INTRODUCTION TO APPLIED ECONOMICS
(Week 1)
Grading Period: Third Quarter
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Content Standards: The learner demonstrates an understanding of economics as an applied
science and its utility in addressing the economic problems of the country
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Performance Standards: The learners are able to analyze and propose solution/s to the
economic problems using the principles of applied economics
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Most Essential Learning Competencies: The learners
A.
differentiate between economics as a social science and as an applied science in terms
of nature and scope
B.
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explain the concept of scarcity and identify economic resources
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C. compare and contrast the division of economics
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D. identify the distinction between microeconomics and macroeconomics
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References: E-book
Senior High School Applied Economics
ADVANCING
LECTURE OUTLINE
INTRODUCTION TO ECONOMICS
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In the middle of increasing global crisis, the Philippine economy stays robust and
is forecasted to increase 5.8% in 2019, before recovering to 6.1% in 2020 and 6.2% in
2021. In the short term, the fast integration of newly approved reforms would aid to
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accomplish equitable opportunities. In the long-term, competition is encouraged to
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create employment that will amplify the effect of growth on poverty rate reduction. The
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Philippine government’s plan for expansion in fiscal policies for 2019 was postponed
because the 2019 public budget was put off affecting the speed of public spending
remarkably in the first half of 2020, which resulted in significant underspending.
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However, the implication of previous tax-policy reforms led to increase revenue. This
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resulted to a less deficit for the first half of 2019. The improved labor market conditions,
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and maintained growth in real household incomes, led to advance the poverty rate
reduction. In the short-term, returning the public investment and fast tracking the
successful implementation of newly perceived reforms namely; Ease of Doing Business
Law, Rice Tariffication Law, National ID system, and other such sustainable policy
changes that would be important in order to set the country to a path toward accelerating
equitable opportunities.
”
Source: https://www.worldbank.org/en/country/philippines/publication/philippines-economic-updateoctober-2019-edition
As we go on understanding how the economy grow and how it affects everybody,
we are encountering the different aspects that we understand a little but has a great effect
on economy. Each day we are faced with constraints and limitations: breadwinner who just
lost his job due to pandemic and unable to meet family’s needs and pay-off debts. A student
who needs to pay for tuition fees, internet connection and books but has insufficient
allowance. The insufficiency of resources to meet the limitless demands is what we call
scarcity. Scarcity is the main reason why there is a need to study economics.
ECONOMICS- refers to social science that deals with the efficient and effective allocation of
limited resources of government, businesses and individuals. It focuses with the effectiveness of
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producing, distributing and consuming of products.
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SCARCITY- refers to the state of being short on resources in order to satisfy the limitless
needs and desires of a citizen.
NEEDS- It is something that you must have in order to survive. For example, basic needs
like air, food, water, shelter, sleep etc.
WANTS- It is something that we desire but unimportant in daily life. For example, mobile
phone, laptop, jewelries, car etc.
There are two types of scarcity namely:
RELATIVE SCARCITY- a resource that are limited to satisfy infinite demand.
EXAMPLE OF RELATIVE SCARCITY
Rice is rich in the Philippines since they can easily grow in our land and seasons. But when we
hit by typhoons our rice fields are being destroyed and the farmer has no rice to harvest so it
became relatively scarce.
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ABSOLUTE SCARCITY- when resources are short in supply
EXAMPLE OF ABSOLUTE SCARCITY
Philippines has great number of nurses but due to poor working conditions and motivations they seek
employment overseas and become relatively scarce.
OPPORTUNITY COST- refers to the foregone benefit or value that would have been
obtained by choosing an alternative over another. Alternatively, some of us call this as the tradeoff. Trade-off refers to a situation where you have to make a decision over another in order to
have more beneficial result.
EXAMPLE OF OPPORTUNITY COST
When the firm chooses to rent a site for manufacturing than buying off land somewhere else.
Another example would be, the income would have been earned when you decided to go on a
trip than go to work.
ECONOMIC RESOURCES
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Economic resources refer to the resources consumed in production in order to make
products and services. In layman’s term, they are inputs used for the production process.
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1. Land- Refers to the real estate and property comprises geographic land.
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payment for lease contract to the land owners is rent.
2. Labor- physical and human effort exerted to be used in making the product or
providing services.
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compensation received for provided service is wage
3. Capital- consists of human-created assets utilized in producing commodities
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The capital of the owner invested earns income is known as interest.
