HECO - Supply %26 Demand.editedfinal

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Supply and Demand

Needs

Wants





Satisfy:

Needs

Wants

PROFITS

MARKETS

Demand Supply

Preference:

Low prices

Preference:

High price

Consumers Producers and Sellers



TERMS TO REMEMBER

1. Market ± a place where buyers and sellers interact and

engage in exchange

2.

Demand ± reflects the consumer¶s desire for acommodity

3. Supply ± the amount of a commodity available for sale

4. Aggregate demand ± the totality of a group of

consumer¶s demand

5. Aggregate supply ± the totality of a group of

producer¶s supply



TERMS TO REMEMBER

6. Demand Schedule ± the quantities consumers are

willing to buy of a good at various prices

7.

Supply schedule ± the quantities producers arewilling to offer for sale at various prices

8. Movement along the curve ± a change from one

point to another on the the same curve

9. Shift of the curve ± a change in the entire curvecaused by a change in the entire demand or supply

schedule

10. Equilibrium ± condition of balance or equality



TERMS TO REMEMBER

11. Nonprice factors ± also known as parameters, are

factors other than price that also affect demand or

supply12. Demand function ± shows how quantity demanded is

dependent on its determinants

13. Supply functions ± shows how quantity supplied is

dependent on its determinants

14. Price ceiling ± is minimum limit at which the price of

a commodity is set



TERMS TO REMEMBER

15. Price floor ± a minimum limit beyond which the price

of a commodity is not allowed to fall

16. Surplus ± an excess of supply over the demand for agood



The Law of Demand

� Law of Demand: A principle thatstates that there is an inverse

relationship between price of agood and the amount of it buyersare willing to purchase.

� An increase in costs - reduce the

likelihood that it will be chosen� Lower the price -stimulating

consumption of it



THE LAW OF DEMAND

³ The Demand For Medical Care Derived from the

Demand For Health´

2 Reasons: DEMAND FOR HEALTH

1. It is a consumption commodity ± it makes the

consumer feel better

2. It is an investment commodity ± state of health will

determine the amount of time available to the

consumer



Patients seeks

Consultation

with MD orAnother health

professional

MD decides

Which goods and

Services the

Patient needs;Ex. Drugs,

Hospitalization,

Surgery, laboratory

procedure

Patient

´consumesµ

And pays for

The goods

And services

To improve

health

Patient relies onMD for information

Healthcare Good or Services



Exhibit 1: THE LAW OF DEMAND

� As the Price of

Paracetamol fellduring the 1979-

1986, consumers

purchased more of them. Theconsumption level of

Paracetamol (otherproducts or services)

is inversely relatedto their Price0

200

400

600

800

1000

1200

1400

1600

1800

0 2 4 6 8 10 12 14 16

1979

1983

1986



Demand Schedule and Demand Curve

� The demand schedule shows the

quantity of the product

demanded by a consumer or an

aggregate of consumers at any

given price

� The demand function shows how

the quantity demanded of a

particular goods responds to

price change

� The demand schedule must

specify the time period during

which the quantities will bebought

� It can be seen from Tablet that

at lower prices of X, people get

attracted to buy more

PRICE of X Quantity Demanded

P 45 100

40 150

35 200

30 250

25 300

20 350



Demand Schedule and Demand curve

� The Demand curve is a graphicalpresentation of the demandschedule and therefore, containsthe same prices and quantitiespresented in the demand

schedule� Plotting the data from the Table,

we now arrive at the followingfigure

� The normal demand curve slopesdownward from left to right.

Any point on the demand curvereflect the quantity that will bebought at the given price

50 100 150 200 250 300 350 400

50

45

40

35

30

25

20

15

10

5

0

0

0

0

0

0

Quantity Demanded

Price



THE DEMAND CURVE

@ The demand curve is a graphical

representation of the demand schedule.

@ It is a downward sloping curve.

@ It shows the inverse relationship between the

price and quantity of goods that consumers

are willing to buy.



