Economics 3 demand and supply

Price
1.Prices are determined by the contrary forces of supply and demand.
2.The price mechanism, applies not only to the goods we buy and sell but also to wages, salaries and rent indeed all the factors of production. 3.Sometimes prices are controlled officially.
4. If the market is a large one , then there is a tendency for there to be a single price of goods of the same kind. Otherwise , the price is only arrived at after negotiation.
5.the social function of price: they reflect our values of what things are worth in relation to their relative scarcity or abundance.
6.the price mechanism does not always work perfectly of course. In monopoly situation the price may be determined by the producer or supplier.
Value
Economics is more concerned with changes in exchange value than with those in money value.
Demand –basic considerations
The law of demand states that for any particular commodity, the quantity demanded by buyers tends to increase as the price of the good decreases and to decrease as the price of the good increases, other things being equal.
Quantity demanded should not be confused with want or need. If the current price of your chosen model is too high for you, then your quantity demanded at that time and at that price is zero.
Quantity demanded
It is useful to consider the demand pattern of a single individual.
But economists are much more concerned with aggregate or market demand.
Market demand
Market demand for a consumer good is made up of the total of household demand; and it is the level of market demand which is one of the important determinants of price.
The factors which determine the volume of aggregate demand are:
1.population—its size, structure and rate of growth
2.the extent and distribution of the national income.
The actual size of the population is important but also is its composition.
The absolute level of national income is also an important factor, but more important still is the way in which wealth is distributed amongst the population. Taxes and subsidies are used by governments to influence the level of aggregate demand.
Market demand consists of the aggregation of all the individual demand schedules of the population.
Movements along the demand curve
The demand curve is negative – slop downwards from left to right, reflect the increased quantity demanded as prices fall.
Supply – basic considerations
The higher the price consumers are prepared to pay the greater will be the quantity supplied by firms.
The supply curves have a positive slop- that is supply is increased as price is increased and the typical supply curve therefore slope upwards from left to right.
Market equilibrium
Competition and experience will guide producers in determining what to produce and at what prices I should market its goods, but in the last resort market forces themselves determine prices in a free economy.
Freely determined market prices result when supply and demand are in equilibrium. All production will be sold at the equilibrium price.
If producers attempt to achieve a better price than the equilibrium price they will be left with unsold stocks as buyers hold back.
Economics 4

Changes in demand and supply
The quantities demanded and supplied vary with the price but changes in demand and supply are brought about by external factors.
Changes in demand
Changes in demand may occur for a number of reasons
1.a change in consumer incomes
2.changes in the prices of other goods
3.expectations regarding future prices
4.changes in taste and fashion
whenever any of these conditions occur, the demand curve shifts in direction.
If the demand increase in demand, the demand curve shifts upwards and to the right. It now intersects the supply curve at a new point of equilibrium.
Changes in consumer incomes
The level of consumer incomes is a very important influence on demand. The higher a person’s income the more likely he is to purchase a particular product and to do so in larger quantities.
Changes in the prices of other goods
Availability of substitute goods is an important factor in determining changes in demand.
1. some goods have substitutes, they are said to be in competitive demand. Such like that : an increase in the quantity demanded of tea and a decrease in the demand for coffee
2. Other goods are complements of each other. The consumption of complementary goods is represented by movements in the same direction. Such like that : a decrease in the quantity demanded of petrol will be accompanied by a decrease in the demand for tyres.
Changes in expectations
When consumers expect price changes to occur in the near future the demand shall change, such shift in demand is likely to be only temporary.
Changes in taste and fashion
Advertising may play important part n influencing demand.
The conditions of demand
Demand varies in accordance with changes in conditions. As costs of production of many of today’s product have declined so there has been an increase in the demand for them.
The main determinants of changes in demand are the micro-economic factors which affect individual consumers and households, and at the macro-economic level those which combined all these factors to affect the working of economy as a whole.
Normal , inferior , and Giffen goods
A number of goods are called inferior goods because, as our income rises we buy less of them.(bread and potatoes)
The demand curve for inferior goods slopes downwards from left to right in normal fashion.
A special kind of inferior goods exist in the case of Giffen goods. These goods are consumed in greater quantities the higher the price within a limited range of the demand curve. When people were very poor this tended to happen in the case of the most basic condition. On the demand curve, there is a part of regressive demand .
Changes in supply
We distinguish changes in supply from changes in the quantity supplied- shifts in supply in contrast to movements along the supply curve.
An increase in supply will be evidenced by a shift in the curve downwards while a decrease in supply will see the supply curve shift upwards.
The chief causes of changes in supply are as follows:
1. changes in production costs
2. .changes in expectations
3. changes in the prices of other goods
changes in production costs
an important cause of cost reductions is new technology.
Economics 5 Elasticity of demand