SOCIAL SCIENCE- study of people in the organization or society and how people behave and
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influence the world that surrounds them. The branch of science that deals to the study
of societies and the correlation of individuals within those societies
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ECONOMICS AS SOCIAL SCIENCE- principles in economics which analyze how people create
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and execute choices in distributing limited resources for the satisfaction of limitless wants and
needs based on their social behaviors.
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APPLIED SCIENCE - is the use of scientific method and knowledge in order to achieve practical
or effective result to be used in decision-making.
ECONOMICS AS APPLIED SCIENCE- refers to the use of economic concepts and theories and
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their application in real life scenarios and conditions. It also includes an attempt to forecast the
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results of utilizing these concepts given different conditions in the market.
TWO DIVISIONS OF ECONOMICS:
MACROECONOMICS
- division of economics that is concerned with the studies how an overall
performance of the entire economy behaves. Macroeconomics attempts to quantify the
performance of the entire economy in different aspects. There are many questions
addressed by macroeconomics this includes: What causes the unemployment? What
causes inflation? What creates or stimulates growth of the economy?
MICROECONOMICS
- division of economics that studies the implications of decisions of each individuals
and firms and how it affects the utilization and allocation of limited resources. It also
focuses on relativity or response of every individuals to change in prices, allocation of
resources and method of production.
BASIC PROBLEMS OF SOCIETY
The fundamental problem in economics is the satisfaction of limitless wants and needs
and dealing with the limited and scarce resources. Because of scarcity, there will be constant
opportunity cost where we forego benefits when choosing one alternative. Fair and efficient
allocation of scarce resources are attributes of economics. The main issues are:
1. What to produce and how much
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Society should arrive to a decision on the kinds of products to be created.
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2. How to produce
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Refers to selection of technique that will be employed by the firm to create products.
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3. For whom to produce
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Refers to the target market of the firm as to who will buy or use the goods and services.
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ECONOMIC SYSTEM - This is how the society responds to the basic economic problems. This
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could be a simple or complex structure of how the society produce, allocate limited resources and
distribute goods and services.
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1. Traditional economy
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It is a system where decision relies on conventions, observances, history and
practice of beliefs. This is a system where the tradition is the model in executing
economic choices including manners or methods on producing, allocating and
distributing products like goods and services.
2. Command Economy
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This is the kind of system where the basic economic problems are weighed on the
shoulders of the government.” The state or agency of government maybe in charge in
the allocation of resources by using its political power in answering the basic economic
problems. The command economic system is practiced in dictatorial, socialist and
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communist nations. Russia, North Korea and China are just few of the countries that
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have this kind of economic system.” Sometimes the government declares authoritative
system in times of calamities, disasters, or national emergencies.
Typhoon destroyed crops, damaged houses and business establishments. The
government will:
3. Market Economy
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Ration commodities
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Impose price control
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Confiscate resources
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This is the kind of system where the choices on what to produce, how to produce
or whom to produce is weigh on the shoulders of the consumers and producers. This
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is not absolute due to uncertainties like calamities and national emergencies. There
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can be government interference during special or extreme economic situations, but
generally, it is a type of economic system that is more market oriented. The basic
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economic problems are answered by making a decision that is in accordance to the
workings of demand and supply. In a market system, there is equilibrium price and
output in the market. Also, this gives the businessmen freedom to increase profit by
making their products or services more valuable than the inputs used in the production
process.
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ECONOMICS AS AN APPLIED SCIENCE
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The Philippines, a beautiful tropical archipelago of islands that forms one of the most
important economies in the world today. This nation often flies under the radar as a quiet achiever
but it is both interesting and important to understand because it may be the quintessential 21stcentury growth nation, and that is not to say it is some super modern nation from the future, but rather
it is to say that the story of the success and failures of the Philippines is by extension the story of the
world today as more and more countries, modernize, embrace technology, trade internationally and
bring their citizens into the global middle class.
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Source: https://en.wikipedia.org/wiki/Economy_of_the_Philippines
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APPLIED ECONOMICS
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Applied Economics refers to the economic principles, theories and its application in real
events and an attempt to forecast whatever the outcomes. This field of study employs the use of the
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comprehension obtained from economic theory and past events to make better decisions and solve
real-world problems. It helps individuals, businesses and policy makers to study how people use
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limited means available to achieve their goal and help them to make better decisions.
