CHAPTER 9: DEMAND and SUPPLY MODELLING

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CHAPTER 9 DEMAND and SUPPLY MODELLING
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1 DEMAND CURVE

• In general, the demand for a product is
  dependent upon the specifc unit price that is
  charged.
• The selling price falls then the demand will rise
  
• The selling price rises then the demand will
  fall
• An inverse relationship between demand and
  selling price.
• This type of relationship can be represented by

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• qd f(p)
• qd stands for the quantity demanded
• p stands for the unit price
• f() is notational shorthand for saying 'depends
  upon
• Example Cycle Safety-Helmet
• A company manufactures and sells a particular
  type of bicycle safety-helmet. The demand for the
  company's product is given by
• qd 900 - 30p ( 9.2 )
• where p is in 's and qd is in units of output
  per time period.

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• How should we define the two axes ?
• In terms of the x-axis , what range is
  appropriate ?
• How should the x-axis range be calibrated ?

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SUPPLY CURVE

• Demand curve describes the behaviour of customers
  
• Supply curve presents behaviour about the
  supplier/manufacturer of the products
• the quantity supplied and the price of a product
  that can be captured as follows
• qs g(p)
• qs stands for the quantity supplied
• p stands for the price
• g( ) is notational convenience for saying
  'depends upon'.

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• Cycle safety-helmet example, the supply curve as
  follows
• qs 20p

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• The system of equations looks as follows
• qd 900 - 30p
• qs 0 20p

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• EQUILIBRIUM point the point of intersection of
  two curve
• ( pe , qe )
• At pe, consumers want to buy at this price are
  able to do so.
• At qe suppliers are able to sell all and are not
  left with any unsold stocks.
• EQUILIBRIUM CONDITION
• The equality between demand and supply can be
  written as
• qd qs

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• Summary, the system of equations of Demand-Supply
  model
• qd 900-30p (Demand curve )
• qs 0 -20p ( Supply curve )
• qd qs ( Equilibrium condition )

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• p1lt pe qd(p1) gtqs(p1)
• Quantity demanded will start to fall, reflecting
  the fundamental behaviour of consumers
• Quantity supplied will start to rise , reflecting
  the fundamental behaviour of suppliers.
• p2 gt pe qs(p2) gtqd(p2)
• Quantity demanded will increase , reflecting the
  fundamental behaviour of consumers
• Quantity supplied will decrease , reflecting the
  fundamental behaviour of suppliers

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SHIFTS in DEMAND and SUPPLY

• Some outside force was to come along and
  influence the behaviour of either consumers or
  producers, then the market equilibrium would
  change.
• Our problem now is to identify potential sources
  of market disturbance.

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Demand Curve Analysis

• The range of factors that may typically influence
  the demand
• qd f( p , adv , y , psub , pcomp )
• qd-- the amount demanded ,
• p--the price of the product,
• adv--the amount of advertising spent on the
  product
• y-- the income of consumers
• psub--the price of a substitute product
• pcomp--the price of a complementary product

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• Advertising
• level of advertising to have a positive
  influence on the demand for a product
• For ANY given product price an increase in
  advertising causes an increase in product demand
• for ANY given product price a decrease in
  advertising causes a decrease in product demand
• The market research department has estimated that
  the impact of this campaign will be to increase
  product demand by 100 units at each and every
  price level

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• qd1 900 -30p ( the initial demand curve)
• qd2 qd1 100
• 900 - 30p 100 1000 -30p
• (the demand curve AFTER the advertising
  campaign)

Table 9.2
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• Income
• The analysis of changes follows a similar line of
  reasoning to the advertising
• consumer income increases - - more purchasing
  power-- at any given product price, increase in
  product demand-- outward shift in the demand
  curve.
• consumer income decreases--reduction in
  demand---inward shift in the demand curve.
• for example, increases income tax--the after-tax
  or disposable income of consumers will fall--
  inward shift in product demand Similarly ,
  decrease in tax rates -- increase disposable
  income outward shift in demand curves

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• Price of Substitutes
• Substitutes are products with essentially the
  same characteristics
• the influence of the price of a substitute
  product upon the demand
• for ANY given price of the PRODUCT of INTEREST an
  INCREASE in the PRICE of the SUBSTITUTE PRODUCT
  causes an INCREASE in the demand for the product
  of interest.
• for ANY given price of the PRODUCT of INTEREST a
  DECREASE in the PRICE of the SUBSTITUTE PRODUCT
  causes a DECREASE in the demand for the product
  of interest.