The Demand Curve

� The demand curve, adownward sloping curve,shows the relationshipbetween the price of a good

and the quantity demanded.� At the lower price (P1),

quantity demanded is higher(Q2).

� At a higher price (P2),quantity demanded is lower

(Q1).QuantityQ1 Q2

Price

P2

P1

D



CETERIS PARIBUS ASSUMPTION

Factors other the PRICE which also influence the quantity

of Demand

1. Own price of the product

2. Tastes and preference

3. Income

4. Expectations on the future price

5. Prices of related goods like substitutes

6. Compliments and the size of the population



NOTE:

Therefore, the functional relationship

between PRICE and QUANTITY demanded

is essential since non price factors are assumed

as CONSTANT.

The Law of Demand now States:

³ Assuming other things constant,

PRICE and QUANTITY demanded are

INVERSELY PROPORTIONAL´



1. Own Price of the Product

� A higher ownprice of a product

� A lower own priceof a product

� Decreases thedemand

� Increase thedemand

NOTE: There is an inverse relationship

between the price of the product and

the quantity being demanded



2. Average Income

Differential 1

Differential 2

Income 1

Income 2

Product

Price

Relationship of Income and Price. With the price of a theoretical product

constant, more of such product will be bought with Income 2 which has a bigger

Differential 2, compared to that of Income 1, with a smaller Differential 1



3.

P

opulation Size and Demographics

As the population increases, more people will use

commodities. As more members of the population enter

adulthood, the demand for specific products that are being

used by this specific age group also increases.

Remember that an increase in population generally

increase the demand for most products, and changes or

shifts in population demographics will affect thedemand for specific products.



4. Prices of Related GoodsSubstitute products change and move in the opposite direction

Substitute Products

� Are commodities that decreasethe use of another product whenmore of these other products isused

� Relationship of SubstituteProducts

Step 1: Price of MRT fares decrease.

Step 2: Decrease of MRT fareresults in increased demand forMRT

Step 3: Increase in demand for MRT results in decrease in demandfor aircon buses (substitute

product)

MRT

AIRCON

BUS

1. MRT fare

decreases

2. Increased

Demand for MRT

2. Demand for

Aircon buses

decreases



4. Prices of Related GoodsComplementary products change in the same direction

Complementary products

� Are commodities thatdecrease the use of anotherproduct when less of the

other complement is used-and vice versa

� Lower gasoline prices tend toincrease the demand not onlyfor gasoline but also for cars.

� Greater use of one leads to

more use of the other and viceversa.

1. Price

2. Decreased

demand for

gas

GAS

Cars

3. Decreased

demand for

cars



5. Taste of buyers- Influences buying decisions but is more difficult

to assess

- Difficult to measure but very important factors

in decisions of customers

- Failure in determining buyers tastes may lead to

disastrous mistakes in the choice of products to

offer to consumers



6. Other Particular Factors

- climate and weather affect the demand for

specific product

Example: Summer increases the

demand for cough and cold

preparations



The following changes in the non price factors maycause the corresponding shift in the Demand curve

� Increase in Income

� Decrease in income

� Greater taste/preference

� Less taste/preference� Increase in population

� Decrease in population

� Greater speculation

� Less speculation

� Shift to the right

� Shift to the left


� Shift to the left� Shift to the right






The Demand shifts

� Shift to the right indicates apositive (+) shift, or an increasein actual demand for acommodity

� Shift to the left indicates anegative(-) shift, or a decreasein the actual demand for acommodity.

� Movement along the curve areappreciated when only the

prices of products are changed. There will be no actual shift.

D

(-) (+)

Decrease

in demand

Movement

along the curve

Increase indemand

Price

Quantity



THE DEMAND SHIFT

Remember that

1. A shift to the left corresponds to an actual

decrease in demand

2. A shift to the right corresponds to an actual

increase in demand

3. There is a ³movement along the curve´ if

only the prices of products are manipulated



The of Law of Supply

� Supply is the amount of acommodity available for sale

� Aggregate supply the totally of agroup of producer·s supply

� Supply schedule is the quantitiesof goods and services producers

are willing to offer for sale atvarious prices



The Law of Supply

� Law of Supply: A principle thatstates there will be a directrelationship between the price of agood and the amount of it offeredfor sale

� Higher prices will induce

producers to supply a greateramount



TERMS

PROFIT: An excess of sales revenue relative to the cost

of production. The cost component includes the

opportunity cost of all resources, including those

owned by the firm.