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SCIENTIFIC METHOD
A method of inquiry from identifying a problem, proposing alternative tentative answers or
hypotheses, testing the tentative answers to question or problems at hand, gathering and treating the
data, and answering the question through the conclusion. As proof in testing the hypothesis, statistics
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and econometrics are being used.
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POSITIVE ECONOMICS VERSUS NORMATIVE ECONOMICS
“When speaking about economic hypothesis they way you phrase your statement is actually
a pretty big deal. In economics, we can broadly define as positive or normative economics.
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Positive Economics
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This is a statement that answers what is in economics. It is important because it allows us to
test the statement with the data and which relies on objective analysis of data. Positive economics
deals with what is currently happening like unemployment rate, inflation rate and cut in income tax
improving the incentives to find jobs.
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Normative Economics
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Refers to “what ought to be” or “what should be”. It conveys values, opinions and judgments
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about the effects brought by economic practices if there are modifications in the public policies .
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Normative economic statements can't be tested because it is just a mere opinion. Therefore,
normative economics focuses on opinion-based analysis of data.
Positive Economics vs. Normative Economics Analysis
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To have a distinction between the two, we will have examples to elaborate the thoughts.
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Example of Positive Statement :
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“Parents tend to enroll their children in private schools more, when they get a raise or
promotion”
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You might look at the statement and say that’s probably false and maybe it is. But it is still a
positive statement we can look on parents’ income data we can look at the enrollees in the private
sector and we can see if the statement is true of false. In normative statement:
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Example of Normative Statement :
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“Everyone should enroll their children in private schools.”
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So, to say, that is normative statement because one cannot test that in data, you look at the
world and you see “should” that’s an opinion we cannot prove that if true or false .
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To summarize, there are two classifications of economic statements. One is positive, it claims
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how the world is. Second is negative, it claims how the world should be. The only distinction that lies
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between the two statements is how we are about to judge their reasonableness. By employing the
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economic concept, positive statements can be accepted or rejected through investigations and
gathering of data. Conversely, assessing normative statements utilizes factual data, values, opinions
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and judgments.
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MEASURING THE ECONOMY
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We always get to watch in the television, read some articles in the internet or have heard in
the radio that our country has grown or performed well. As a student, how will they really perceive
this type of information? It will be useful for the students to learn how the economic growth is actually
measured.
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GROSS NATIONAL PRODUCT (GNP)
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It calculates the output of a country's residents wherever the location of the actual underlying
business’ activity. Gross National Product (GNP) measures the total income that is earned by a
country’s factor of production in producing goods and providing services by a country's residents and
businesses. It is equal Gross Domestic Product (GDP) plus income earned from assets abroad less
the income paid to foreign assets operating domestically.
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To restate the GNP equation :
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GNP= C + I + G + (X – M)”
Whereas;
C- Household and Individual Consumption
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I- Investments
G- Government Expenditure on goods and services including labor
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X- Exports
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M- Imports, it is excluded because import products are produced in other economies.
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Table 1.1 shows the Philippine Gross National Income which were presented by expenditure
accounts. Gross Capital Formation is Investment by both public and private sector that composes of
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Gross Fixed Capital Formation and Changes in inventories.
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Table 1.1 Gross National Income (by Type of Expenditures)
Source: Philippine Statistics Authority
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GROSS DOMESTIC PRODUCT (GDP)
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Gross domestic product (GDP) is the aggregate monetary or market value of all the final
goods and services created within a nation's borderline in a certain period. It quantifies the monetary
value of final products whether goods or services induced inside the country in a specified period of
time. It guides the individuals, policy makers and businessmen in making strategies and to have a
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better decision-making. It is also used the size of economic growth rate. GDP is a good indication of
how much an economy produces each year.
GNP/GDP: EXPENDITURE APPROACH vs. INCOME APPROACH
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The expenditure approach is one of the approaches for quantifying gross domestic product
(GDP) that sums up consumption of every households, investment of firms for properties and
machineries used for production, government spending for public goods and safety even
infrastructure, and importation and exportations. It is the basic way in calculating GDP. It is measured
the total amount spent by the households, firms, government and foreigners on final products like
goods and services. The income approach to estimating gross domestic product (GDP) is
established on the accounting method that all spending in an economy, from households,
government, firms even foreigners must be equated to the aggregate income resulted by the
manufacturing of economic goods and services. It is measured by the total income earned by the
households in a nation during the year. The primary distinction between the two approaches is their
beginning period. The expenditure approach commences with the money used on every goods and
services. On the contrary, the income approach begins with the earnings received by from the
production of final products.
