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DEMAND, SUPPLY AND EQUILIBRIUM:Goods Market and Factors Market

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Introduction to Economics ­ECO401
VU
UNIT - 2
Lesson 2.1
DEMAND, SUPPLY AND EQUILIBRIUM
Assumption is a belief or feeling that something is true or that something will happen,
although there is no proof. Economists make frequent use of assumptions in putting forward
their theories.
Perfect competition refers to a situation in which no firm or consumer is big enough to affect
the market price.
Shortage, Surplus and Price Mechanism:
A shortage is a situation in which demand exceeds supply, i.e. producers are unable to meet
market demand for the product.
A surplus is a situation of excess supply, in which market demand falls short of the quantity
supplied; i.e. the producers are unable to sell all the produced goods in the market.
The price mechanism is a signaling and rationing device which prompts consumers and
producers to adjust their demand and supply, respectively, in response to a shortage or
surplus (see below). Shortages cause prices to rise prompting producers to produce more and
consumers to demand less. Surpluses cause prices to fall prompting producers to supply less
and consumers to demand more. In either case, the price mechanism attempts to clear the
shortage or surplus in the market.
Goods Market and Factors Market:
Goods market is a market in which goods are bought and sold for the purpose of
consumption
Factors markets are markets in which factors of production are bought and sold, for the
purpose of production.
Normal goods are goods whose quantity demanded goes up as consumer income increases.
Inferior goods are goods whose quantity demanded goes down as consumer income
increases.
Giffen goods are a special case of inferior goods whose quantity demanded increases when
the price of the good rises (i.e. the income effect dominates the substitution effect ­ see
below).
Price effect is the sum of income and substitution effects.
Income effect is the effect of a price rise on quantity demanded that works through a decline
in the real income (or purchasing power) of the consumer. Income effect can be positive or
negative depending on whether the good is normal or inferior.
Substitution effect is the effect of a price rise on quantity demanded that works through the
consumer switching to substitutes goods. The substitution effect of a price rise is always
negative.
Substitutes are goods that compete with one another or can be substituted for one another,
like butter and margarine.
Compliments are goods that go hand in hand with each another. Examples are left shoe and
right shoe, or bread and butter
Cash crops are the crops which are not used as food but as a raw material in factories e.g.
cotton.
Demand:
Demand is the quantity of a good buyer wish to purchase at each conceivable price.
The law of demand states that if the price of a certain commodity rises, its quantity demanded
will go down, and vice-versa.
A demand schedule is a table (sometimes also referred to as a graph) which shows various
combinations of quantity demanded and price.
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Introduction to Economics ­ECO401
VU
A demand function is an equational representation of demand as a function of its many
determinants.
A demand curve is a graph that obtains when price (one of the determinants of demand) is
plotted against quantity demanded.
Shifts in the demand curve plotted in P-Qd space are caused by changes in any determinant
of demand other than the price of the good itself.
Movements along the curve correspond to the changes in the variable on the vertical axis.
Factors Shifting Demand Curve:
Factors Changing
Effect on
Direction of
Effect on
Effect on
Demand
Demand
Shift in
Equilibrium
Equilibrium
Demand Curve
Price
Quantity
Increase in income
Increase
Rightward
Increase
Increase
(normal good)
Decrease in
Decrease
Leftward
Decrease
Decrease
income(normal good)
Increase in income
Decrease
Rightward
Decrease
Decrease
(inferior good)
Decrease in
Increase
Rightward
Increase
Increase
income(inferior good)
Increase in price of
Increase
Rightward
Increase
Increase
Substitute
Decrease in price of
Decrease
Rightward
Decrease
Decrease
substitute
Increase in price of
Decrease
Leftward
Decrease
Decrease
complement
Decrease in price of
Increase
Rightward
Increase
Increase
complement
Increase in taste and
Increase
Rightward
Increase
Increase
preference for good
Decrease in taste and
Decrease
Leftward
Decrease
Decrease
preference for good
Increase in number of
Increase
Rightward
Increase
Increase
consumers
Decrease in number of
Decrease
Leftward
Decrease
Decrease
consumers
Market demand curve is a graphic representation of a market demand which shows the
quantities of a commodity that consumers are willing able to purchase during a period of time at
various alternative prices, while holding constant everything else that effects demand. The
market demand curve for a commodity is negatively sloped, indicating that more of a commodity
is purchased at a lower price.