LOSS: Deficit of sales revenue relative to the cost of

production, once all the resources used have

received their opportunity cost. Losses are a

penalty imposed on those who use resources inlower, rather than higher, valued uses as judged by

buyers in the market.



The supply curve

� The supply curve is an upwardsloping curve.

� It shows the relationshipbetween a good·s and the

quantity that producers arewilling to produce and sell

� At lower price (P1), thequantity produced and sold islower (Q1).

� At higher price (P2), the

quantity produced and sold ishigher at (Q2).

S

Q1 Q2

P1

P2

Price

Quantity



The Supply of Health Services

1. Expert advice from physician or otherhealth personnel

2. Hospital/clinic facilities

3. Pharmaceuticals;

4. Medical technology



Substitution of Inputs

Type of

Inputs

Traditional Substitutes Examples

Obstetric

Manpower forNormalspontaneousdelivery

Physicians Trained

Nurses

Kamuning

Lying-in-clinic

Drugs

Drugs

Branded

Pharmaceuticals

Generics

Herbals

Generic Law

Flavier Herbal

Drug program



Factors Determining Supply

1. Own Price of the Product

- a higher own price of a certain product

gives better profits to the producers andsellers of the product

- when producing and selling a certainproduct give businesses more profits,

producers will produce and sell more





3. Technology and Input PricesThe relationship between production costs changes because of

changes in technology and input prices and its effect on profits

Profit 1

Cost 1

Cost 2

Product XYZ

Selling

Price

TechnologyInput Prices Profit 2

A decrease in production costs (costs 1 > cost 2), brought about byimprovements through technology and input prices gives better profits(profit 2 > profit 1) and thus incentives for producers to produce and sellmore



4. Price of Production Substitutes

ABC Company

Limited 6M·s

X

Low Price

Y

High Price

Z

Low Price

Effect of prices of production substitutes on a certain product.More of the higher-priced product is produced relative to thelower-priced products



5. Market organization

Types:

1. Monopoly ² is a market structure in whicha commodity is supplied by a single firm

2. Oligopoly ² is a market state of imperfectcompetition, in which the industry isdominated by a small number of

competitors, producing and selling thesame products



TERMS

Perfect competition ² is the best forconsumers

Characteristics

� The number of sellers is numerous

� The products offered by sellers are

almost the same or indistinguishable



TERMS

Monopolistic competition ² is a marketstructure in between oligopoly and

perfect competition wherein manysellers supply goods that are close,but not perfect substitutes



Type of

Market

Organization

Description Effect on Q

Supply

Effect on

Prices

Monopoly

Oligopoly

*Cartel

Perfect

Competition

SinglePlayer/singleproduct

Fewplayers/sameproduct

Manyplayers/sameproduct

Low/very low

Low to high

High

Very high

High

Low/very low

Different Market organizations and their effect

on the quantity supplied and prices of products



6. Particular Factors

a. Cold weather

b. Government

NOTE: These factors may be eitherincrease or decrease the supply of these commodities



THE SUPPLY SHIFT

Price

Quantity

P3

P2

P1

Q1 Q2 Q3

Decrease in supply

Increase in supply

Moving along thecurve



1. A shift to the left corresponds to anactual decrease in supply

2. A shift to the right corresponds toan actual increase in supply

3. There is only a ´movement along

the curveµ if only the prices of products are manipulated

Remember that «





Supply Schedule and Supply Curve

� The supply curve is upwardsloping from left to right. Itshows a direct relationship

between price and quantitysupplied. Any point on the

supply curve reflects thequantity that will be suppliedat the given price

� After analyzing the aboverelationship we can now statethat as price increases, thequantity supplied of the

product tends to increaseand as price decreases,quantity supplied insteaddecreases

