1 2 What is a Market Market is a mechanism through which buyers and sellers individuals firms agents or dealers of a good or service interact to determine price and quantity of a product ID: 271793
Download Presentation The PPT/PDF document "2. Demand, Supply, & Market Equilibr..." is the property of its rightful owner. Permission is granted to download and print the materials on this web site for personal, non-commercial use only, and to display it on your personal computer provided you do not modify the materials and that you retain all copyright notices contained in the materials. By downloading content from our website, you accept the terms of this agreement.
Slide1
2. Demand, Supply, & Market Equilibrium
1Slide2
2
What is a Market?
Market
is a mechanism through which buyers and sellers (individuals, firms, agents or dealers) of a good (or service) interact to determine price and quantity of a product.
Physical or virtual
DD and SS are the 2 major forces that determine market conditionsSlide3
3
Demand
What is demand?
Effective desire
Essential for the creation, survival and profitability of a firm
Knowing the strength & stability of demand is crucial for expansion of production facilities and entering new marketSlide4
Demand
Attributes of demand
:
Price
Point of Time
Market
Quantity
4Slide5
5
Types of Demand
Durable and non durable goods
Demand for Non durable Goods
- Can be used only once
Utility is exhausted in a single use.
Have a recurring demand
- Producers’ Non durables : Raw materials, packing items, fuel, power
- Consumers’ Non durables :Food, soap, cooking fuel, cosmeticsSlide6
6
Durable goods
Durable Goods
Total utility is not exhausted in a single or short term use
Can be used over a long time period
Wear & tear over a period of time; so needs replacement
Generally used by more than 1 person (fridge)
Purchased at
irregular intervalsSlide7
7
Types of Demand
Durable goods
More volatile demand as they can be stored
Strongly dependent on macro economic conditions
Need to consider
both new and replacement
demand
Style, convenience, technological innovations are important
Producers’ Durables (plants, building, machinery) Consumer Durables (car, fridge)Slide8
Individual & Market Demand
Market demand is derived by adding up all individual demands at a given price
Individual demand refers to a single consumer- Theory of demand is based on Individual demand- Helps in understanding various dimensions of demand analysis
But seller is interested in market demand and analysis
8Slide9
9
Table 3: Market demand curve
Price
A
B
C
Market Demand(=A+B+C)
100
45
18
10
63
200
35
12
7
54
300
28
7
3
38
400
22
3
1
26
500
18
1
0
19
600
13
0
0
13Slide10
10
Types of Demand
Direct and Derived Demand
Direct Demand: Goods demanded as they are. When a commodity is
demanded for its own sake
by the final consumer ;
Satisfaction is derived by the final consumer without any further value addition
: Food, clothes, house, medicines
.Slide11
Types of Demand
Derived Demand: A commodity that is demanded for use
either as raw material or as an intermediary for value addition in any other good
-Demand for a commodity arising
because of demand for some other
“parent” commodity: Demand for land, fertilizer, agricultural tools, steel, cement, capital goods. e.g., demand for cement is derived from the demand for new buildings
11Slide12
Types of Demand
Complementary & Competing Demand
Complementary Demand: Goods that create joint demand; so
demand for one good depends on demand for the other
Competing Demand :
Substitutes
- Goods that compete with one another to satisfy any particular want.
12Slide13
Demand Curve
Demand curve shows the relationship between the price of a good and quantity demanded, Ceteris paribus
Has negative slope because of the inverse relationship between P and Q
13Slide14
14
Law of Demand
Law of Demand (
Marshall)
Other things remaining constant
,
(Ceteris paribus
), when the price of a commodity rises, the demand for the commodity falls and when the price of a commodity falls, the demand for the commodity rises
Quantity demanded and price are inversely related.Slide15
15
Demand
Schedule and Derivation of DD curve
Price (Rs)
Quantity Demanded
100
45
200
35
300
28
400
22
500
18
600
13Slide16
Demand Curve
16Slide17
Explaining the Negative Relationship
Why does demand rise when there is a fall in price ?
New/ more uses of the good
New consumers who could not afford it earlier buy it
17Slide18
Explaining the Law of Demand
Substitution Effect:
When price of a commodity falls, the consumer tries to substitute it in the place of other commodities whose price has remained unchanged (as the substitute becomes relatively more expensive)
18Slide19
Explaining the Law of Demand
Income Effect:
When price of a commodity falls, the consumer’s real income (and purchasing power) increases
19Slide20
Explaining the Law of Demand
Law of Diminishing marginal Utility:
The utility derived from every additional unit (marginal unit) of a commodity goes on falling as the consumer consumes additional units of a commodity, So, consumer will equate MU with P and stop buying additional units of the commodity when MU=P.
