Economic Supply and Demand - Example

Name Course Institution Instructor Submission Date Demand and supply are two forces of the market that dictate exchange of goods and services. The prices of the goods in the market are dependent on these two factors. The idea of demand and supply has been used by economists to explain the periodical price changes in various commodities. Through the creation of a relationship between prices of commodities and their availability in the market, they have been successful in explaining the nature of markets. The model of demand and supply is the most used model in explaining nature of markets worldwide (Struck, 2008 P.3). Perhaps, the best way to understand this model depicting the relationship between prices and availability of commodities in the market is by defining demand and supply. Adil (2006 P.4) defines demand as the number of people willing and able to buy certain goods and services at a certain price while supply is the amount of goods and services available in the market and, sellers are willing and able to sell at different prices. The theory of economics presumes that demand consists of two factors; taste and ability to buy (Msefer & Whelan, 1996 P.6). A person desiring to buy a commodity does not necessarily mean that he or she has a demand for it. Willingness and ability should be the point of concern (Carbaugh, 2010 P. 30). Willingness to purchase is determined by the taste and preference of a buyer. (Msefer & Whelan, 1996 P.6). In the same way, for supply the sellers should be willing and able to sell. Demand and supply can be termed as schedules because they are time dependent. When studying the relationship between commodity price and quantity in the market, all other factors affecting the buyer are held constant (Carbaugh, 2010 P. 30). These two forces of the market vary depending on a number of factors such as the price of commodity itself and that of other related commodities. When supply is big, this implies that a buyer can choose from a variety of available goods in the market. When supply is minimal, this implies that buyers are limited on the choices to choose from. Demand schedule can be represented graphically by what has been termed as a demand curve and it depicts a relationship between the cost of a commodity and quantity required by people. The price of a commodity and the quantity being demanded are inversely related (Struck, 2008 P.3). This is termed as the law of demand. This law posits that assuming that all factors affecting the amount of goods being demanded are kept constant, when the price of a commodity is higher, the demand decreases (Carbaugh, 2010 P. 30). For example, a company selling automobiles realizes that it is overstocked and decides to lower the price of each automobile in order to increase the number of buyers. The same thing happens when the price of a commodity is maintained while the quantity is suddenly increased. Sales are seen to rise considerably because of the reduction of price per ounce. This depicts the law of demand. Demand curve is therefore dependent on the law of demand. A simple demand curve representing the relationship between quantities demanded and price of the commodity is as shown below. Demand of a certain commodity in the market is affected by several factors; price of the product, prices of other related goods, income of the consumers, expected future price changes, tastes and the number of consumers (Carbaugh, 2010 P. 30). All these factors are presumed to be constant by a demand a curve. Supply refers to a schedule that relates the cost of a commodity and its quantity in the market. A supply curve is a graphical representation of a supply schedule. Supply schedule is dependent on the basic idea that when the cost of a commodity is high, more producers are willing to supply them. Therefore, a direct correlation exists between the price of a good and amount supplied and it is referred to as the law of supply. This implies that an increase in price will result to a corresponding increase in the willingness and ability of the suppliers to offer more goods. When defining this law, all other factors affecting supply are presumed constant. Plotting the values of price of the commodity against the quantity supplied will result to an upward sloping curve. The expected supply curve will be as shown below. Just like the demand, supply consists of two factors; willingness and ability of the seller (Msefer & Whelan, 1996 P.8). The amount of goods or services to be sold by suppliers is dependent on several factors; price of the commodity, prices of the resources used to manufacture the product, technological innovations, price of other related goods, future price expectations and the number of suppliers at that particular time. Changes do occur when other factors presumed to be constant in both demand and supply curve shift. When these factors change, they will result to either outward to the right or backward to the left shift in both supply and demand curve (Carbaugh, 2010 P. 37). There are various factors that can cause a shift in demand of a commodity. For example the future price expectations. If it is expected that the price will increase in future then more will be demanded now. For example, there will be an increase in demand of petroleum if the producing country is to undergo an activity that can cause instability such as voting which is likely to reduce oil production. Buyers will buy more because they expect the price of a liter of petrol to rise in future. The demand curve will therefore shift towards the right D1. If it is expected that the price of a commodity will