UNIVERSITY OF MAKATI

J. P. Rizal Ext., West Rembo, Makati City

HIGHER SCHOOL NG UMAK
ABM AND LANGUAGE DEPARTMENT
COURSE TITLE CHAPTER 2 | PART 1
MODULE NO. 2A
APPLIED ECONOMICS ECONOMICS AS APPLIED SCIENCE
explain the law of supply and demand and how equilibrium price and quantity are
LEARNING determined;
OBJECTIVES
discuss and explain factors affecting demand and supply
At the end of the
lesson, the students
should be able to: compare the prices of commodities and analyze the impact on consumers

INTRODUCTION
When thinking of markets, you may wonder: what is the driving force behind the relationship between the
production and consumption that makes up markets and ultimately economies? This explanation will introduce you
to one of the foundational concepts of economics - supply and demand, which is essential in both basic and
advanced economics, as well as in your everyday life. Ready? Then read on!

CONTENT

Supply and demand definition

Supply and demand is the relationship between the quantities of products or services that producers are willing
to provide versus the quantities that consumers are willing to obtain at a range of various prices.

While the supply and demand definition may sound complex at first, it is a simple model that visualizes the
behaviors of producers and consumers in a given market. This model is largely based on the three main elements:

● Supply curve: the function that represents the relationship between the price and the quantity
of products or services that producers are willing to supply at any given price point.
● Demand curve: the function that represents the relationship between the price and the
quantity of products or services that consumers are willing to purchase at any given price
point.
● Equilibrium: the point of intersection between the supply and demand curves, representing
the price-quantity point where the market stabilizes.
These are the three core elements that you will need to keep in mind as you work on developing a more
comprehensive understanding of the supply and demand model. Keep in mind that these elements are not just
random numbers; they are representations of human behavior under the effect of various economic factors that
ultimately determine prices and available quantities of commodities.

The law of supply and demand

Behind the interaction between consumers and producers is the theory known as the law of supply and demand.
This law is defined by the relationship between the price of a product or service and the willingness of market
actors to either provide or consume that product or service based on that price.

You may think of the law of supply and demand as a theory compounded by two complimentary laws, the law of
demand and the law of supply. The law of demand states that the higher the price of a good, the lower the
quantity consumers will wish to buy. The law of supply, on the other hand, states that the higher the price, the
more of that good producers will want to supply. Together, these laws act to drive the price and quantity of
goods in the market. The compromise between consumers and producers in price and quantity is known as the
equilibrium.

Some supply and demand examples include markets for physical goods, where producers supply the product and
consumers then purchase it. Another example is markets for various services, where service providers are the
producers and users of that service are the consumers.

Regardless of what the commodity that is being transacted, the supply and demand relationship between
producers and consumers is what fine-tunes the price and quantity of that commodity available, thus allowing the
market for it to exist.

Supply and demand graph

A typical supply and demand graph is easily recognizable by its "criss-cross" system of two functions, one
representing supply and the other representing demand. In general, the supply function will have a positive
slope, while the demand function will have a negative slope.
Supply and demand schedule
Since the supply and demand functions represent data in a market, you need data points to put on a graph to
ultimately draw the functions. To make this process organized and easy to follow, you may want to enter your
data points, which are different quantities of product or service demanded and supplied at a range of price
points, into a table that you will refer to as a schedule. Take a look at Table 1 below for an example:

Whether you are drawing your supply and demand graph by hand, using a graphing calculator, or even
spreadsheets, having a schedule will not only help you stay organized with your data but insure that your graphs
are as accurate as they can be.

Supply and demand curves

Now that you are familiar with supply and demand schedules, the next step is to put your data points into a
graph, thus producing a supply and demand graph. You can do this either by hand on paper or let software do
the task. Regardless of the method, the outcome will likely look similar to the graph you can see in Figure 1
provided below as an example:
Figure 1. Basic supply and demand graph

As you can see from Figure 1, demand is a downward-sloping function and supply slopes upward. Demand
slopes downward mainly due to diminishing marginal utility, as well as the substitution effect, which is
characterized by consumers seeking alternatives at cheaper prices as the price of the original product rises.

Notice that while both the supply and demand functions in the graph above are linear for the sake of simplicity,
you will often see that supply and demand functions can follow different slopes and can often look more like
curves rather than simple straight lines, as shown in Figure 2 below. How the supply and demand functions look on
a graph depends on what kind of equations provide the best fit for the data sets behind the functions.
 Figure 2. Non-linear supply and demand functions

Supply and Demand: Equilibrium

So why graph supply and demand in the first place? Besides visualizing data about consumers' and producers'
behavior in a market, one important task that a supply and demand graph will help you with is finding and
identifying the equilibrium quantity and price in the market.

Looking back at the supply and demand graph provided above, you will notice that the point of intersection
between the supply and demand functions is labeled as "equilibrium". The equilibrium equating to the point of
intersection between the two functions ties into the fact that equilibrium is where consumers and producers
(represented by the demand and supply functions, respectively) meet at a compromising price-quantity.