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Detailed illustration of difference is shown below :
GNP/GDP: INCOME APPROACH
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As we have mentioned the only main difference between income and expenditure approach
is their starting point. GDP using “income approach” quantifies the total earnings received by a certain
nation’s household in specific period. In determining GDP using income approach, first we have to
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establish the factor payments per household.
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FACTOR PAYMENTS
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This is identified as the earnings that people obtain for providing factors of production namely:
land, labor, capital or entrepreneurship. Factor payments are the flow between the business sector
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and the resource markets. Illustrate below are the factor payments in relation to factors of production.
Land: Rent
- refers to the payment household received for land is rental income. Example, a farmer entered into
a lease agreement with a corporation for a parcel of land. The corporation pays the farmer and it is
called ‘rent’.
Labor: Wages
- refers to the payment household received in exchange for their labor whether
manual labor or
intellectual labor. Example, payment received by construction workers for manual labor they have
provided for a specific period of time. Also, an accountant of the firm received payment for the
intellectual labor he rendered for a specific period of time.
Capital: Interest
- refers to the payment household received for depositing to a financial institution their savings for a
specific span of time. Example, a depositor earns 5% per annum on his deposited savings for 5 years.
Entrepreneurship: Profit
- refers to the payment household received for operating its business. It specifies the surplus of the
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business receipts over production costs and operating expenses incurred. Example, a businessman
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opens his convenience store for a month. Upon making a report about the business’ performance, it
shows that the business produced revenue amounting to P50,000.00 and incurred total production
cost and operating expenses amounting to 30,000.00. In summary, the business earned profit of
P20,000.00.
Illustration 1.1 The circular flow
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Illustration 1.1 show as the households continue to demand for products the firms does not
stop the production for such demands. For every factors of productions provided by the households
there will be respective return called factor of payment as discussed above. In determining GDP using
income approach, all income from the factors of payments are equal to GDP.
GNP/GDP: EXPENDITURE APPROACH
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The expenditure method is the most utilized system for calculating GDP, which is an indication
of the economy's goods and services created inside a country regardless of who employs the
methods to produce and regardless of the location of production. The GDP in this approach is
estimated by summarizing the aggregate expenditures or spending made on final products like goods
and services by households, firms, government foreigners.
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Illustration 1.2 The resources flow
Foreigners
Exportation
Importation
PRODUCT MARKET
Goods and Services
Output
Public Goods
Public Goods
FIRMS
HOUSEHOLDS
Taxes
Taxes
GOVERNMENT
Land, Labor, Capital and Entrpreneurship
RESOURCE MARKET
Factors of Production
Illustration 1.2 shows the flow of resources as you can see it is never ending meeting of demands
and production of resources to meet those demands. In determining GDP using expenditure
approach, we have to summarize the total amount spent on goods and services produced in a country
by every households, firms, governments and foreigners. To further explain the illustration 1.2, we
will discuss the role of each player in the flow of resources.
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GDP= C + I + G + (X – M)
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HOUSEHOLDS: When consumers buy goods and services this is known to be consumption. This
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returns to firm in the form of consumption in the product market.
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FIRMS: When the firm spends money on capital goods, it refers to the property, equipment and
technology used to produce goods and services this, we called investment.
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GOVERNMENT: When the government spends money that provides public goods and safety like,
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infrastructure bridges and highways, education building of public schools and healthcare to the
households and firms it is simply called government spending. To answer where do the government
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get the money to spend on, of course, it came from the taxes and licenses paid by the firms,
households and even foreigners.
FOREIGNERS: Money spent by foreigners on our country’s goods and services. Foreigners earn
their income in their own country’s resource market but they choose to spent some of those income
in our country’s goods and services and this leads with increase in our country’s GDP because of the
money flow in the economy and this is defined as exports. In return, what if somebody in our country
buys a goods or services from abroad? Technically, any money spent on goods and services to other
country must be subtracted to our GDP because it is the products or services produce by other
nationality. Thus, any money spent on goods and services to other country is considered imports.
