# R13 Demand and Supply Analysis Introduction

Pages: 31 (1362 words) Published: March 15, 2015
CFA® Level I – Economics
Demand and Supply Analysis: Introduction
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Contents
1. Introduction
2. Types of Markets
3. Basic Principles and Concepts

4. Demand Elasticities

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1. Introduction
• Economics is the study of production, distribution, and consumption; it is divided into two broad areas: Microeconomics and Macroeconomics

• Macroeconomics deals with aggregate economic quantities, such as national output and national income
• Microeconomics deals with markets and decision making of individual economic units, including consumers and businesses.

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2. Types of Markets
• Factor markets refers to the markets for factors of production  Natural resources, mineral wealth, raw materials, labor

• Goods markets refers to the markets for consumer goods and services  Firms are the sellers
 Intermediate markets are where one firm’s outputs are another firm’s inputs

• Capital markets refers to the markets for long term financial capital  Borrow money by selling debt instruments
 Sell claims to ownership by selling equity instruments
 Capital markets also include the secondary markets where debt and equity claims are subsequently traded
Example 1
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3. Basic Principles and Concepts
• Demand is the willingness and ability of consumers to purchase a given amount of a good or service at a given price.
• Supply is the willingness and ability of sellers to offer a given amount of a good or service at a given price.

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3.1 The Demand Function and Demand Curve
Law of demand: as the price of a good rises, buyers will choose to buy less of it, and as its price falls, they buy more
Demand function for Good A: QD = f(PA, I, PB…)

P

QD = 10 – 0.5P + 0.06I – 0.01PT

QD = 100 – 0.5P
Inverse demand function
P = 200 – 2Q

Demand curve: graph of the inverse demand function

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Q

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3.2 Changes in Demand vs. Movements along the Demand Curve
When own-price changes  change in quantity demanded (movement along the demand curve)

A change in any other variable will shift the demand curve (change in demand) Shift is both vertical and horizontal; what is the interpretation? Changes (or shifts) in demand can be caused by changes in:

 Income
 Price of substitutes
 Price of complements
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Example 2
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3.3 The Supply Function and Supply Curve
The willingness and ability to sell a good or service is called supply Willingness to sell depends on price (P) and cost to produce (W) Selling price ≥ marginal cost
Supply function for Good A: QSA = f(PA, W, …)
P

Q = -300 + 4P – 10W
Say W = 10, Q = -400 + 4P
Inverse supply function:
P = Q/4 + 100
Supply curve
Q
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3.4 Changes in Supply vs. Movements along the Supply Curve
Law of supply: rise in price  greater quantity supplied
P

Say W goes down from 10 to 7
Change in supply  Shift
Horizontal movement
Vertical movement

Q
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Example 3

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3.5 Aggregating Demand and Supply Functions
Market: collection of demanders and suppliers

Individual demand function:
QD = 100 – 0.5P
What is the market demand?

Aggregate supply by adding all suppliers
Say we 2 similar suppliers
What is the supply curve?
Example 4
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Example 5
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3.6 Market Equilibrium
Market equilibrium: quantity willingly offered for sale by sellers at a given price is just equal to the quantity willingly demanded by buyers at that same price.
P

Q
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Solve for Equilibrium Quantity
Equilibrium Condition: Find the price such that Quantity Demanded = Quantity Supplied Quantity Demanded = 10,000 – 50P and Quantity Supplied = -800 + 8P

Partial equilibrium analysis: concentrate on one market, taking values of...