The sensitivity elasticity of demand is referred to in economics as price elasticity of demand.
Price elasticity of demand
If we increase prices and achieve an increase in total revenue this would suggest that over the price range in question demand in inelastic.
If a reduction in price led to an increase in total revenue, we would describe demand as price elastic.
Inelastic demand
An increase in the price from &1to &2 has very little effect upon the quantity demanded and as a result the substantial increase in price is almost matched by revenue.
Generally speaking steep demand curves are inelastic.
Elastic demand
Each increase in price leads to a fall in total revenue or to put it the other way round, every reduction in price result in an increase in total revenue. Hence demand is elastic.
Measuring elasticity
When demand is elastic, total revenue changes in the opposite direction to the change in price. On the other hand, demand is inelastic, a change in price is followed by a change in total revenue in the same direction.
Most demand curves will be partly elastic and partly inelastic.
We conclude that demand is elastic or inelastic over a special range of price.
Point elasticity of demand
We can measure elasticity at a particular point on the curve by means of the formula:
price elasticity of demand =%change in quantity demanded / %change in price
elasticity=0 infinitely inelastic
elasticity less than 1 inelastic demand
elasticity=1 unitary elasticity*
elasticity more than 1 elastic demand
elasticity=infinity infinitely elastic
*price elasticity is unitary when a change in price results in no change whatsoever in total revenue. I.e.where consumer demand corresponds exactly with the change in price.
Arc elasticity of demand
On the demand curve, from A to B the elasticity is 4, but from B to A the elasticity is 1.5. One way of getting over this problem is to measure instead the arc elasticity of demand.
Arc elasticity of demand is measured by the following formula:
(Change in quantity / average quantity ) / (change in price /average price)
On a straight line curve there is only one point where elasticity is unitary, at the central point on the curve.
Special cases of elasticity
1. where price elasticity of demand is zero, demand is absolutely inelastic (ed=0)
2. where price elasticity of demand is infinite, i.e. demand is absolutely elastic.(ed=α)
3. the case we have already touched on – where elasticity is always unitary.(ed=1)
Under conditions of perfect competition, it is possible to get something like absolutely elastic demand although only for a limited quantity of goods.
Unitary elasticity, when it does exist, usually only occurs in a ver small portion of the demand curve.
Determinants of elasticity
The chief factors which determine elasticity are
1. the degree of substitutability
2. the price of the good relative to income
The most important determinant is the extent to which substitutes are available for the good in question.
Ultimately consumer tastes are important in determining price elasticity of demand.
Why elasticity of demand is important
For most things, elasticity is diferent at each price level, and it is not possible to forecast any degree of certainty just how people will react to a change in price.
Income elasticity of demand
Income elasticity of demand = % change in quantity demanded / % change in real income
Cross elasticity of demand
Demand for some goods is closely related to the demand for others. Some goods we substitute others are complements. Cross elasticity of demand may be positive or negative. It is measured by the following formula:
Cross elasticity of demand = % change in quantity demanded of A / % change in price of B
In the case of substitutes, cross elasticity will be positive and may be greater or less than unity.
For complements, cross elasticity will be negative.
Economics 6 utility and consumer behavior

The theory of demand is based very much on the idea that as we increase our utility by purchasing successive units of products so each additional unit purchased actually yields less utility than the previous one.
Total utility is increased while marginal utility decreases. After a certain time, total utility may actually decline. From this point onwards marginal utility becomes negative.
Marginal and total utility
Total utility is the cumulative measure of satisfaction we receive from a certain economic good.
Marginal utility is the satisfaction received from the last unit consumed.
Consumer equilibrium
Equilibrium is achieved when we obtain an equal degree of satisfaction from the last dollar spent on product A as from that spent on product B and indeed on every other economic good besides. This idea is expressed by means of the following equation: (marginal utility of A / price of A) = (marginal utility of B / price of B) = etc
The water – diamond “paradox”
The total utility of water certainly exceeds that of diamonds but because we consume so much water the marginal utility of the last unit consumed is very low. Diamonds, on the other hang, because they are rare, have a very high marginal utility.
Utility and exchange
Individuals will have different marginal utility schedules and may face different prices for commodities in the areas in which they live. If consumers exchange, the total utility will be increased.
The individual’s demand pattern
If we assume the price of the commodity to change, this will disturb the equilibrium position, resulting in a change in the quantity demanded and a new equilibrium position.
Income and substitution effects under marginal utility approach
The movement from one point of consumer equilibrium to another can normally be broken down into a income and a substitution effect.
When the price of a commodity rises, the quantity demanded falls and the consumer’s real income falls too. The income effect then reinforces the substitution effect.
Indifference curve approach
This is the other approach to analyze consumer behaviour.
What the household does is determined by both what it can do and what it wants to do, i.e. budget (expressed by its budget line) and tastes.(expressed by its indifference curves).
Budget line
It indicates all the combinations of commodities available to the household if it spends a fixed amount of money, in this case all its income, at fixed prices of the commodities.
An indifference curve
An indifference curve is the locus of different combinations of two goods which yield the same utility or satisfaction for the consumer.
The higher on the indifference curve, the more the satisfaction to the consumer.
The indifference curves are negatively-sloped, i.e. convex凸面 to the origin.
It means the amount of one commodity that a consumer would be prepared to give up in order to get one more unit of another commodity, leaving the consumer the same level of utility. It is called marginal rate of substitution (MRS).
Indifference curves can only tell the consumer’s preferences for the two goods, but it cannot tell us which combinations will be chosen.
If indifference curve and budget line in the same diagram, the intersection is the consumer equilibrium.
Income and substitution effects under indifference curve approach
Substitution effect
As the price of food falls, it becomes relatively cheaper and clothing becomes relatively expensive. The consumer is therefore induced to substitute food for clothing.
Income effect
As the price of food falls, the consumer is better off because of the increase in his real income. He may buy more food, or use extra income to buy clothing.
Pay attention to the graphical effect. A1 to A2 to A3.on page 63.
Normal, inferior and Giffen Goods
Inferior goods: A1 to A2 is substitution effect; A2 to A3 is the negative income effect. A1 is more than A3, A3 is more than A2.
Giffen goods: if he buy less, and the income effect is actually bigger than the substitution effect and the over effect of price fall is a decrease in consumption, then the good is called Giffen goods. A3 is less than A1, A1 is less than A2.
Pay attention to the graphical effect, on page 64
Allocative efficiency
Allocative efficiency refers to the representation of society’s preferences within the constraints of technical efficiency.
On the indifference curve, any combination of X and Y results in an equal level of total satisfaction: thus there is indifference in utility terms between points A. B. C.(all on the indifference curve).
With technological advance, the production possibility curve would shift to the right, facilitating greater total combinations of X and Y.Economics 7 production and specialization