LECTURE 3: MARKET AND BASIC PRINCIPLES OF DEMAND
Introduction
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Economics helps address and contribute to balanced supply and demand with the issue of excess supply
and demand. We don't want oversupply in our needs this leads to loss of profit. It is not effective for
entrepreneurs if their inventories or stocks exceed real demand.
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Defining the Market
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A market is composed of consumers and suppliers of a specific product. The buyers/consumers
determine the demand, and the suppliers/sellers determine the supply of goods and services.
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An interaction or trading between buyers and sellers.
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Any market place or venue for buying and selling of products
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Types of Market
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Markets are commonly known as factor markets or goods markets.
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Factor markets refer to the purchasing and selling of factors of production. In free market or
market economy, households are the owners and therefore could be the providers of the
factors of production (like land, labor, capital).
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Goods market- where we buy consumer goods. markets for the output of production.
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Labor market - the venue for potential employees looking for a job and ready to provide
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services. In the same way, it is a venue for employers who are hiring workers for particular
jobs.
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Financial market- where securities of corporations are traded.
BASIC PRINCIPLES OF DEMAND
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DEMAND is the willingness and ability of consumers to buy a certain quantity of good or service at a
certain price.
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MARKET DEMAND is the aggregate demand of all consumers, who buy the goods in the market.
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THE LAW OF DEMAND
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As price increases, the quantity demand for that product decreases, other things held constant
(ceteris paribus)
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There is an opposite relationship between the price of a product and the quantity demanded.
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“It states that quantity demanded varies inversely with price, other things held constant. Thus,
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the higher the price (P) , the smaller the quantity demanded; the lower the price (P), the greater
the quantity demanded” (Dinio, et.al., 2017).
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Conditions and assumptions of Law of Demand
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1. There is no variation or change in the consumers’ income. If there is an increase or decrease on this
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factor, the law might not be applicable.
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2. The consumers’ taste and preference do not change
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3. The price of substitute goods or complement goods do not increase nor decrease
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“The law of demand can be expressed through demand schedule and demand curve.
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CETERIS PARIBUS
- all other factors are held constant except the one that is under study (example: price only)
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- the variables that might influence the demand for the product do not vary or change and the only thing
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that affects the quantity demand is only the price
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DEMAND SCHEDULE
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It indicates the different amount or quantity that the consumer is willing to buy at different given
prices.
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“The Law of Demand states that when the price of a commodity falls, its demand increases and when
the price of a commodity rises, its demand decreases; other things remaining constant. Thus, there exists
an inverse relationship between price and quantity demanded of a commodity. The functional relationship
between price and quantity demanded can be represented as Dx = f(Px).” (Dinio, et al, 2017)
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This is a tabular representation of various quantity demanded at various price level.
Classifications of Demand Schedules :
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a. Individual Demand Schedule
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b. Market Demand Schedule
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DEMAND CURVE
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It illustrates the demand schedule graphically, with the price of a good on Y axis and the quantity
demanded on X axis
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DEMAND FUNCTION
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It illustrates how the determinants affect the quantity demanded for a product, most importantly,
how the price determines the demand for the commodity.
Example:
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Qd= 6-P/2
Demand schedule for bottles of soy sauce given the following prices:
Price per bottle of soy sauce
Number of bottles
P0
6
2
5
4
4
6
3
8
2
10
1
Computation based on demand function Qd= 6-P/2
Qd= 6- (0/2)= 6
Qd= 6-(6/2)= 3
Qd= 6-(2/2)= 5
Qd= 6-(8/2)= 2
Qd= 6-(4/2)= 4
Qd= 6-(10/2)= 1
PRICE
12
10
8
6
Series 1
4
2
0
1
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2
3
4
5
Qd
There is inverse relationship between the price of a commodity and the quantity demanded for
that good
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At a lower price, consumer buys more and at a higher price, consumption tends to go down
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The downward slope shows that the higher the price, the lower the demand for the product
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The negative slope happens because of income and substitution effect
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Income effect
- when the price of a good increases or decreases, the consumer’s real income or purchasing power also
changes
- It shows that when a commodity’s price increases, real income decreases and the buyers tend to
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decrease the amount of goods they buy
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Substitution effect
- it is felt when a change in the price of a good changes demand due to alternative consumption of
substitute goods; consumers substitute expensive goods with cheaper goods
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Change in Quantity Demanded vs. Change in Demand
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There is a difference between the change in demand and the change in quantity demanded. This is
shown by a shift in the demand curve or a movement along demand curve.
