Chapter-2:

Market Forces: Demand and Supply

by Traheka Erdyas Bimanatya, M.Sc.

Managerial Economics | 14 February 2019

Outline
― Introduction
― Demand and Supply
▪ What makes demand and supply changes
▪ Consumer and Producer Welfares
▪ Comparative statics of market equilibrium
― Practice

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PART 1:
INTRODUCTION
It’s always about market

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DISCUSSION #1
WHAT IS MARKET?
Market is simply an aggregate of demand and supply from all
economic agents

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We can also have a more sophisticated model…

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Market can be classified based on several aspects …

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In economic model, this is how market looks like …

Price Supply
Surplus Where:
𝑃𝐻
𝑄 𝑑 = 10 − 2𝑃
𝑄 𝑠 = 2 + 2𝑃
𝑃𝑒 Ceteris paribus
𝑃𝐿

Shortage
Demand

0 𝑄0 𝑄𝑒 𝑄1 280 Quantity
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What is economic model?

𝑄𝑑 = 𝐷(𝑃, 𝑌)

Endogenous Variable Exogenous Variables

▪ Having set of assumptions.

▪ Proving by empirical data.
▪ Giving us reliable yet simple explanation of economic phenomena.
.
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Q & A #1
ANY QUESTIONS UP TO THIS
POINT?
PART 2:
DEMAND AND SUPPLY
Movement along the curves and curve shifting
Price
From A to B is only caused by price

While from 𝐷 0 to 𝐷1 is caused by any

A Increase factors beyond the price
in
demand

Decrease
in B
demand

D1

D2 D0

0 Quantity
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What makes demand curve shifts

Income Prices of Consumer

related goods Expectations
Normal good (+) Substitutes good (+) Better buy now, than tomorrow
Inferior good (-) Complements good (-)

And other factors …

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What makes supply curve shifts

Input Prices Technology Number of Firms

Higher input prices will lead to More advanced technology More firms, more products,
less output produces more output more variety

And other factors …

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Consumer and Producer Welfare #1
Consumer Surplus
Price per
liter Consumer Surplus (CS)= WT.Pay - P
Consumer Surplus:
0.5($5 - $3)x(2-0) = $2
$5
Total Consumer Value:
0.5($5 - $3)x2+(3-0)(2-0) = $8
$4

$3 Expenditures:
$(3-0) x (2-0) = $6
$2

$1 Demand

0 1 2 3 4 5

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Consumer and Producer Welfare #2

Price 400 1 𝑆
𝑃𝑋 = + 𝑄𝑋 Supply Producer Surplus (PS)= P - WT.Prod
3 3
$400
Producer surplus

$400
3
0 800 Quantity

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What is comparative static analysis?

The study of the movement from one equilibrium to another.

Competitive markets will be analyzed when:

– Demand changes
– Supply changes
– Demand and supply simultaneously change

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Example of change in demand
Suppose that consumer incomes are projected to increase 2.5% and the number of individuals
over 25 years of age will reach an all time high by the end of next year. What is the impact on the
rental car market?

Price Supply

$49

$45
Demand1
Demand0
0 100 104 108 Quantity
(thousands
rented per day) Managerial Economics |19
Example of change in supply
Suppose that a bill before Congress would require all employers to provide health care to their
workers. What is the impact on retail markets?

Price Supply1

Supply0
𝑃1

𝑃0

Demand

0 𝑄1 𝑄0 Quantity
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Example of Simultaneous Shifts in Supply and Demand
Japan’s Sake Market
Suppose that simultaneously the
Price
Supply2 following events occur:
C
𝑃2 – An earthquake hit Kobe, Japan
Supply1 and decreased the supply of
fermented rice used to make
B Supply0
𝑃1
sake wine.
– The stress caused by the
earthquake led many to increase
A
their demand for sake, and other
𝑃0
Demand1 alcoholic beverages.
Demand0

0 𝑄2 𝑄0 𝑄1 Quantity

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Q & A #2:
ANY QUESTIONS UP TO THIS
POINT?
PART 3:
PRACTICE
Please solve question 4 and 5!

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Q & A #3:
ANY QUESTIONS UP TO THIS
POINT?
 THANK YOU
Traheka Erdyas Bimanatya, M.Sc. traheka.erdyas.b@ugm.ac.id

Traheka Erdyas Bimanatya