Why?
20Slide21
Exceptions to the Law
Giffen goods (Inferior goods)
Veblen goods (snob value)
Demonstration effect
Future expectations regarding prices
Insignificant portion of income spent(Low value and limited use products)
Goods with no substitutes
21Slide22
Sum
A fruit seller wants to sell 20 kg of apples. There are 3 customers whose individual demand functions are given below:
D1= 25 - 1.0P
D2= 20 - 0.5P
D3= 15 - 0.5P
Determine the market demand equation for the fruit seller. Find out the price at which he can sell all the apples
22Slide23
Solution
Dm= D1+ D2+D3
= (25-1.0P)+ (20-0.5P)+ (15-0.5P)
Dm= 60-2.0P (Market DD Function)
As he wants to sell 20 kg, price will be:
20= 60- 2.0P
Solving the equation, we get P=20
Respective DD for each consumer will be
D1= 5kg; D2= 10 kg; D3= 5kg
23Slide24
24
Determinants of Demand
Price of good X
Price of related good Y
Consumer Income
Tastes and Preferences
Advertising *
Consumer expectations of future price & income
Size and distribution of population
Growth of EconomySlide25
Advertising & Buying Behavior
According to a 2006 survey of rural India, 73% of consumers felt promotion had no or moderate effect on their buying behavior.
For edible oils and soft drinks, 54% and 75% said they were influenced by ads.
Purchase of watches and bicycles did not show any impact of ads; but friends, family members and village retailers were the influencers of these purchases.
25Slide26
Demand Function
Dx= f (
Px
, Y,
Py
, T, A,
Ef
, N)
Multivariate
Linear- non linear
Coefficients can be positive or negativeIn order to assess the effect of one of the variables, we have to assume that all other variables are constant (partial regression coefficient)
26Slide27
Movement and Shift
Change along a curve
(Movement)
Contraction or Expansion refers to a
change along the demand curve.
A movement occurs when a change in the quantity demanded is caused
only by a change in price,
Due to a change in
price
, demand moves along the
same demand curve-
contraction or expansion in quantity demanded
27Slide28
28Slide29
Shift in Demand Curve
A shift in a demand curve occurs when a good's quantity demanded changes
even though price remains the same
. E.g., if the price for a bottle of beer was $2 and the quantity of beer demanded increased from Q1 to Q2, then there would be a shift in the demand for beer.
Shifts in the demand curve means that quantity demanded is
affected by factors other than price.
29Slide30
30
Shift in Demand Curve
When
factors other than price change
, demand curve
shifts
to its right or left. Indicates that consumers will buy more or less
at the same priceSlide31
Shift in Demand Curve
31Slide32
SUPPLY
Supply and Law of Supply
SS is the quantity of a good or service that a producer or seller is
willing and able to provide at a price, at a given point of time, ceteris paribus.
DD side is represented by buyers; SS side is represented by sellers
Market supply is the aggregate of individual supplies
32Slide33
Supply and Law of Supply
Supply Function represents the quantity of a commodity that will be provided at a price, levels of technology, input price and all other factors
Sx
= f
(
Px
, C, T, G, N)
33Slide34
Determinants of Supply
Price
of commodity: Positively related
Cost of production
: SS is reduced if Cost of production increases
State of
technology:
Improved technology reduces cot of production per unit , enhances productivity and increases SS
Number of Firms
: If entry is unrestricted, more SS
Government policies
: Taxes & subsidies
34Slide35
35
Supply and Law of Supply
Law of Supply
: Other things remaining constant,
supply of a product increases with increase in price
and decreases with decrease in price.
Supply Schedule
represents quantity of a product supplied at different prices.
Graphic representation of supply schedule indicates an
upward moving curve:Slide36
36Slide37
Market
Equilibrium
Equilibrium is a state of balance from which there is no tendency to
change
Market is at equilibrium when quantity demanded equals quantity supplied.
The
equilibrium price or clearing price
is established here
37Slide38
38
Market Equilibrium
Price
DD
SS
Market
Condition
Effect
on P
100
63
6
shortage
Rise
200
54
10
shortage
Rise
300
38
18
shortage
Rise
400
26
26
Equilibrium
stable
500
19
39
Surplus
FallSlide39
Equilibrium
When supply and demand are equal (i.e. when the
supply
curve
and
demand
curve intersect
) the economy is said to be at
equilibrium
.