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Change in Quantity Demand: movement along demand curve
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Change in Demand: shifting in demand curve
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Change in the quantity demanded:
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“Changes in the quantity demanded refers to the movements along a “fixed” demand curve as a
response to a change in the good's own price, ceteris paribus.”
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“An increase in quantity demanded is caused by a decrease in price while a decrease in quantity
demanded is caused by an increase in price.” (Birchall, 2016)
Change in demand:
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When determinants affect change in demand, and the other things remain constant even the price, then
the demand will change, and the demand curve will move or shift to the right or to the left. The shifting in
demand indicates that there is a change in the quantity demanded at every given price. In this case, even
though the price of the good remains constant the quantity will either increase or decrease as shown in
the graph. When the other variables affect the demand to shift to the right, the move from D1 to D2, then
this signifies an increase in demand. The reason is that, at the same price of P1 the quantity that
consumers plan to buy increases from Q1 to Q2. On the other hand, when the other variables affect the
demand curve to shift to the left, the move from D1 to D3, then this is referred to as a decrease in demand.
It happens when at the same price of P1, the quantity that consumers would like to purchase fall from Q1
to Q3.
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NON-PRICE DETERMINANTS OF DEMAND
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If ceteris paribus is disregarded or dropped, the variables other than price which also influence
demand can now affect demand (income, taste, expectations, prices of related goods and
population)
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Demand function will be: D= f( P, T, Y, E, PR, NC ) which means that demand for a commodity is
a function of price (P), taste (T), income (Y), expectations (E), price of related goods (PR), and
the number of consumers (NC)
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The demand curve will move or shift rightward to reflect rise in demand and it will move or shift
leftward to show a decline in demand due to non-price determinants or variables
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Income – the income of the consumer influences the capacity to purchase
1.
Income ↑ QD↑
Income ↓ QD↓
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Shift to the right
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Shift to the left
The effect of consumers' income on demand relies on the type of good (normal or inferior good)
It is a normal good if a higher income of consumers raise the demand for the commodity; in this
case the demand curve will shift to the right (examples include cloths, cars, vacations)
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It is an inferior good if a higher income causes demand for the good to decline; in this case, the
demand curve will shift to the left. (Example: used cars or used furniture)
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1. Prices of related goods
PSUBSTITUTTE ↑ QD of Chosen Good↑ Shift to the right
PSUBSTITUTTE ↓ QD of Chosen Good↓ Shift to the left
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Commodities can be related or unrelated goods
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If the two commodities are unrelated, then the change in the price of one item will have no effect
on the demand for the other good. For example, the change in the price of tomatoes will have no
influence on the demand for cars.
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As for related goods, their market price and availability may have an effect to the level of demand
for another good. This depends on whether the goods are complement or substitute goods.
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a. Substitute goods
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These are goods that are consumed as a replacement for the other good. For example, beef and
chicken, broccoli and cauli flower, etc.)
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For these goods, an increase in the price of one good will increase demand (shifts demand curve
rightward) for the other good and the opposite is true for the decrease in the price of the first good.
b.
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Complementary goods
PCOMPLEMENTARY ↑ QD of Other Complement ↓
PCOMPLEMENTARY ↓
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Shift to the left
QD of Other Complement ↑ Shift to the right
These goods are usually consumed together. For example, cars and gasoline, DVDs and DVD
players, sugar and tea, etc.
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For these goods, an increase in the price of one of the goods will decrease the demand for the
other good and the opposite is true. For example, the demand for coffee creamer would increase
and the demand curve will shift to the right if the price of coffee decreases.
If X and Y are related goods, then
Expectation – prospect of what is going to happen to the price can influence the demand of a
3.
commodity
-
“
PFUTURE ↑ QD↑
Shift to the right
PFUTURE ↓ QD↓
Shift to the left
When there is an expectation that the price of the commodity will increase, then the present
demand will rise and the demand curve will shift to the right
”
-
“
When there is an expectation that the income of consumer will increase, then the present demand
will rise and the demand curve will shift to the right
”
Taste – preference that may influence the demand for a commodity
4.
Factors affecting taste:
a.
Cultural values
b.
Peer pressure
c.
Power of advertising
-
“
Taste ↑ QD↑
Shift to the right
Taste ↓ QD↓
Shift to the left
Consumers with similar income may still differ in their demands depending on their preference to
the goods and services.
