Transportation Economic Course

Budi Yulianto, ST, MSc, PhD

Civil Engineering Department

University of Sebelas Maret

Indonesia

Demand, Supply and Equilibrium

Introduction
There are a number of reason that people and goods move from one place to another. This movement is possible because transportation systems, including their network (roads, streets, rail lines, etc). In this chapter, will discuss the interaction between: - transportation demand (e.g. the desire to make trips, with the ability to pay for it) and - transportation supply (e.g. the availability of traffic lanes to make the trips).

Introduction
Economics is the study of how people and society end up choosing, with or without the use of money, to employ scarce productive resources that could have alternative uses to produce various commodities and distribute them for consumption, now and future, among various persons and groups in society. It analyses the costs and benefits of improving patterns of resources allocation (Samuelson, 1976).
Ekonomi adalah studi tentang bagaimana manusia dan masyarakat yang pada akhirnya memilih, dengan atau tanpa mengunakan uang, untuk menggunakan sumber daya produktif yang langka yang dapat memiliki kegunaan alternatif untuk memproduksi berbagai komoditas dan mendistribusikannya untuk konsumsi, sekarang dan masa depan, di antara berbagai orang dan kelompok dalam masyarakat. Ekonomi menganalisis biaya dan manfaat dari memperbaiki pola alokasi sumber daya.

Introduction
Economics can be divided into 2 main streams: - microeconomics (small scale) it deals with the economic behaviour of individual units such as consumers, firms and resource owners. - macroeconomics (large scale national-international, of wealth of society) it deals with the behaviour of economic aggregates such as Gross National Product, the level of employment (Mitchell, 1980) Planning, designing, constructing, operating, and maintaining transportation facilities represent annual commitments of hundreds of billions of $s, yet engineers, planners, and policy analysts who are responsible for transportation work often have little or no formal training education in economics.

Introduction
This presentation discuss:
the basic concepts of demand, supply and equilibrium functions that are fundamental to understanding, designing, and managing transportation systems.

Transportation Demand
In general, the demand for goods and services depends largely on consumers income and the price of the particular good or service relative to other price. For example: o The demand for travel depends on the income of the traveler. The choice of the travel mode depends on several factors, such as the purpose of the trip, the distance traveled, and the income of the traveler (Stubbs et al, 1980).

Transportation Demand
A demand function for a particular product represent the willingness of consumer to purchase the product at alternative prices. A demand function shows, a number of passengers willing to use a commuter train at different price levels between a pair of origins and destinations, for a specific trip, during a given period. The term price stands for all outlays perceived by the traveler for a given trip. For example, the price for trip could be the fare; travel time (access, waiting, and in-vehicle time; comfort; safety; convenience; reliability; and several tangible and intangible factors.

Transportation Demand
A linear demand function or travel for a given pair of origin and destination points, at specific time of day and for a particular purpose is: q = a - bp q is the quantity of trips demanded, p = price a and b are constant demand parameters. The demand function is drawn with a negative slope expressing a familiar situation where a decrease in perceived price usually results in an increase in travel.
Price, p

Demand Function
B A

pB

pA

qB qA

Quantity, q

Determinants of Household Demand

A households decision about the quantity of a particular output to demand depends on:
The price of the product in question. The income available to the household. The households amount of accumulated

wealth. The households tastes and preferences. The households expectations about future income, wealth, and prices.

Quantity Demanded
Quantity demanded is the amount

(number of units) of a product that a household would buy in a given time period if it could buy all it wanted at the current market price.

Demand in Output Markets

ANNA'S DEMAND SCHEDULE FOR TELEPHONE CALLS
PRICE (PER CALL) $ 0 0.50 3.50 7.00 10.00 15.00 QUANTITY DEMANDED (CALLS PER MONTH) 30 25 7 3 1 0

A demand schedule is a table showing how much of a given product a household would be willing to buy at different prices. Demand curves are usually derived from demand schedules.

The Demand Curve

ANNA'S DEMAND SCHEDULE FOR TELEPHONE CALLS
PRICE (PER CALL) $ 0 0.50 3.50 7.00 10.00 15.00 QUANTITY DEMANDED (CALLS PER MONTH) 30 25 7 3 1 0

The demand curve is a graph illustrating how much of a given product a household would be willing to buy at different prices.