0

10

20

30

40

50

60

0 50 100 150 200 25030 60 90 120 180 210



Exhibit 3: The Supply Curve

� As the price of aproduct increases,other things

constant, producerswill increase theamount of theproduct supplied

P3

P2

P1

Q1

Q2 Q3

S



The Law of SupplyChanges in Supply and Shifts of the Supply Curve

0

10

20

30

40

50

60

0 50 100 150 200 250

� Changes in non price factors shallnow take place. This will like wiseresult in a change in the position orslope of the supply curve and achange in the entire supplyschedule. The increase or decrease

in the entire supply is also shownthrough a shift of the entire supplycurve. Factors, (determinants thatinfluence supply), may all cause anincrease in the actual supply

� This will be shown through arightward shift of the supply curvefrom S

1to S

2

. At a price of P40,whereas quantity supplied used tobe 150 packs, the new supply atthat price is now 200 packs whichis on a point on the new supplycurve.

E

S1

S2



The Law of SupplyChanges in Quantity Supplied and movements Along

the Supply Curve� Consider the price of P 25 per

packs. At the price, the sellers willoffer for sale 60 packs of X. Shouldthere be an increase in price to P30,quantity supplied will increase to 90packs. This is reflected as amovement along the supply curve

and is referred to as change inthe quantity supplied. This is achange from point B to point C onthe supply curve and is caused by achange in the price of the goods.

� There are also non pricedeterminants that influence supply,includes cost of production,

availability of economic resources,number of the firms in the market,technology applied, producers goals,these factors are again assumedconstant to enable us to analyzedthe effect of a change in price onquantity supplied.

0

10

20

30

40

50

60

0 50 100 150 200 250

BC



The following changes in the non price factors maycause the corresponding shift in the demand curve

� Increase in thenumber of sellers

� Decrease in the

number of sellers� Better technology

� Decrease in the costof production

� Goals of the firm





� It depends



Supply and Demand Interactions

1. Supply and Demand forces are not static

2. They interact dynamically

3. Factors other than price affect eithersupply or demand forces, the supply anddemand curves shift either to the left orright

4. This causes either an increase (shift tothe right) or a decrease (shift to the left)is supply or demand




� At certain price (P),buyers are willing tobuy a certain quantity(Q) of diapers

� Also at the same pricesuppliers are willing toproduce and sell thesame quantity of diapers

� This price and quantity

is depicted by (E)equilibrium point

Surplus (supply

exceeds demand)

Shortage (demand

exceeds supply

(E) D = S

Price

Quantity

SD

Q

P

P2

P3




The equilibrium point may have anumber of technical definitions

� It is the point at which thesupply curve intersects thedemand curve

� It is the point of ´perfectioncombinationµ where supply is

just equal to demand

� Equilibrium is the point atwhich the price (P) and Quantity(Q) of the commodity that thebuyers are willing to buy, is justequal to the price (P) andquantity (Q) that producers arewilling to produce and sell

Equilibrium

Excess Demand

Surplus Supply S

D

Q

P

Quantity

Price

P2

P3




� At a price higher (P2) thanequilibrium price (P), moresuppliers will be willing toproduce and sell more, whilebuyers will buy less. Thisbrings about a surplus

situation. There is pressure todecrease prices to enticeconsumers to buy

� At a price lower (P3) thanequilibrium price (P), morebuyers will be willing to buymore, less suppliers will be

willing to produce and sell. This brings about the shortageof goods, and pressure toincrease prices to enticeproducers to produce and sellmore

P

Q Quantity

Price

P2

P3

S

D

E

SurplusSupply

ExcessDemand



Market Equilibrium

� The E is attained at the pointwhere demand is equal to supply

� This point of equality is theEquilibrium point.

� It is corresponds to a price P40,

which is the E price� At this price the Q supplied is also

150 packs

� The ideal situation is when all theQ that is offered will bought by theconsumers, and all the demand

will be met by the sellers� Any price above or below P40 will

be temporary because price willrevert to the E level.