-
“
”
If consumers prefer a certain commodity due to a certain reason, then the demand for that good
will rise. If they do not like a certain good, then the demand for it will fall.
5.
“
”
Number of consumers (market) – size and characteristic of the population
Population ↑ QD↑
Shift to the right
Population ↓ QD↓
Shift to the left
The greater the number of the consumers of the good, the higher will be the demand for the commodity.
”
LECTURE 4: BASIC PRINCIPLES OF SUPPLY
SUPPLY
-
“
It is the willingness of sellers to offer a given quantity of a good or service for a given price.
”
QUANTITY SUPPLIED
-
“
It refers to the amount of good that a seller is willing to offer for sale
”
THE LAW OF SUPPLY
“
-
”
“With the premises of ceteris paribus, there is direct relationship between the price of a good and
the quantity supplied of that good”
-
“As the price increases, the quantity supplied of that product also increases” (Dinio, et.al, 2017)
SUPPLY SCHEDULE
-
“
It represents the various quantities the supplier is willing to sell at certain prices
”
It denotes the relationship between the supply and the price, while all non-price variables remain
constant.
“
Classifications of Supply Schedules :
”
a. Individual Supply Schedule
b. Market Supply Schedule
SUPPLY CURVE
-
“
It illustrates the supply schedule graphically; it has upward slope which signifies the direct
relationship between the price and quantity supplied for that commodity
”
SUPPLY FUNCTION
-
“
It presents how the supply for a certain commodity is affected by different determinants or
variables
”
Example of supply function: Qs= 100 + 5P
Supply schedule (based on given supply function above):
Computation based on the supply function Qs= 100 + 5P
Qs= 100 + 5 (20)= 200
Qs= 100 + 5 (40)= 300
Qs= 100 + 5 (60)= 400
Qs= 100 + 5 (80)= 500
Qs= 100 + 5 (100)= 600
PRICE
90
80
70
60
50
Series 1
40
30
20
10
0
100
200
300
400
500
Qs
Change in Quantity Supplied vs. Change in Supply
Change in Quantity supplied: Movement along the same supply curve
Change in Supply: Shifting of supply curve
“
“
Change in the quantity supplied
”
If the price of the commodity changes, the quantity supplied will also change. In this case, it will only
move along the same supply curve. A rise in price from P1 to P2 raises the quantity supplied as shown
in the figure from Q1 to Q2. If the price of the good decreases, quantity supplied also declines as shown
in the figure, it is the movement from P1 to P3.
”
Changes in supply
“
There will be increase or decrease in supply of commodity if the non-price determinants vary. This will
lead to a shift of the supply curve. Higher supply results in shifting to the right of the curve and lower
supply will lead to shifting to the left of the curve.
”
“
By looking at the graph, at a price of P1, as the supply curve shifts rightward (S1 to S2), the quantity of
the good moves from Q1 to Q2 which signifies that the quantity rises. If other determinants will make the
supply curve to shift leftward (S1 to S3), It will result to decrease in quantity supplied (movement from
Q1 to Q3).
”
NON-PRICE DETERMINANTS OF SUPPLY
1. Price of Production Input – value added to raw materials through the process of production
Intermediate Input – raw materials; these are still going to be processed or transformed into higher levels
of output
Examples:
Lumber
Oil
Mineral
Factor Input – processing or transforming input
Examples:
Labor
Capital
Land
PRODUCTION INPUT ↑
Cost of Production↑ QS↓
PRODUCTION INPUT ↓
Cost of Production↓ QS↑
-
Producers create a method of combining factors of production in order to create a product.
Generally, it is the production cost that determines the supply of the commodity.
-
“
When the price of the factors of production increases, the minimum price will increase, too. So
we can say that an increase in the price of the factors of production decreases supply and makes
the supply curve to shift to the left.
-
“
”
Likewise, if production cost decreases, producers will now have the incentives to increase their
production. This will result to rise in supply of the commodity which will then make the supply
curve to shift to the right.
”
2. Taxes – monetary expense paid to the government
Taxes ↑ QS↓
3. Technology – the manner in which factor inputs process intermediate inputs is done through
technology
Improvement or discovery in technology
Improved technology (Cost of Production) ↑ QS↓
Obsolete technology (Cost of Production) ↓ QS↑
-
“
Improvement in the technology used in production will result any of these two: number of
produced goods or output will increase without changing the quantity of factors of production or
firms will need less resources to create the same quantity of products.