What is production
Production to the economist means the creation of goods and services to satisfy wants. Production includes any activity for which we individually, or society in general , are prepared to pay.
Production – a combination factors
Production depends on a combination of the various factors of production – land, labor, capital and the entrepreneur.
Direct and indirect production
If a person works only to satisfy his own and his family’s wants he is said to engage in direct production.
If we receive a wage or salary and we use this money freely on those goods and services which satisfy our needs. In advanced economies, therefore, economic activity based upon indirect production
Types of production
Indirect production can be conveniently divided into three groups – primary, secondary and tertiary production.
Primary production are: agriculture, forestry, fishing, mining, quarrying or oil drilling.
Secondary production encompasses the vast range of practical trades and the whole of manufacturing industry. It is wholly dependent on tractor production , i.e. dependent for their existence on primary products.
Tertiary production includes:
1. traders – wholesale and retail; importer and exporters.
2. Transport and communications – road , rail ,and air networks, postal and telecommunications services.
3. Financial – banks , insurance companies, accountants, etc.
4. Social – police, medicine, education etc.
Division of labor
The chief feature of the division of labor , as observed by Adam Smith, include:
1. each worker is used to optimum advantage.
2. Economic use of tools
3. Repetitive processes
Out of these principal features, beneficial to the division of labor – there arise several other obvious advantages.
4. it reduces costs per unit which leads to – greater profit for the manufacturer and higher wages and/or increased leisure time for the workforce.
5. Quicker production releases labor and other resources for other industries which improve the national output.
6. More effective estimation and measurement of costs.

Division of labor – the disadvantages
Disadvantages to labor
1. Many factory and office jobs are dull and repetitive.
2. Standardised production leads to (a)decline of craftsmanship(手工技艺) causing dissatisfaction (b) high productivity leading to redundancies （多余重复）and unemployment
3. Resulting from all of these disadvantages labor relations can suffer
Disadvantages to the firm
1. Poorer labor relations caused by the problems enumerated(列举) above
2. Inflexibility on the part of the workers and a greater need for retraining （再教育）and replacement
3. Inter-dependence within the factory, the firm or the industry leading to bottlenecks in production.
Specialization and mass production
Smith noted that workers, tools and machines could all be highly specialised. So too are the factors of production.
Land may be highly valued because of the mineral wealth it contains or because of its special position test to the location.
Entrepreneur is also a specialist.
Intra– firm specialization
Within the firm specialization may take place at different plants or factories.
Inter- firm specialization
With the growth of industry, and its subsequent localization i.e. its concentration within a particular geographical area, firms themselves, become specialised.
International specialization
Natural advantages such as climate and the possession of raw materials make certain areas of the world naturally specialised. Each country can specialise by producing those goods in which it has the greater comparative advantage over other countries.
Limitations on specialization
There are three major limits on specialization or the division of labor; technological, monetary and those associated with the size of the market.
The making of a vastly more complex object might only involve a few process but might be even more efficient if the processes were subdivided further. So the specialization of labor is not very important today.
Thus the most natural constraint upon specialization is the technological one.
If the monetary system is weak because people fear devaluation, then people will trust in goods rather than money. A sound monetary system is a prerequisite of specialization.
It is the size of the market which determines how far specialization can become possible. The market for a product can increase in 5 ways:
1. by a increase in population either by natural means or by immigration.
2. Improved communications
3. Increased incomes
4. Changes in consumer tastes
5. Changes in political boundaries.
Economics 8 The firm –types of business unit