40

35

45

100 120 150 180 200

Surplus Supply

80

Excess Demand

80

E



Market Equilibrium

� Consider the price P45

� This is a price above E price

� At this price the quantitydemanded is only 100 packs

while the seller will beattracted to offer a biggerquantity and this is 180 packs

� There is difference of 80 packsrepresenting a surplus of goods if seller maintained their

price at that level� To disposed unsold goods,

sellers have to lower theirprices and price level willultimately settle at E point

100 120 150 180 200

40

35

45

Surplus Supply

Excess Demand

80

80

E



Market Equilibrium

� Analyze what happens at a priceof P35, which is lower than Eprice.

� This low price will attract thebuyers to demand for more, thisquantity demanded correspondsto 200 packs

� The low price will discourage thesellers from offering more. Qsupplied at the price of P35 isdown to 120 packs

� The difference of 80 packsrepresents a shortage of the

product� To fully exploit demand, the

consumers be willing to pay moreand revert the price level at P40where supply meets demands

100 120 150 180 200

Excess Demand80

Surplus Supply

80

E40

35

45



Example: Supply and Demand

� The table indicates the supplyand demand conditions forhealthcare services.

� When the price exceeds P10,

an excess supply is present,which places downwardpressure on price.

� In contrast, when the price isless than P10, an excessdemand results, which causes

the price to rise.� Thus, the market price will

tend toward P10, at whichpoint supply and demand willbalance

350 450 550 650 750

10

Quantity

PriceS

D

Excess Supply

Excess Demand



Price of Product

QuantitySupplied

Quantity

Demanded

Condition inthe Market

Direction onPressure on

Price13 625 400 Excess

SupplyDownward

12 600 450 ExcessSupply

Downward

11 575 500 Excess

Supply

Downward

10 550 550 Balance Equilibrium

9 525 600 ExcessDemand

Upward

8 500 650 Excess

Demand

Upward

7 475 700 ExcessDemand

Upward



A hypothetical Shift in the Market Supply Curvewith Demand Curve Kept Constant

� The point E is subject to changeshifts in either the demand curvealone, or supply curve alone, orboth D and S curves at the sametime can cause change in E in E

point.Example: a rightward shift of the

supply curve, with the originaldemand curve maintained, willresult in a decrease in E price.

� In the graph, the original E price

is at P3 per capsule. The

rightward shift of the supplycurve has caused the E price todrop P2 per capsule.

S1

S2

D1

A

B

Q1 Q2

P3

P2

Price

Quantity

Excess Supply



Hypothetical Shift of the Market demand Curvewith the Market Supply Curve Kept Constant

� In the like manner, a shift of the demand curve with theoriginal supply curvemaintained will cause achange in the E point.

� In this graph, a rightwardshift of the demand curve,with the supply curvemaintained, has caused theE price to increase from P3

to P4 per capsule.

B

A

D2

D1

S1

Q1 Q2 Q3

P4

P3

Price

Quantity

ExcessDemand

(Q3-Q1)



A hypothetical simultaneous shift in both theDemand and Supply Curves

� In the graph, both the D and S

curves show a rightward shift.

� Since the increase in D isproportionate to the increase in

S, the E price is maintained atP3 per capsule.

� However, the new E point

corresponds to a biggerquantity which is now Q5

capsule to a new E position

over time as result of a shift of either the D curve or the S

curve of a commodity.

S1

S2

D2

D1

Q3 Q5

P3

Quantity

Price



THUMBNAIL SKETCH

These factors increase (decrease

the Demand for a good:

� A rise (fall) in consumer income

� A rise (fall) in the price of a good

used as a substitute

� A fall (rise) in the price of acomplementary good often usedwith the original good

� A rise (fall) in the expected futureprice of the good

These factors increase (decrease)

the supply of a good:

� A fall (rise) in the price of aresource used in producing the

good� A technological change allowing

cheaper production of the good

� Favorable weather (bad weatheror a disruption in supply due topolitical factors, or war)



Repealing The Laws of Supply AndDemand

Price Ceiling ² a legally established maximum price thatsellers may charge

Shortage ² a condition in which the amount of a goodoffered by sellers is less than the amountdemanded by buyers at the existing price. Anincrease in price would eliminate the shortage.