At
this point, the
allocation of goods
is at
its most efficient
because the amount of goods being supplied is exactly the same as the amount of goods being demanded.
Everyone
(individuals, firms, or countries) is
satisfied
with the current economic condition..
39Slide40
Market Equilibrium
40Slide41
Market Equilibrium
Imbalance between DD and SS causes either shortage or surplus.
1
.
Excess Supply
If the price is set too high, excess supply will be created within the economy and there will be
allocative
inefficiency.
41Slide42
Disequilibrium: S>D
42Slide43
Excess Supply
At price P1, Q2 is the quantity of goods that the producers wish to supply. But consumers want to consume only Q1, (less than Q2). Because Q2 is greater than Q1, too much is being produced and too little is being consumed. Suppliers are producing more goods, in order to sell and increase profits, but consumers purchase less because the price is too high.
43Slide44
Disequilibrium: D >S
Excess Demand
Excess demand is created when price is set below the equilibrium price. Because the price is so low, too many consumers want the good while producers are not making enough of it.
44Slide45
Disequilibrium: D >S
45Slide46
Disequilibrium: D >S
At price P1, the quantity of goods demanded by consumers is Q2 while quantity of goods that producers are willing to produce at this price is Q1. Thus, there are too few goods being produced to satisfy the wants (demand) of the consumers.
46Slide47
Market Equilibrium
However, as consumers have to compete with one other to buy the good at this price, the demand will push the price up, making suppliers want to supply more and bringing the price closer to its equilibrium
.
In a free market economy disequilibrium itself generates conditions of equilibrium
47Slide48
48
Market Equilibrium
Law of One price-
Identical goods sell at
virtually identical price
in different markets.
Market forces drive price towards equality
Higher prices in one market attract sellers; lower prices attract buyers
The law also holds because of
arbitrage
: buying where price is low and selling where price is highSlide49
49
Defining the Market
Procter & Gamble
: New Product Launch -
Debate on
common European detergent
Defining the market
Should Europe be defined as
one market
or should each country be distinctly designated as a separate market? – Slide50
50
P&G executives discussed the following:
Having a single detergent would be less costly but…
Washing temperature preferences
Hand wash
European washing machines are front loading –American, top loading
High penetration of TVs in UK, but only 45% in Portugal and SpainSlide51
51
European machines have smaller water capacity and much longer wash cycles
Business Laws differ among countries
In Finland and Holland, phosphate levels in detergent are limited
In Germany, coupons and refunds are not allowed
In some countries, package weight and labeling are regulatedSlide52
52
Eurobrand failed
P&G failed to define the market appropriatelySlide53
53
In each case there is a trade-off- Choosing Eurobrand with a single formula, single manufacturing structure as well as single marketing campaign would be
less costly
but has the
potential problem of defining market too broadly
Choosing the individual market approach means higher marketing and production costs but products are
in tune with individual marketsSlide54
54
Need for Cost benefit analysis
for each action-
unified approach vs distinct markets
P&G did not include options such as “Anglo” or ‘Franco” (Only “Euro” was discussed).
Need to have included both out-of–pocket expenses and what is foregone
Slide55
55
So P&G changed its approach to globalisation by
redefining markets-
subsidiaries in each country and designing products and marketing campaigns for each subsidiary
(Source: Boyce, The New Managerial Economics, pp34-35)Slide56
56
Estimating Demand
1. Suppose the relationship between Qd and P is represented by
Q= -500P +200 I -400 C+0.01 A, where
P= Price
I=Income
C=Price of complementary good
A= Expenditure on advertising,
Find the Qd when P= 600, I=Rs.15000, C= Rs.300, A= Rs.40,000Slide57
57
REDO sums
Equilibrium
P, D and S
Market equilibrium will be achieved when Dx=Sx
Dx=A-aP
Sx=B+ bP
Where A and B are constants
a and b are coefficients
P is priceSlide58
58
Equilibrium P, D and S
Dx= 61.5 - 2Px
Sx= 1.5+2Px
Qd and Qs can be found by substituting the value of P in the respective equations:
Dx = 61.5 - 2Px
OR
Sx= 1.5+2Px
= 61.5 – (2* 15) Sx= 1.5+ (2 *15)
=31.5 mn packets =31.5 mn packetsSlide59
59
Equilibrium P, D and S
2. Suppose market demand is represented by
Qd=3,000,000-700P
and market supply is represented by
Qs=1,000,000-400P,
a) How do you determine the market price?