The Law of Demand

The law of demand states that there is a negative, or inverse, relationship between price and the quantity of a good demanded and its price. This means that demand curves slope downward.

Other Properties of Demand Curves

Demand curves intersect the quantity (X)-axis, as a result of time limitations and diminishing marginal utility. Demand curves intersect the (Y)-axis, as a result of limited incomes and wealth.

Income and Wealth

Income is the sum of all households wages, salaries, profits, interest payments, rents, and other forms of earnings in a given period of time. It is a flow measure. Wealth, or net worth, is the total value of what a household owns minus what it owes. It is a stock measure.

Related Goods and Services

Normal Goods are goods for which demand goes up when income is higher and for which demand goes down when income is lower. Inferior Goods are goods for which demand falls when income rises.

Related Goods and Services

Substitutes are goods that can serve as replacements for one another; when the price of one increases, demand for the other goes up. Perfect substitutes are identical products. Complements are goods that go together; a decrease in the price of one results in an increase in demand for the other, and vice versa.

Shift of Demand Versus Movement Along a Demand Curve

A change in demand is not the same as a change in quantity demanded.
In this example, a higher price causes lower quantity demanded. Changes in determinants of demand, other than price, cause a change in demand, or a shift of the entire demand curve, from DA to DB.

A Change in Demand Versus a Change in Quantity Demanded

When demand shifts to the right, demand increases. This causes quantity demanded to be greater than it was prior to the shift, for each and every price level.

A Change in Demand Versus a Change in Quantity Demanded

To summarize:

Change in price of a good or service leads to

Change in quantity demanded (Movement along the curve). Change in income, preferences, or prices of other goods or services leads to Change in demand (Shift of curve).

The Impact of a Change in Income

Higher income decreases the demand for an inferior good Higher income increases the demand for a normal good

The Impact of a Change in the Price of Related Goods

Demand for complement good (ketchup) shifts left

Demand for substitute good (chicken) shifts right

Price of hamburger rises Quantity of hamburger demanded falls

From Household to Market Demand

Demand for a good or service can be defined for an individual household, or for a group of households that make up a market. Market demand is the sum of all the quantities of a good or service demanded per period by all the households buying in the market for that good or service.

From Household Demand to Market Demand

Assuming there are only two households in the market, market demand is derived as follows:

Supply in Output Markets

CLARENCE BROWN'S SUPPLY SCHEDULE FOR SOYBEANS
QUANTITY SUPPLIED (THOUSANDS OF BUSHELS PER YEAR) 0 10 20 30 45 45

A supply schedule is a table showing how much of a product firms will supply at different prices. Quantity supplied represents the number of units of a product that a firm would be willing and able to offer for sale at a particular price during a given time period.

PRICE (PER BUSHEL) $ 2 1.75 2.25 3.00 4.00 5.00

The Supply Curve and the Supply Schedule

A supply curve is a graph illustrating how much of a product a firm will supply at different prices.
Price of soybeans per bushel ($)

CLARENCE BROWN'S SUPPLY SCHEDULE FOR SOYBEANS

QUANTITY SUPPLIED (THOUSANDS OF BUSHELS PER YEAR) 0 10 20 30 45 45

6 5 4 3 2 1 0 0 10 20 30 40 50
Thousands of bushels of soybeans produced per year

PRICE (PER BUSHEL) $ 2 1.75 2.25 3.00 4.00 5.00

The Law of Supply

6 5 4 3 2 1 0 0 10 20 30 40 50
Thousands of bushels of soybeans produced per year

The law of supply states that there is a positive relationship between price and quantity of a good supplied. This means that supply curves typically have a positive slope.

Price of soybeans per bushel ($)

Determinants of Supply
The price of the good or service. The cost of producing the good, which in turn depends on:

The price of required inputs (labor, capital, and land), The technologies that can be used to produce the product,
The prices of related products.

A Change in Supply Versus a Change in Quantity Supplied

A change in supply is not the same as a change in quantity supplied.

In this example, a higher price causes higher quantity supplied, and a move along the demand curve.
In this example, changes in determinants of supply, other than price, cause an increase in supply, or a shift of the entire supply curve, from SA to SB.

