Theory of demand and supply

Question 1

What is the definition of demand?

Answer 1

It is the amount of goods and services that consumers are able and willing to buy at each possible price in a given period of time, ceteris paribus

Question 2

What is the definition of law of demand?

Answer 2

It states that in a given time period, quantity demand is inversely related to its price, ceteris paribus

Question 3

What are the non-price determinants of demand?

Answer 3

E: Ease of borrowing + Expectation of future prices (change current demand)
G: Government polices (direct taxes;income taxes , campaigns)
Y: Income (assume inferior or normal goods)
P: Population size + Price of related goods (assume complements or substitutes in consumption)
T: Taste and preferences
S: Seasonal factors

Question 4

What is the definition of supply?

Answer 4

It refers to the amount of goods and services that producers are willing and able to sell at each possible price in a given period of time, ceteris paribus

Question 5

What is the definition of law of supply?

Answer 5

In a given period of time, quantity of supply is directly related to its price, ceteris paribus

Question 6

What are the non-price determinants of supply?

Answer 6

W: Weather
E: Expectation of future prices (change current supply)
T: Technology (affects efficiency, COP, profit, productivity)
P: Price of related goods(Assume competitive or joint supply)
I: Input prices (Affects cost of production, profits)
G: Government polices (indirect taxes; corporate tax, goods and services tax + subsidies)

Question 7

How to describe the price adjustment process when demand and/or supply changes?

Answer 7

1) SS and DD shifts from _to _ etc.
2) A surplus/shortage arises which puts downward/upward pressure on price
3) As price changes, Qs and Qd increases/decreases according to law of supply and demand respectively
4) The market reaches a new equilibrium price at Pe and equilibrium quantity at Qe, ceteris paribus

Question 8

What is the definition of price elasticity of demand (PED)?

Answer 8

It measures the degree of responsiveness of quantity demanded of a good to a change in its price, ceteris paribus

Question 9

What does it mean when demand/supply is price elastic (PED>1)?

Answer 9

When price changes, quantity demand changes more than proportionally, ceteris paribus (vice versa)

Question 10

What does it mean demand/supply is price inelastic (PED<1)?

Answer 10

When price changes, quantity demand changes less than proportionately, ceteris paribus (vice versa)

Question 11

What are the determinants of PED?

Answer 11

S: Degree of availability of substitutes (number and closeness of goods, definition of good)
H: Habit
I: Proportion of income
T: Time period

Question 12

what is the definition of price elasticity of supply (PES)?

Answer 12

It measures the degree of responsiveness of quantity supply of a good to a change in its price, ceteris paribus

Question 13

What are the determinants of PES?

Answer 13

C: Cost of production
P: time Period
F: Factor mobility

Question 14

Why is PED for a good negative?

Answer 14

-state definition of PED
-it is based on law of demand, where quantity demanded is inversely related to its price
(formula is % change of Qd/ % change in price)

Question 15

Why is PES for a good positive?

Answer 15

-State definition of PES
-it is based on law of supply, where quantity supplied is directly related to its price
(formula is % change of Qs/ % change in price)

Question 16

What are the types of governmental intervention with respect to SS and DD?

Answer 16

• Price controls (Price floor & ceiling)
• Quantity controls (Quota)
• Tax & Subsidies (on producers)

Question 17

What is the definition of a price floor?

Answer 17

It is a legally establish minimum price above market equilibrium price

Question 18

What are the effects of a price floor (on producers)?

Answer 18

-Price floor leads to increase in Qs and decrease in Qd
-surplus arises and cannot be eliminated as producers cannot sell below Pf
-Hence only Qd is traded in the market and welfare loss ABC arises
(Gov may step in to buy up surplus QdQs)

Question 19

What is the definition of a price ceiling?

Answer 19

It is a legally established maximum price below market equilibrium price

Question 20

What are the effects of a price ceiling (mainly on consumers)?

Answer 20

-Price ceiling leads to decrease in Qs and increase in Qd
-Shortage arises but cannot be eliminated as producers cannot sell above Pc
-Hence only Qs is traded in the market and welfare loss ABC arises
(Black market may arise)

Question 21

Wage dd ss?

Answer 21

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