Refer to the mathematical representation of the equilibrium below, where Qs equals quantity supplied, and Qd
equals quantity demanded.
Equilibrium occurs when Qs = Qd or Quantity supplied equals Quantity demanded.

There are many other valuable conclusions that you can gather from a supply and demand graph, such as
surpluses and shortages.

Determinants of demand and supply

Changes in the price of a good or a service will lead to a movement along the supply and demand curves.
However, changes in the demand and supply determinants will shift either the demand or the supply curves
respectively.

Shifters of supply and demand

Determinants of demand include but are not limited to:

● Changes in prices of related goods

● Consumers' income
● Consumers' tastes
● Consumers' expectations
● Number of consumers in the market

Determinants of supply include but are not limited to:

● Changes in input prices

● Price of related goods
● Changes in technology
● Producers' expectations
● Number of producers in the market

Elasticity of supply and demand

As you become more familiar with supply and demand and interpreting their corresponding graphs, you will
notice that different supply and demand functions vary in the steepness of their slopes and curvatures. The
steepness of these curves reflects the elasticity of each supply and demand.
While both supply and demand are subject to variation in elasticity, it is interpreted differently for each function.

Elasticity of demand
Elasticity of demand represents how sensitive demand is to a change in various economic factors in the market.
The more the consumers are responsive to an economic change, in terms of how much that change affects the
consumers' willingness to still purchase that good, the more elastic the demand. Alternatively, the less flexible the
consumers are to economic fluctuations for a specific good, meaning they likely have to continue purchasing that
good regardless of the changes, the more inelastic demand is.

You can calculate the price elasticity of demand, for example, simply by dividing the percentage change in
quantity demanded by the percentage change in price, as shown by the formula below:

There are three main types of elasticity of demand that you will need to focus on for now:

● Price elasticity: measures how much the quantity demanded of a good varies due to changes
in the good's price. Learn more in our explanation on Price elasticity of demand.
● Income elasticity: measures how much the quantity demanded of a specific good varies due
to changes in income of the consumers of that good. Check out our explanation on Income
Elasticity of Demand.
● Cross elasticity: measures how much the quantity demanded of one good changes in
response to a change in the price of another good. See more in our explanation for Cross
Elasticity of Demand.
Elasticity of supply
Supply can also vary in elasticity. One specific type of elasticity of supply is price elasticity of supply, which
measures how responsive producers of a certain commodity are to a change in market price for that commodity.

You can calculate price elasticity of supply by dividing the percentage change in quantity supplied by the
percentage change in price, as shown by the formula below:

There are numerous factors that can affect price elasticity of supply, such as availability of resources needed for
production, changes in demand for the product that the firm produces, and innovations in technology.

Supply and Demand Examples

The concept of supply and demand is relevant throughout the entire field of economics, and that includes
macroeconomics and economic government policies.
Effect of Government Policies on Supply and Demand
Governments may intervene in the course of economies in order to correct for undesirable effects of the current
economic climates, as well as attempt to optimize future outcomes. There are three main tools that regulatory
authorities may use to create targeted changes in the economy:

● Regulations and policies

● Taxes
● Subsidies

Each of these tools may cause either positive or negative changes in the cost of production of various goods.
These changes will impact the behavior of producers, which will ultimately affect the price in the market. You can
learn more about the effects of these factors on supply in our explanation of Shift in Supply.

The change in market price, in turn, will likely have an effect on consumers' behavior and subsequently, demand.
See more on what factors affect demand and how, as well the extent to which these factors will influence
demand based on various circumstances, in our explanations on Shifts in Demand and Price Elasticity of Demand.

Thus, government policies can have a domino-like effect on supply and demand that can entirely change the
state of markets. To find out more about this, check out our explanation on The Effects of Government Intervention
in Markets.

Government policies may also affect property rights to various resources. Examples of property rights include
copyright and patents, which can be applied to intellectual property as well as physical objects. Owning patents
or copyrights grants enables exclusivity over the production of a good or service, which leaves consumers with
fewer options in the market. This will likely result in the market price increasing, as consumers will have no other
choice but to take the price and make a purchase.
 SUMMARY

ASSESSMENT
ANSWER the following questions:
1. What is supply and demand?
2. How is demand and supply shown in a graph?
3. What is the law of supply and demand?
4. What is the difference between supply and demand?
5. Why do supply and demand curves slope in opposite directions?

TERMINOLOGIES IN FOCUS:
quantity supplied
quantity demanded
equilibrium
elasticity (supply and demand, income)
schedule (supply and demand)
 ASSIGNMENT
1. Apply the law of supply and demand to your feasibility study as you consider the possible pricing for
your product.
2. Explain the factors that may affect your pricing strategy with respect to demand and supply of your
product.
REFERENCES
https://www.studysmarter.us/explanations/microeconomics/supply-and-demand/
DepEd Curriculum Guide | DepEd Modules

Prepared by:

CALICDAN, MARK JAYCEE

HEBREW, JUNE CANICOSA