A Change in Supply Versus a Change in Quantity Supplied

When supply shifts to the right, supply increases. This causes quantity supplied to be greater than it was prior to the shift, for each and every price level.

A Change in Supply Versus a Change in Quantity Supplied

To summarize:

Change in price of a good or service leads to

Change in quantity supplied (Movement along the curve). Change in costs, input prices, technology, or prices of related goods and services leads to Change in supply (Shift of curve).

From Individual Supply to Market Supply

The supply of a good or service can be defined for an individual firm, or for a group of firms that make up a market or an industry. Market supply is the sum of all the quantities of a good or service supplied per period by all the firms selling in the market for that good or service.

Market Supply
As with market demand, market supply is the horizontal summation of individual firms supply curves.

Market Equilibrium
The operation of the market depends on the interaction between buyers and sellers. An equilibrium is the condition that exists when quantity supplied and quantity demanded are equal. At equilibrium, there is no tendency for the market price to change.

Market Equilibrium
Only in equilibrium is quantity supplied equal to quantity demanded. At any price level other than P0, the wishes of buyers and sellers do not coincide.

Market Disequilibria
Excess demand, or shortage, is the condition that exists when quantity demanded exceeds quantity supplied at the current price. When quantity demanded exceeds quantity supplied, price tends to rise until equilibrium is restored.

Market Disequilibria
Excess supply, or surplus, is the condition that exists when quantity supplied exceeds quantity demanded at the current price.

When quantity supplied exceeds quantity demanded, price tends to fall until equilibrium is restored.

Increases in Demand and Supply

Higher demand leads to Higher supply leads to higher equilibrium price and lower equilibrium price and higher equilibrium quantity. higher equilibrium quantity.

Decreases in Demand and Supply

Lower demand leads to lower price and lower quantity exchanged.

Lower supply leads to higher price and lower quantity exchanged.

Relative Magnitudes of Change

The relative magnitudes of change in supply and demand determine the outcome of market equilibrium.

Relative Magnitudes of Change

When supply and demand both increase, quantity will increase, but price may go up or down.

Example 1
The travel time on a stretch of a highway lane connecting two activity centres has been observed to follow the equation representing the service function: t = 15 + 0.02*v Where t and v are measured in minutes and vehicle per hour, respectively. The demand function for travel connecting the two activity centres is v = 4000 120*t

Sketch these two equations and determine the equilibrium time and speed of travel. If the length of the highway lane is 20 miles. What is the average speed of vehicles traversing this length?

Solution Example1
t (min)

t = 15 + 0.02*v
(647, 27.94)

Service function : t = 15 + 0.02*v

Demand Function : v = 4000 120*t

25

15

v = 4000 120*t
2000 4000 v (vph)

Therefore:

v = 647 vehicles/hour
t = 27.94 minutes

Speed = (20 * 60) / 27.94 = 42.95 mph

Example 2
An airline company has determined the price of seat on a particular route to be p = 200 + 0.02*n The demand for this route by air has been found to be n = 5000 20*p

Where p is the price in $, and n is the number of seats sold per day.
Determine the equilibrium price charged and the number of seat sold per day.

Solution Example 2
The functions: p = 200 + 0.02*n n = 5000 20*p These two equations yield p = $214.28 and n = 714 seats. Discussion: The logic of the two equations appears reasonable. If the price of an airline ticket rises, the demand would naturally fall.

Transportation Demand, Supply, and Equilibrium

Trips are made between 2 towns A and B over a narrow, 2 lanes, unpaved road, which presently is 5 km in length.
A
Unit cost (# / trip)

B Travel demand curve

30

The unit price gets higher, there will be fewer trips made over the road

20

17.5

14.0
10

Negative slope in the demand curve!car

100 140 180

200

300

400

Quantity (vehicle trip / day)

Customer Surplus
Unit cost (# / trip)

Some people willing to pay > #14. For instance #17.5. As consequence, there is surplus which accrues to people willing to pay more (#17.5-#14) = #3.5; they can use this money to use for other purposes saving, investment, etc. This CS can be thought of as a benefit arising from tripmaking and summation of these benefits for all trips made give total benefits on daily trips made by users= 0.5 (#30-#14)*(180-0) = #1440 per day

Travel demand curve

30

20

17.5 14.0 10

100 140 180

200

300

400

Quantity (vehicle trip / day)

Supply or Marginal Cost Curve

Element of cost associated with each trip driven on the road:
Unit cost (# / trip) 30

Supply curve

1st of these costs might be for tax payments on fuel, tires, etc..This would increase somewhat with the number of daily trips made on highway, so that slightly rising line [C1]
In addition [1] is the unit vehicle operating and maintenance costs.