Price Floor ² a legally established minimum price thatbuyers must pay for good or resource

Surplus ² a condition in which the amount of a good thatsellers are willing to offer is greater than theamount that buyers will purchase at the existingprice. A decline in price would eliminate thesurplus.



�Elasticity - the responsiveness of demand andsupply to a change in its determinants

�Price Elasticity - the percentage change inquantity compared to a percentage changein price

�Income elasticity of Demand - percentagechange in quantity demanded compared topercentage change in income

�Cross elasticity of Demand - percentage changein quantity demanded of one goodcompared to the percentage change in theprice of a related good.

Elasticity of Supply and Demand



Coefficient of elasticity ² absolute value of elasticity

Total Revenue ² price multiplied by quantity

Inferior goods ² goods which are bought when income

levels are low, the demand for which tends todecrease when income increase.

Normal goods ² goods for which demand tends toincrease when income increase

Substitute goods ² goods used in place of each other

Complementary goods ² goods that supplement eachother and are, therefore, used together

TERMS



Elasticity of DemandDemand Elasticity ´ indicates the extent to

which changes in price cause changes inthe quantity demandedµ

� Classification of Elasticity of

Demand

1. Price elasticity of demand

2. Income Elasticity of Demand3. Cross elasticity of Demand



The Concept of Elasticity in

Pharmacoeconomics/Healthcare

OBJECTIVES

1. Sellers are naturally expected to hopefor more demand for their product

2. Higher revenues

3. To make some decisions to improve

demand for their product



Elasticity� Price Elasticity Of Demand is used to determine the responsiveness

of demand to change in the price of the commodity

Formula:

EP = percentage change in quantity demanded

percentage change in price

= QD2 - QD1/QD1

P2 - P1/P1

where EP = price elasticity of demand

QD2 = new quantity demanded

QD1 = original quantity demandedP 2 = the new price

P1 = the original price



Elasticity� Sample Problem

Original quantity demanded = 10,000 pcs antihypertensive drugs

Original price = P5.00 per tablet

New quantity demanded = 16,000 pcs of antihypertensive drugs

New price = P4.00 per tablet

Answer: 16,000 -10,000/10,000

4.00 -5.00/5.00

= 3



Elasticity� Classification of price Elasticity of Demand

1. Elastic Is that type of demand where the quantity that willbe bought is affected greatly by change in price. Thechange must be greater than elasticity coefficient of 1.

2. Inelastic This refers to the demand where a percentage

change in price creates a lesser change in quantitydemanded.Example: When 20% reduction in price causedonly a 10% increase in demand. The elasticity coefficientin this type is less than 1.

3. Unitary Demand A change in price creates an equal

change in quantity demanded. Example: When 20% pricereduction resulted to 20% increase in demand. Theelasticity under unitary demand is equal to the

coefficient of 1.



Figure 1: Elastic DemandIs the type of demand where the quantity that will be bought is

affected greatly by changes in price. The change must be greater than

elasticity coefficient of 1.

� Original quantity demanded =10,000 pcs of antihypertensivedrugs

� Original price = P5.00 per tablet

� New quantity demanded =16,000 pcs of antihypertensivedrugs

� New price = P4.00 per tablet

EP = 16,000 ² 10,000/10,000

4.00 ² 5.00/5.00

= 3 0

1

2

3

4

5

6

7

0 5 10 15 20

Series1

QD1

QD2



Figure 2: Inelastic DemandThis refers to the demand where a percentage change in price

creates a lesser change in quantity demanded. Example: When a 20%reduction in price caused only a 10% increase in demanded. Theelasticity coefficient in this type is less than 1

� Original quantity demanded =10,000 pcs of antihypertensicve drugs

� Original price = P5.00 per

tablet

� New quantity demanded =11,000 pcs of antihypertensivedrugs

� New price = P4.00

EP = 11,000 ² 10,000/10,0004.00 ² 5.00/5.00

= 0.5

0

1

2

3

4

5

6

7

0 5 10 15 20

Series1

QD1

QD2



Figure 3: Unitary DemandIn this type of demand, a change in price creates an equal

change in quantity demanded. Example: When 20% price reductionresulted to 20% increase in demand. Elasticity under unitary

demand is equal to the coefficient of 1.