b) Also find Qd and Qs Slide60
60
Supply, Demand & Market equilibrium
Car Market- Factors Affecting Demand
Average income: An increase leads to increase in demand
Population: Size
Income distribution; More middle and higher income classes, more the purchases
Price of related goods: Lower the price of petrol/diesel, more the car demand
Substitutes: Availability and priceSlide61
61
Supply, Demand & Market equilibrium
Taste: SUV, red Ferrari
Special Influences: Availability of alternative transport (buses, trains), safety of cars, better roads (Express Highway), Expectation of future price increasesSlide62
62
Supply, Demand & Market equilibrium
Car Market- Factors Affecting Supply
Input prices: lower wages or machinery prices will reduce cost of production and increase supply
Prices of related goods being produced in the factory: If truck demand and its price increases, its SS will go up, entire assembly line will produce trucks resulting in lower SS of carsSlide63
63
Supply, Demand & Market equilibrium
Technology: Lowers production costs and increases supply
Government Policy: Pollution norms, minimum wages laws, government policy on electricity charges for industry may increase costs and reduce supply
Special Influences: Internet shopping will drive out high cost sellers out of the marketSlide64
64
CONSUMER
BEHAVIOUR
Marshall’s utility Analysis:
Law of Diminishing Marginal Utility: Other things remaining the same, utility derived by the consumer from the consumption of additional units goes on decreasing
Utility is quantifiable and additive
consumption units are homogeneous
Income is limitedSlide65
65
CONSUMER
BEHAVIOUR
A consumer is in equilibrium when he has
Maximised his satisfaction
Spent his entire income
Attained optimal allocation of expenditure
Consumed optimum quantity of each commoditySlide66
66
CONSUMERS’ BEHAVIOUR
Law of
Equi
- marginal Utility: Consumer distributes his income in such a way that marginal utility of each commodity per unit of expenditure is the same.
MUx
MUy
MUz
_______= _____ =
_____ =
MUm
Px
Py
PzSlide67
67
CONSUMERS’ BEHAVIOUR
Hicks- Allen’s Indifference Curve Analysis:
Ordinal instead of cardinal measurement
Utility being subjective is rankable, not measurable
Consumer is rational
Tastes, preferences and income remain constantSlide68
68
CONSUMERS’ BEHAVIOUR
Indifference Curve
represents combination of goods X and Y that give the same level of satisfaction.
Convex to the origin- consumer will sacrifice lesser quantity of Y for each additional unit of X
It has a negative slope –For utility to remain constant, if demand for one commodity increases, the other one should decrease.
2 ICs can not intersect each other.
Higher the indifference curve, higher the level of satisfaction.Slide69
69
CONSUMERS’ BEHAVIOUR
IC1
IC2
IC3
Good X
Good YSlide70
70
CONSUMERS’ BEHAVIOUR
Budget Line
:
Represents all the combinations of the two goods that can be purchased with the given amount of money
The consumer has a constraint, namely limited income.
Position and slope of budget line is determined by the prices of the 2 goods.Slide71
71
CONSUMERS’ BEHAVIOUR
Budget Line
Quantity of X
Quantity of Y
x
oSlide72
72
CONSUMERS’ BEHAVIOUR
Consumer’s Equilibrium:
E
IC1
IC2
IC3
A
B
X
O
Y
Quantity of X
Quantity of Y
Qx
QySlide73
73
Consumer’s Equilibrium
The consumer has a fixed income, all of which he spends. Given the market prices of 2 goods, he is constrained to move on the Budget Line.
The consumer will move along the Budget Line until reaching the highest attainable indifference curve
. Hence equilibrium is at the
point of tangency
between IC and budget line.Slide74
74
Research on Consumer Behavior
Market Researcher on Consumer Behaviour:
Law of demand is not the last word on consumer behaviour
A person who purchases high priced products
-Perceives high quality difference
-Is also cautious
-Feels it is risky and uncertain to go for low quality productsSlide75
75
Research on Consumer Behavior
A person who
perceives himself
as experienced in purchasing a product will generally choose a low priced item but an inexperienced person would choose the costlier option
Marketing executives think that a higher price is essential if the product’s real advantages have
to get noticed
.
Purchasing behaviour of consumer is mostly
repetitive
- as against the theory which says that consumer tries to optimise in every transaction and every time