20
[3] Time
[2]

10

Vehicle operation, maintenance

[1] Tax payments

100

200

300

400

A reasonable assumption would be that these would rise somewhat with increase in travel volumes since more delays, idling of engines, longer time on the road (more fuel consumption), greater expenses for driver time, etcThese costs + [C1] = [C2].

Quantity (vehicle trip / day)

Travel time costs increase sharply with volume as congestion on the road slows traffic and increases the time for each trip. The sum total 3 unit prices, calculated for each daily trip making level, is represented by [C3].

Equilibrium
Unit cost (# / trip)

Demand curve
30

Supply curve

20 12.5

Equilibrium point

Total benefit on daily trips made by users

0.5 (30-12.5) *(197-0) = #1724

10

100 197

200

300

400

Quantity (vehicle trip / day)

No amount of trips > 197 will be made since, after a period time, some people will find that the price of making the additional trips is > than they are willing to pay (the supply curve lies above the demand curve). No amount of trips < 197 will be made since, after a period of time, some people will realise that the price of making a trip is < that which they are willing to pay (the supply curve lies below the demand curve). Thus, additional trips will be made until the unit price equals that which the travellers are willing to pay (# 12.5).

Demand Curve Shifted

The demand and supply concepts can be enlarged to take into account the consequences both of changes in the schedule of demand and proposals for possible alternative improvement to the road. 40 In cases where the overall income levels have been rising, and these increases usually lead to corresponding increases in the willingness of people to pay for certain good or services this phenomenon is referred to as a shift.
Unit cost (# / trip) 30
Old demand curve Supply curve

20 17.6 12.5 10

15.0

New demand curve

100 197

200 256 227

300

400

Quantity (vehicle trip / day)

Equilibrium New Demand Curve

Unit cost (# / trip)

New equilibrium point (227,#15.0). Both the amount of money paid for travel and the number of trips increases: #12.5 #15.0 197 227

40 30
Old demand curve Supply curve

20 17.6 12.5 10

15.0

New demand curve

100

200 256

300

400

This situation implies that rising economies levels lead to increases in travel and explain to some extent why some roads are used to their capacity long before expected.

197
227

Quantity (vehicle trip / day)

Supply Curve Shifted

Unit cost (# / trip)

New road will be an improvement over the old road, in that it will be straighter, will have better road geometry and surface. This cause, the new road will lead to a reduction in both the operating and travel time costs that help to make up the shortrun supply curve. The price would be lower primarily because of decrease in motor fuel needs brought about by strengthening of horizontal curve, smoothing vertical curve, higher capacity route between A and B.

40 30
Travel demand curve Supply curve present road

20 12.5 10 7

Supply curve proposed road

100
197

200

300

400

Quantity (vehicle trip / day) 259

Travel cost reduction increase trip making New equilibrium point (259,#7) Cost reduce: #12.5 #7 Number of trips increase: 197 259

Equilibrium New DS Curves

Unit cost (# / trip) 40 30
New demand curve Old demand curve Supply curve present road

20

Supply curve proposed road

15.0 10 8.3

100

200

300

400

Quantity (vehicle trip / day) 227 302

Equilibrium point: new demand & supply curves (302, #8.3) present road with new demand (227,#15.0)

Benefits from each Scheme

Unit cost (# / trip) 40 30
New demand curve Old demand curve Supply curve present road

Total benefit on daily trips made by users (for present road and new demand). 0.5*(35.16-15.0)*(227-0) = #2288 per day Total benefit on daily trips made by users (for proposed road and new demand).

20

Supply curve proposed road

15.0

10 8.3

0.5*(35.16-8.3)*(300-0) = #4051 per day

0 100 200 300 400 Quantity (vehicle trip / day) 227 302

The increase in future benefits attributed to the new highway

#4051 - #2288= #1763 per day

To be continued.

Sensitivity of Travel Demand Elasticities