Change in Supply and Demand - Research Paper Example

?I. Supply and Demand The Law of Supply and demand is one the most fundamental concept in economics. Demand meant the number of goods and services that the buyer or market wanted to buy or acquire at a certain price. Supply on the other had is the amount or number of goods and services that the producers are willing to produce at a certain price. The interplay of these factors makes up the law of supply and demand which governs the dynamics of the market and affects the price of goods and services (Englander and Moy 291). II. How a change in demand for a good or service in one market can have an effect on the supply of a different good or service in another market. The law of demand states that there is an inverse relationship between the price of products and services and the quantity demanded in a given period, all other things being equal. In circumstances where the price of a product increases, the market responds by decreasing the demand. In contrast, when the price of a product decreases, it is expected that the market will respond with an increased demand. The market’s sensitivity to price is also known as price elasticity (Nelson 574). Supply on the other hand increases the number of its produced units when the price of goods and service increases. In contrast, supply will decrease when price decreases. It is expected as producers are driven by profit motive and they are motivated to produce more at a higher price to increase their profit and is not motivated to create when there is no incentive for profit. Corollary, producers will only supply goods and services at a price that is higher than their marginal costs (Maurya 2). For illustration, let us use the demand schedule below; Price Quantity Demanded 1 100 2 80 3 60 4 40 5 20 According to the demand schedule, for every $1 price increase, there is a corresponding decrease in demand of 20 units. The quantity demand will continue to slide by 20 units as the price increases by a dollar. Figure 1 shows how the quantity in demand decreases with every dollar increase of price. Figure 2 will illustrate the change in demand. The demand changes because the price also changed. The illustration in figure 2 shifted to the right because there is an increase in demand as more quantity is demanded at each price. Figure 1. Change in quantity demand. Figure 2. Change in demand Supply on the other hand increases as the price increases. It increases because it provides producers an incentive to profit at a higher price. In figure 4, it showed that as demand increases, supply also increases. Conversely, supply will also decrease when demand decreases as illustrated in figure 5. Figure 4. Demand rises Figure 5. Demand falls Supply on the other hand tends to increase as price increase. As figure X will show, the corresponding increase in price is matched with a corresponding increase in supply. So how does the change in demand can affect supply? Demand is elastic and is sensitive to price. Supply on the other hand is motivated to produce more with a higher price. The elasticity of demand or its sensitivity to price affects supply by mitigating its production because higher demand that is a result of lower price does not provide much incentive for producers to supply more (Adler and Dumas 182). This contradicting nature of supply and demand (supply increases when price increases while demand increases only when price decreases) enables the price of a product and services to be established in the market. The price of a product or service is a point where the market is willing to pay certain goods and services at a price where the supplier is also willing to supply which is not at a loss to them (McCall 404-405). This is illustrated in figure 6 where supply and demand met. In the final analysis, demand determines the number of units that will be supplied in the market, thus affecting supply. Figure 6. Price established in the market On occasions that supplier will produce more than what is demanded, say for example in figure 5 where the prevailing market price for a product or service is $3 for a 60 unit demand, the supplier will have to sell it lower than the prevailing price of $3 dollars to dispose the product or service. This will enable other consumers to avail of the product or service who did not previously buy or demanded the product at $3 thinking that the opportunity cost of $3 is not worth the product or service. Shift and movement in demand curve The movement in the demand curve is typical when there is a direct relationship between the product or service and the price. The demand curves moves when the price increases or decreases as demand is directly sensitive to price; demand increases when price is reduced and vice versa (Kane). There is however a phenomenon when movement does not occur in the demand curve even if there is an increase or decrease in demand. As stated earlier, when there is a decrease in price, the demand curve should move to the right (due to the increased demand) and vice versa. When price remains constant despite the decrease or decrease in demand, there is a “shift” in the demand meaning that the increase or decrease in demand is affected by other factors which is not related to price. Such, there is no relationship between price and demand anymore. This usually happens when a