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Table of Contents:
  1. INTRODUCTION TO ECONOMICS:Economic Systems
  2. INTRODUCTION TO ECONOMICS (CONTINUED………):Opportunity Cost
  3. DEMAND, SUPPLY AND EQUILIBRIUM:Goods Market and Factors Market
  4. DEMAND, SUPPLY AND EQUILIBRIUM (CONTINUED……..)
  5. DEMAND, SUPPLY AND EQUILIBRIUM (CONTINUED……..):Equilibrium
  6. ELASTICITIES:Price Elasticity of Demand, Point Elasticity, Arc Elasticity
  7. ELASTICITIES (CONTINUED………….):Total revenue and Elasticity
  8. ELASTICITIES (CONTINUED………….):Short Run and Long Run, Incidence of Taxation
  9. BACKGROUND TO DEMAND/CONSUMPTION:CONSUMER BEHAVIOR
  10. BACKGROUND TO DEMAND/CONSUMPTION (CONTINUED…………….)
  11. BACKGROUND TO DEMAND/CONSUMPTION (CONTINUED…………….)The Indifference Curve Approach
  12. BACKGROUND TO DEMAND/CONSUMPTION (CONTINUED…………….):Normal Goods and Giffen Good
  13. BACKGROUND TO SUPPLY/COSTS:PRODUCTIVE THEORY
  14. BACKGROUND TO SUPPLY/COSTS (CONTINUED…………..):The Scale of Production
  15. BACKGROUND TO SUPPLY/COSTS (CONTINUED…………..):Isoquant
  16. BACKGROUND TO SUPPLY/COSTS (CONTINUED…………..):COSTS
  17. BACKGROUND TO SUPPLY/COSTS (CONTINUED…………..):REVENUES
  18. BACKGROUND TO SUPPLY/COSTS (CONTINUED…………..):PROFIT MAXIMISATION
  19. MARKET STRUCTURES:PERFECT COMPETITION, Allocative efficiency
  20. MARKET STRUCTURES (CONTINUED………..):MONOPOLY
  21. MARKET STRUCTURES (CONTINUED………..):PRICE DISCRIMINATION
  22. MARKET STRUCTURES (CONTINUED………..):OLIGOPOLY
  23. SELECTED ISSUES IN MICROECONOMICS:WELFARE ECONOMICS
  24. SELECTED ISSUES IN MICROECONOMICS (CONTINUED……………)
  25. INTRODUCTION TO MACROECONOMICS:Price Level and its Effects:
  26. INTRODUCTION TO MACROECONOMICS (CONTINUED………..)
  27. INTRODUCTION TO MACROECONOMICS (CONTINUED………..):The Monetarist School
  28. THE USE OF MACROECONOMIC DATA, AND THE DEFINITION AND ACCOUNTING OF NATIONAL INCOME
  29. THE USE OF MACROECONOMIC DATA, AND THE DEFINITION AND ACCOUNTING OF NATIONAL INCOME (CONTINUED……………..)
  30. MACROECONOMIC EQUILIBRIUM & VARIABLES; THE DETERMINATION OF EQUILIBRIUM INCOME
  31. MACROECONOMIC EQUILIBRIUM & VARIABLES; THE DETERMINATION OF EQUILIBRIUM INCOME (CONTINUED………..)
  32. MACROECONOMIC EQUILIBRIUM & VARIABLES; THE DETERMINATION OF EQUILIBRIUM INCOME (CONTINUED………..):The Accelerator
  33. THE FOUR BIG MACROECONOMIC ISSUES AND THEIR INTER-RELATIONSHIPS
  34. THE FOUR BIG MACROECONOMIC ISSUES AND THEIR INTER-RELATIONSHIPS (CONTINUED…….)
  35. THE FOUR BIG MACROECONOMIC ISSUES AND THEIR INTER-RELATIONSHIPS (CONTINUED…….):Causes of Inflation
  36. THE FOUR BIG MACROECONOMIC ISSUES AND THEIR INTER-RELATIONSHIPS (CONTINUED…….):BALANCE OF PAYMENTS
  37. THE FOUR BIG MACROECONOMIC ISSUES AND THEIR INTER-RELATIONSHIPS (CONTINUED…….):GROWTH
  38. THE FOUR BIG MACROECONOMIC ISSUES AND THEIR INTER-RELATIONSHIPS (CONTINUED…….):Land
  39. THE FOUR BIG MACROECONOMIC ISSUES AND THEIR INTER-RELATIONSHIPS (CONTINUED…….):Growth-inflation
  40. FISCAL POLICY AND TAXATION:Budget Deficit, Budget Surplus and Balanced Budget
  41. MONEY, CENTRAL BANKING AND MONETARY POLICY
  42. MONEY, CENTRAL BANKING AND MONETARY POLICY (CONTINUED…….)
  43. JOINT EQUILIBRIUM IN THE MONEY AND GOODS MARKETS: THE IS-LM FRAMEWORK
  44. AN INTRODUCTION TO INTERNATIONAL TRADE AND FINANCE
  45. PROBLEMS OF LOWER INCOME COUNTRIES:Poverty trap theories: