically

The equilibrium is determined graphically at the point of

intersection between the demand & the supply curves(point
E).
 Market Equilibrium
The equilibrium point is the point where the
supply and demand curves intersect. The point
reveals the optimum price and quantity.
• Equilibrium Price: The price at which the quantity
demanded equals the quantity supplied
• Equilibrium quantity: The quantity bought and sold
at the equilibrium price.
• Equilibrium Point: Where the demand curve and the
supply curve intersect, we have a point .This point is
known as the market equilibrium
Determination of Market Equilibrium Using a Schedule:
Px QDx QSx Excess or surplus
10 1500 500 Excess demand (shortage) =1000
20 1400 1100 Excess demand (shortage) =300
30 1300 1300 Equilibrium QD = QS
40 1200 1500 Excess supply (surplus) = 300
50 1000 2000 Excess supply (surplus) =1000
 From the schedule:
 The market equilibrium is determined when QD=QS The
equilibrium Q 1300 the equilibrium P 30 no tendency for price to
change
 At any price lower than ( the equilibrium price (such as p 10 or p
20 there will be an excess demand or a shortage (QD > QS), so The
price will tend to increase
 At any price higher than ( the equilibrium price (such as p 40 or p
50 there will be an excess supply or a surplus (QS > QD), so the
price will tend to decrease
Distance ab and cd represents surplus, and shortage of
quantity supplied respectively. In a free market, there is a
tendency for the price to change until the market is cleared
(equilibré) i.e., until the quantity demanded equals the
quantity supplied. This is how a market mechanism works.
At the equilibrium point, there is no excess demand and
excess supply.
 Market Equilibrium
At equilibrium, supply and demand intersect,
pointing to the equilibrium price and quantity. At
equilibrium price:
Quantity demanded = Quantity supplied :
Qs = QD
Substituting the formula for Qs & QD :
a + bP = a – bP
Solving the above gives the value of “P,” and
applying the value of “P” in the QD or Qs
equation gives the equilibrium quantity.
 Market Equilibrium

Example 1 : For instance, let’s say that

you are calculating the equilibrium
quantity of calculators. Therefore,
the supply equation is Qs = 2 + 5P
and
The demand equation is QD = 16 – 2P
 Market Equilibrium
Qs = QD

2 + 5P = 16 – 2P
7P=14 so P* = 2 You now know that the equilibrium price,
or the price where is $2.
Plug the equilibrium price into the equation and solve. You
can choose either the demand equation or the supply
equation (since both are equal, they will both give you the
same answer). In the example below, we will use the
demand equation:
Q* = 16 – 2(2) = 16-4 = 12
 Market Equilibrium
Example 2
Qs = -4 + 8P QD = 26 – 2P -4 + 8P = 26 – 2P P* = 3
Q* = -4 + 8(3) = 20
 Changes in Equilibrium

 Higher demand leads to  Higher supply leads to

higher equilibrium price lower equilibrium price
and higher equilibrium and higher equilibrium
quantity. quantity.
 Changes in Equilibrium

Lower demand leads Lower supply leads to

to lower price and lower higher price and lower
quantity exchanged. quantity exchanged.
 Relative Magnitudes of
Change

• The relative magnitudes of change in supply and demand

determine the outcome of market equilibrium.
 Relative Magnitudes of
Change

• When supply and demand both increase, quantity

will increase, but price may go up or down.
 The Five Basic Laws of Supply
and Demand
1) If demand increases and supply remains unchanged, this
leads to higher equilibrium price and quantity.
2) If demand decreases and supply remains unchanged, this
leads to lower equilibrium price and quantity.
3) If supply increases and demand remains unchanged, this
leads to lower equilibrium price and higher quantity.
4) If supply decreases and demand remains unchanged, this
leads to higher equilibrium price and lower quantity.
5) If demand and supply change, the final effect will depend
on the magnitude and the direction of the change.
THE END of
CHAPTER 2