reduce in future, then buyers will opt to delay and reduce their purchases now. The demand curve will therefore shift towards the left D2. Therefore, if an event increases the demand for a commodity, the demand curve will shift outward and to the right while an event leading to a decrease in demand will result to the demand curve shifting inwards and to the left (Wessels, 2006 P. 56). Other factors that can lead to shift in demand include; changes in prices of related goods, changes in income and changes in tastes and preferences. These factors can lead to shift in demand curve either outwards or inwards. In the same way as demand shifts, supply curve shifts as a result of changes in other factors besides changes price. An example of a factor that can cause shift in supply curve is the technological changes. When technology improves, more goods will be produced therefore leading to the shift in supply curve to the right. A new technology that is used in the manufacture of mobile phones will increase the production of the same. Therefore, there is a possibility of increase in supply. Similarly, in the year 1990 Iraq invaded Kuwait which is the main supplier of oil. There was a high anticipation that oil prices will rise as a result. Oil companies responded by withholding their stock and oil supply reduced. As a result, there was a shift in supply curve towards the left. Other factors that can cause a shift in supply are; changes in prices of other related goods, weather and climate, changes in costs of production and government influences. Demand and supply can interact to a point where it can be said that market equilibrium has been achieved. Market equilibrium is an interaction of price and quantity to a point where the plans of the sellers and buyers are matching (Carbaugh, 2010 P. 41). At equilibrium level, the amount of supply will be equal to quantity demanded; This can be determined graphically by plotting both the supply curve and demand curve on the same axis. The point of intersection of the supply curve and demand curve gives the equilibrium price of a commodity and the equilibrium quantity (Taylor & Weerapana, 2009 P 70). A shift in the demand curve has a lot of effects in the equilibrium price of a commodity. For example, increase in demand for a commodity will lead to a demand curve shift to the right. As a result, the equilibrium price and quantity rise (Taylor & Weerapana, 2009 P 72). On the other hand, a decrease in demand will lead to a leftward shift in the demand curve which in turn leads to a drop in both equilibrium price and quantity (Taylor & Weerapana, 2009 P 72). In the same way as demand curve does, a supply curve also has effects on the equilibrium price and quantity. An increase in supply will result to a drop in the equilibrium price and a rise in equilibrium quantity while a decrease in supply will lead to an increase in equilibrium price and a drop in equilibrium quantity (Carbaugh, 2010 P. 41). Much needs to be done when it comes to analysis of the relationship between variables such as in the case of law of demand and supply. For example an increase in price of a commodity leading to a drop in its demand ought to be analyzed in terms of how the buyers respond to price changes. It is quite important to check the sensitivity of buyers and sellers to changes in price because they are usually used in evaluating taxation effects on the consumers (Cordes, Ebel & Gravelle, 2005 P. 102). The degree of responsiveness of one variable to another is termed as elasticity. Demand elasticity is the measure of degree at which the quantities of a commodity are demanded relative to price changes (Cordes, Ebel & Gravelle, 2005 P. 102). Similarly, Boyes & Melvin, (2010: 428) defines price elasticity as the measure of responsiveness of consumers to price changes. Demand elasticity can also be termed as price elasticity of demand. The simplest and quickest way of determining elasticity in demand is by looking at the slope of the graph. A demand curve that is less steep indicates a very high degree of responsiveness. A horizontal demand curve is an indication of perfectly elastic condition between the two variables while a vertical demand curve is perfectly inelastic condition between the two variables. A twenty percent reduction in the price of coca cola causing a forty percent increase in sales indicates an elastic condition; However, a fifteen percent increase in the cost of pepsi causing a five percent decrease in sales indicates an inelastic condition; Despite the fact that the slope of the demand curve can be used to determine elasticity of demand, it is not effective due to the fact that it does not interpret the significance of both quantities. Therefore, price elasticity of demand can be calculated alternatively by dividing the percentage change in the amount of goods demanded by the percentage change in price. Therefore; References Adil, J. R. (2006). Supply and Demand. Minnesota: Capstone. Boyes, W. J. & Melvin, M. (2010). Economics (ed 8). New York: Cengage Learning. Carbaugh, R. J. (2010). Contemporary Economics: An Applications Approach (ed 6). New York: M.E. Sharpe. Cordes, J. J., Ebel, R. D. & Gravelle, J. G. (2005). The Encyclopedia of Taxation and Tax Policy (ed 2). Washington: The Urban Insitute. Msefer, K & Whelan, J. (1996). Economic Supply and Demand. Cambridge: MIT press. Struck, H. (2008).Demand and supply. Munich: GRIN Verlag. Taylor, J. B. & Weerapana, A. (2009). Principles of Microeconomics: Global Financial Crisis Edition (ed 6). New York: Cengage Learning. Wessels, W. J. (2006). Economics (ed 4). New York: Barron's Educational Series. Read More