� Original quantity demanded =10,000 bottles of syrups

� Original price = P5.00 per bottle

� New quantity demanded =

12,000 bottles of syrups� New price = P4.00 per bottle

EP = 12,000 ² 10,000/10,000

4.00 ² 5.00/5.00

= 10

1

2

3

4

5

6

7

0 5 10 15 20

Series1

QD1

QD2



Implications of Price Elasticity of

Demand

@ when elasticity is known, it can guide the seller in making

decisions about price

´If the price elasticity of demand

is greater than 1, the price should

be lowered; if less than 1, the

price should be increaseµ



Elasticity� Income Elasticity of Demand

² Income Elasticity of demand refers to thedetermination of the responsiveness of demand to change in consumer income

Formula:

EY = percentage change in quantity demanded

percentage change in income

= QD2 -QD1/QD1

Y2 -Y1/Y1

Where EY = income elasticity of demand

Y2 = the new income

Y1 = the original income

Note: When elasticity is greater than 1, demand is said to beincome elastic; less than 1 - inelastic; equal to 1 - unitary



ElasticityCross Elasticity of Demand

Cross elasticity of demand is the responsiveness of thequality demanded of a particular good to changes in theprices of another good

Formula

QA2 - QA1/QA1

PB2 - PB1/PB1

Where

EC = cross elasticity of demanded

QA2 = new demand for product AQA1 = original demand for product A

PB2 = new price of product B

PB1 = original price of product B



NOTE:If cross elasticity is positive, the goods areSUBSTITUTES.

Example: if 2% increase in the price of

paracetamol drug which causes a 0.66% increase in thedemand for mefenamic acid

If cross elasticity is negative, the goods areCOMPLIMENTS

Example: If hospitalization fee increases resultsto a decrease in the demand for health professionals,hospital personnel are complements



Elasticity� The following summarize the

change in revenue under the twobasis elasticity conditions

Price Increase Price Decrease

Elastic Decrease Increase

Inelastic Increase Decrease

Income Elasticity Of Demanded1. > 1 means demand is elastic and the good is superior

2. < 1 means demand is inelastic and the good is inferior

3. = 1 means demand is unitary and the good is normal



Elasticity

� Determinants of demand Elasticity

1. The price of goods in relation tothe consumer·s budget

2. The availability of substitutes

3. The type of Good

4. The time under consideration



Elasticity� Elasticity of Supply refers to the responsiveness of thesellers to a change in price

Formula

ES = percentage change in quantity supplied

percentage rise in price

= QS2 - QS1/QS1

P2 - P1/P1

Where:

ES = price elasticity of supply

QS2 = new quantity supplied

QS1 = original quantity supplied

P2 = new priceP1 = original price



Elasticity� Classification of supply Elasticity1. Elastic Supply - is where the quantity

supplied is affected greatly by changes in theprice. The change is greater than the

elasticity coefficient of 1.2. Inelastic Supply - when the quantity

supplied is not affected greatly by changes inthe price, supply is said to be inelastic. Theelasticity coefficient is less than 1

3. Unitary Elastic Supply - When the % changein the quantity supplied is equal to thepercentage change in price. The elasticitycoefficient is equal to 1.



