Principle of Microeconomics

Deep diving on Demand and supply PT2/Week 4

Dr Davide Contu
Davide.contu@cud.ac.ae
 Learning outcomes for today’s class

•Understand reasons of shift in demand

•Understand reasons of shift in supply
•Introduction to price ceiling/floor
•Understand the meaning of elasticity
•Understand how to compute elasticity

This information is confidential and was prepared by Bain & Company solely for training purposes; it is not to be relied on by any 3rd party without Bain's prior written consent. 2
 The Demand & Supply Model

Price S Equilibrium:
Demand=Supply

Equilibrium:
Price seller
accepts/buyer is WTP

Quantity
Equilibrium:
Quantity
demanded/sold

This information is confidential and was prepared by Bain & Company solely for training purposes; it is not to be relied on by any 3rd party without Bain's prior written consent. 3
 Shifts in the Demand Curve

When? Any change

that raises the quantity
Price
buyers are WTP for a
given price

Upward/Right shift:
Increase in demand

Downward/Left shift:
Reduction in demand

D’
D’’ D

When? Any change Quantity

that reduces the
quantity buyers are
WTP for a given price
This information is confidential and was prepared by Bain & Company solely for training purposes; it is not to be relied on by any 3rd party without Bain's prior written consent. 4
 Shifts in the Demand Curve: examples?

Demand can shift due to variations in:

• Income

• Price of related goods

• Tastes

• Expectations

• Number of buyers

A shift in demand leads to equilibrium change,

all else equal

This information is confidential and was prepared by Bain & Company solely for training purposes; it is not to be relied on by any 3rd party without Bain's prior written consent. 5
 Shifts in the Supply Curve: examples?

Supply can shift due to variations in:

• Input prices

• Technology

• Expectations

• Natural factors

• Number of sellers

A shift in supply leads to equilibrium change,

all else equal

This information is confidential and was prepared by Bain & Company solely for training purposes; it is not to be relied on by any 3rd party without Bain's prior written consent. 6
 Curves are formally represented by functions
Supply: Linear function,
positive slope

(Example: P=5+2Q)

Price S

Demand: Linear function,

negative slope

(Example: P=50-2Q)

Equilibrium:
Price seller
accepts/buyer is WTP

Quantity
Equilibrium:
Quantity
demanded/sold

Note: Available in MyCUD a video to show you step by step how to draw a curve starting from the function.

This information is confidential and was prepared by Bain & Company solely for training purposes; it is not to be relied on by any 3rd party without Bain's prior written consent. 7
 The Demand & Supply Model-Impact of imposed
prices (price ceiling and flooring)
If above equilibrium, no
impact

Price S

Equilibrium: If below equilibrium, it would

Price seller lead to shortage of supply
accepts/buyer is WTP

Quantity
Equilibrium:
Quantity
demanded/sold

This information is confidential and was prepared by Bain & Company solely for training purposes; it is not to be relied on by any 3rd party without Bain's prior written consent. 8
 What is the difference between these curves?

This information is confidential and was prepared by Bain & Company solely for training purposes; it is not to be relied on by any 3rd party without Bain's prior written consent. 9
 For a given price change, in which curve is quantity
variation more affected?

Price

D’

Quantity

This information is confidential and was prepared by Bain & Company solely for training purposes; it is not to be relied on by any 3rd party without Bain's prior written consent. 10
 For a given price change, in which curve is quantity
variation more affected? D’

Price

D’

Quantity

This information is confidential and was prepared by Bain & Company solely for training purposes; it is not to be relied on by any 3rd party without Bain's prior written consent. 11
 For a given price change, in which curve is quantity
variation more affected? D’

Price

D’

Quantity
Q changes more in D’
for the same change in
Price

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 When quantity changes more than proportionally, we
define the underline curve as elastic

D’ is an elastic demand
curve with respect to
price as quantity changes
more than proportionally
with respect to a change
in price.

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 What is the difference between these curves?

D Elastic D Inelastic

S Elastic S Inelastic

Note that in non-linear curves elasticity is not constant

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 How do we compute the price elasticity (of demand)?

•Consider the price and

quantity in correspondence of
2 points

•Compute the midpoint

•Apply the formula

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 How do we compute the price elasticity (of demand)?

•Why should we use the midpoint method?

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 How do we compute the price elasticity (of demand)?

•After I found the midpoints?

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 How do we compute the price elasticity (of demand)?

•How did you

get to 1?

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 More types of elasticities

Price elasticity of demand % change in Q(D)/% change in price

Price elasticity of Supply % change in Q(S)/% change in price

% change in Q(D) of good 1/

Cross-Price elasticity of Demand
% change in price of good 2

Income elasticity of Demand % change in Q(S)/% change in income

This information is confidential and was prepared by Bain & Company solely for training purposes; it is not to be relied on by any 3rd party without Bain's prior written consent. 19
 Learning outcomes for today’s class

•Understand reasons of shift in demand

•Understand reasons of shift in supply
•Introduction to price ceiling/floor
•Understand the meaning of elasticity
•Understand how to compute elasticity

This information is confidential and was prepared by Bain & Company solely for training purposes; it is not to be relied on by any 3rd party without Bain's prior written consent. 20