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• a decrease in the price of a substitute product
  will cause a reduction in the demand for the
  product of interest,and hence an inward shift of
  the relevant product demand curve.
• an increase in the price of a substitute product
  gives rise to an increase in the demand for the
  product of interest, and hence to an outward
  shift of the relevant demand curve.

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• Price of Complements
• Complementary goods are products that almost by
  definition have to be purchased in conjunction.
  For example ,bicycles and safety-helmets
• for ANY given price of the PRODUCT of INTEREST a
  DECREASE in the PRICE of a COMPLEMENTARY good
  causes an INCREASE in the demand for the product
  of interest.
• for ANY given price of the PRODUCT of INTEREST an
  INCREASE in the PRICE of a COMPLEMENTARY good
  causes a DECREASE in the demand for the product
  of interest.

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• a decrease in the price of a complement -- an
  increase in the demand for the product-- outward
  shift of the relevant demand curve.
• an increase in the price of a complement-- a
  decrease in the demand for the product -- inward
  shift of the relevant demand curve.

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• Two types of demand curve movements
• A SHIFT OF a DEMAND CURVE
• changes in factors such as Advertising , Income ,
  Price of a Substitute , Price of a Complement
  will cause the whole demand curve to sfift in the
  ( price , quantity ) space. This type of change
  is often called a shift in the product demand
  curve.
• A SHIFT ALONG an EXISTING DEMAND CURVE.
• if the price of a product falls , with all other
  factors being held constant at some level , then
  there will be a downward movement along the
  demand curve such that the quantity demanded is
  increased.
• This type of movement is often called an increase
  in the quantity demanded. Similarly , a price
  increase gives to a decrease in the quantity
  demanded.

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Supply Curve Analysis

• The range of factors that may typically influence
  the Supply
• qs g( p , price of inputs , tax , innovation )
  
• qs -- the supply of the product
• p-- the price of the product
• price of inputs -- the prices of the factor
  inputs that companies tend to use in output
  production.
• tax -- the influence of sales type taxes upon
  the behaviour of suppliers
• Innovation-- the impact of changes in working
  processes that influence output efficiency.

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• Price of Inputs
• an increase in input prices -- a reduction in
  product supply.
• A decrease in input prices an increase in
  product supply.
• Example
• qs120p
• qs2 40p
• qs3 15p

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• Tax
• If the supplier is suddenly faced with a higher
  sales tax bill then they can afford to supply
  less units of output, and thus the supply curve
  will shift downwards.
• For a reduction in sales tax any output level
  can be supplied at a lower price and thus the
  supply curve will shift upwards.

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• Innovation
• Innovation --some form of technical innovation
  which makes output production more efficient.
• Modern computerised piece of machinery
• Training and educating the workforce
• An efficiency increasing investment upward shift
  in the supply curve

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• Two type of supply curve movements
• an increase (decrease ) in quantity supplied is
  associated with a movement up (down ) an existing
  supply curve , and is caused by an increase
  (decrease) in the price of the product of
  interest with all other factors being held
  constant.
• a change in supply involves a complete shift in
  the supply curve such that at any given price the
  amount supplied changes. This is caused by a
  change in one of the other factors of supply and
  the exact supply curve movement is dependent upon
  the specific factor being analysed.

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MODELLING A CHANGING MARKET

• Two strands
• demand and supply interact to establish a market
  equilibrium.
• external factors could cause the demand or
  supply curve to shift.
• These two strands is put together, some issues
  should be addressed.

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• Given a change in external conditions , we must
  be able to identify which relationship(s) is
  affected.
• QUALITATIVE prediction to predict the correct
  direction of change given a movement in demand or
  supply.
• Give correct numerical answers to the problem

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• Old Demand-Supply model
• qd 900-30p (Demand curve )
• qs 0 20p ( Supply curve )
• qd qs ( Equilibrium condition )
• Reduction in consumer income, then demand for
  its product will fall by 100 units
• qd 800-30p (Demand curve )
• qs 0 20p ( Supply curve )
• qd qs ( Equilibrium condition )

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• The equilibrium price has fallen -- pe2 lt pel
• The equilibrium quantity has fallen -- qe2 lt qel
• The change in the equilibrium price
• the change in pe ?pe pe2 pel
• The change in the equilibrium quantity
• The change in qe ?qe qe2 - qel
• two types of movements
• the fall in price will cause a reduction in
  quantity supplied as suppliers find the product
  less profitable.
• the fall in price will cause a rise in quantity
  demanded as the consumers move along their new
  demand curve.

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• Numerical solution

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Variable Initial Equilibrium Value New Equilibrium Value Change in Equilibrium Value
pe 18 16 ?pe-2
qe 360 320 ?qe-40
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• CPW for Demand and Supply Modelling