Figure 4: Elastic SupplyIs where the quantity supplied is affected greatly by changes in

the price. The change is greater than the elasticity coefficient of

1.� New quantity supplied =

18,000 bottles

� Old quantity supplied =10,000 bottles

� New price (P2) =P6.00/bottle

� Old price (P1) =P5.00/bottle

ES = 18,000 ² 10,000/10,000

6.00 ² 5.00/5.00

= 4 0

1

2

3

4

5

6

7

0 5 10 15 20

Series1

QS2

QS21



Figure 5: Inelastic SupplyWhen the quantity supplied is not affected greatly by changes

in the price, supply is said inelastic. The elasticity coefficient is lessthan 1.

� New quantity supplied = 11,000 bottles

� Old quantity supplied = 10,000 bottles

� New price = P6.00/bottle� Old price = P5.00/bottle

E = 11,000 ² 10,000/10,000

6.00 ² 5.00/5.00

= 0.5

0

1

2

3

4

5

6

7

0 2 4 6 8 10 12

Series1

QS2

QS1



Figure 6: Unitary Elastic SupplyWhen the percentage change in the quantity supplied is equal

to the percentage change in price. The elasticity coefficient isequal to 1.

� New supplied = 12,000 bottles

� Old quantity supplied =10,000 bottles

� New price = P6.00/bottles

� Old price = P5.00/bottles

E = 12,000 ² 10,000/10,000

6.00 ² 5.00/5.00

= 1

0

1

2

3

4

5

6

7

0 2 4 6 8 10 12 14

Series1

QS2

QS1



Elasticity

� Determinants of Supply Elasticity

1. The feasibility and cost of storage

2. The ability of producers torespond to price changes

3. Time



Elasticity

� Elasticity is a measure of responsiveness.

� The most common elasticitymeasurement is that of priceelasticity of demand. It measureshow much consumers respond in

their buying decisions to a changein price.



Elasticity

E = (percentage change inquantity) / (percentage change inprice);

² Where E = coefficient of elasticity

Read that as elasticity is thepercentage change in quantity

divided by the percentage changein price



Demand and Price Elasticity

ÏAn important characteristic of demand is the relationship amongmarket price, quantity demandand consumer expenditure.

ÏDemand - a reduction in marketprice will usually lead to an

increase in quantity demanded.




In some cases a reduction in pricewill be more than offset by a largeincrease in quantity demanded -- asituation where demand is p rice

sensitive or price elastic.




In other cases, the reduction inprice results in a proportionallysmaller increase in quantitydemanded-- a situation wheredemand is p rice insensitive orprice inelastic.




Elastic demand ² (E>1)

² relative change in revenue > relativechange in price

Inelastic demand ² (E<1)

relative change in revenue <relative change in price

Unitary elasticity ² relative changein price & revenue are equal



Coefficient of Elasticity

Calculate the coefficient of elasticity if we reduce the price for Tolnaftate creamfrom $3 to $2.80 and this results in an

increase in sales from 55 to 85 tubes.Q = (85-55)/85 x 100%

= 35%

P = (3 ² 2.8)/3 x 100%

= 6.7%E = Q/P = 35%/6.7% = 5

if E > 1 increase in revenue



Demand Curve and Elasticity

As a result of the different degrees of elasticity,

there are different ways of presenting the Demand CurveP

P

P

P

Qd

Qd Qd

Qd

D1 is relatively elastic, achange in price leads to asignificant change in Qd.

D1 D2

D4

D3

D2 is relatively inelastic, achange in price leads to avery slightly change in Qd.

D3 is perfectly elastic. At givenprice, Qd can change infinitely

D4 is perfectly inelastic. At anyprice, the Qd will remain thesame. Qd is equal to zero



Price Elasticity of Supply

As a results of the varying degrees of elasticity of

supply, the following supply curves are also possible:

S1

S3

S2

S4

Qs Qs

QsQs

P

P

P

P

S1 is relatively elastic: Achange in price results in asignificant change in Qs.

S3 is perfectly elastic: At a given price,Qs may change infinitely

S2 is relatively inelastic: Achange in price results in aslight change in QS.

S4 is perfectly inelastic: At any price,Qs remains constant or Qs = 0



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Documents

HECO - Supply %26 Demand.editedfinal