certain product or service suddenly had the monopoly in the market. The best example that can be provided to illustrate this point would be a phenomenon where a certain pharmaceutical company (without competition) was able to discover a cure for AIDS that price can be dictated regardless of demand. That is of course not considering government intervention and regulation. III. How a change in supply of a good or service in one market can have an effect on the demand for a different good or service in another market. For producers, they are motivated to supply products and services where they can price it above its marginal cost. Supplying below the marginal cost or at a loss provides no incentive for producers to create products and services. Having said this, supply increases correspondingly with the increase of price. This is understandable because higher prices provide more incentive for producers to profit. This is mitigated by demand however as demand inversely decreases when price increases and vice versa. So prices are determined at a price where the market is willing to pay that is also not a loss to producers that they are still willing to supply. It is the point where supply meets the demand at a price agreeable to both (Phelps 155-156). Elasticity in supply: distinction between changes in the short-run and in the long-run The quantity and price of supply can also be affected by short-run and long-run production or service function. Since supply cannot immediately react to demand as producers still has to manufacture the goods or render the service and has to assemble the factors of productions (which are labor, machine, capital and materials) this can affect their capacity to supply. If the demand is a temporary spike like the sudden high demand for umbrella during rainy season, this may be deemed as short run as producers can respond by intensifying the current capacity of their production to meet the demand. If the rain however becomes year long due to climate change, this becomes long-run and all inputs of production (machine, labor, capital, raw material) becomes variable and supply will become more elastic because it is now more capable of contracting or increasing production in the long run (Kane). Shift and movement in supply curve There are however other factors that determines the amount of supply aside from the price of goods and services in the market. These are factors that affect the elasticity of supply which are; the prices of raw materials technology and productivity or efficiency the expectations of producers, the number of producers, and the prices of related goods and services. Since we know that demand is elastic or sensitive to price, supply can affect this movement in demand by its own elasticity. This can be affected when one of the factors of production, which is the materials, is lowered either by an effective sourcing of raw materials or by buying at a discount. This discounted price in procurement can be reflected in its selling price where demand will increase due to the lower price of supply. There is also another factor in the elasticity of supply that can affect demand. When technology is introduced either by methods or implements that resulted to higher efficiency and lower cost, this can be reflected in a lower selling price which can again influence an increased demand due to a lower price in supply (also figure 7). Figure 7. Supply rises There is however another phenomenon where price remains constant despite the increase or decrease in supply. Just like in the demand curve, this happens when the quantity of supply is no longer determined by the price alone but by other factors. The best example for this would be the price of beer where its price remains constant despite the lack of supply due to the mass shortage of hops where producers have to supply lesser quantity of beers at the same price (Kane). Bibliography Adler, Michael and Dumas, Bernard. “The Microeconomics of the Firm in an Open Economy” . The American Economic Review . Vol. 67, No. 1, Feb., 1977, p 180-189 Englander, Fred; Moy, Ronald. “Supply, Demand, and the Internet--Economic Lessons for Microeconomic Principles Courses”. Journal of Education for Business, May/Jun2003, Vol. 78 Issue 5, p290-294, 5p Kane, John. “Demand and Supply”. Eco 101 - Principles of Microeconomics. Available at retrieved on November 02, 2011. Online. Kane, John. “Elasticity”. Eco 101 - Principles of MicroeconomicsAvailable at . Retrieved on November 02, 2011. . Online. Kane, John. “The Market System”. Eco 101 - Principles of Microeconomics. Available at . Retrieved on November 02, 2011. Online. McCall, John J. ”Corporation Probabilistic Microeconomics”. The Bell Journal of Economics and Management Science, Vol. 2, No. 2 (Autumn, 1971),pp. 403-433 Maurya, M.L. “Modern Microeconomics : Theory and Application”. Global Media , Delhi, IND, 2008 Nelson, Allan. “Some Issues Surrounding the Reduction of Macroeconomics to Microeconomics”. The University of Chicago Press on behalf of the Philosophy of Science Association Philosophy of Science, Vol. 51, No. 4 (Dec., 1984), pp. 573-594 Phelps, Edmund S. “The New Microeconomics in Inflation and Employment Theory”. The American Economic Review, Vol. 59, No. 2, Papers and Proceedings of the Eightyfirst Annual Meeting of the American Economic Association (May, 1969), pp. 147-160 Read More