-
“
”
If less materials or resources will be used to create the same level of output when technology is
improved, then there will be lower cost of production which will result for the supply to increase.
This will make the supply curve to shift rightward.
-
“
”
For example, the price of computers has greatly decreased as technology evolved. This causes
the telecommunication industry to have lower cost. With this great innovation of technology, the
supply curve tend to shift rightward.
”
4. Expectation – anticipation on what is going to happen on the price of the commodity
PFUTURE ↑ QS↑
PFUTURE ↓ QS↓
-
“
If there is an expectation that the market price for a certain commodity will decrease in the future,
then the present quantity supply will rise resulting to the shifting to the right of the supply curve.
-
“
”
Conversely, if it is anticipated that the price of the good will increase in the future, suppliers may try
to limit their supply in the market so they can benefit of the expected higher price. This will result to
decline in the quantity supply of the good thus, shifting the curve to the left.
5. Availability of raw materials and resources
Materials and Resources ↑ QS↑
Materials and Resources ↓ QS↓
”
6. Number of Sellers:
-
The more sellers of a good, the higher is the supply.
-
More suppliers of a commodity will shift the supply curve of that good to the right.
NOTE:
-
“
If a non-price determinant causes higher supply of goods, then the entire supply curve will shift
rightward; on the other hand, a decline in supply of a good will make the supply curve to shift
leftward.
”
MARKET EQUILIBRIUM: Bringing Demand and Supply Together
-
A state of balance between demand and supply
-
“The quantity that sellers are willing to sell and the quantity that buyers are willing to buy for a
price” (Dinio et.al, 2017)
-
The equilibrium price is the given price in which the quantity demanded, and the quantity supplied
are equal. At this price buyers are buying all the goods they desire, sellers are selling all the goods
they desire, and there is no pressure for the market price to change.
DETERMINATION OF MARKET EQUILIBRIUM
For example, given here are the demand and supply function of product X:
If we use the functions above, this will be the demand and supply schedule which will be derived at
certain prices.
PRICE
Qd
Qs
0
60
5
2
59
15
4
58
25
6
57
35
8
56
45
10
55
55
12
54
65
14
53
75
16
52
85
Equilibrium is attained when Qd=Qs
Through computation using the functions:
Qd= 60- P/2
and
60- P/2= 5+5P
60-5= 5P+ P/2
(2) 55= 5P+P/2 (2)
110= 10P + P
110/11= 11P/ 11
P= 10
•
Using P=10, substitute P in the functions:
Qd= 60- P/2
Qd= 60- (10)/2
Qd= 60- 5
Qd= 55
Qs= 5 + 5P
Qs= 5+ 5 (10)
Qs= 5+ 50
Qs= 55
Equilibrium price is P10 and equilibrium quantity is 55
Qs= 5 + 5P
LECTURE 5
ADVANCING
LECTURE OUTLINE
Why does your mother often compare prices first before buying products in the grocery store?
Why did Filipinos celebrate when the two telecommunication giants Globe Telecom, Inc. and Smart
Communications Inc. finally extended the validity period of prepaid cellular credits to one year? Why did
farmers in Northern and Central Luzon dump tons of their produce like tomatoes and other vegetables?
“
The answers to these and other related questions are explored in this lesson which still takes a closer
scrutiny in the demand and supply affecting the price in the market that leads to different economic
decisions of consumers and producers.
”
As discussed in the previous lessons, macroeconomics concentrates on the bigger picture in the
market or the aggregate demand and supply. You must understand that this huge scenario is formed
through puzzle pieces of individual decisions of the households, firms and the government including the
rest of the world. Now that you already have an idea about market economy from Lesson 1, you will
better understand how the decisions of the players in the market economy are affected by different factors
especially the price in the market and how it sets the relative scarcity of products and resources.
The Market System
“
”
“
A venue where consumers and suppliers of goods transact on buying or selling of any items is
called a market. It sets the amount of good or service to be rendered and most importantly the price that
the output is going to be sold or bought.
”
The Market Price System
The price of commodity is an index of cost or sacrifice (for producers) and benefit or satisfaction
(for consumers).
This can be summarized as follows:
Price of Commodity
Buyers/Consumers
Cost/ Sacrifice
Benefit
Sellers/Producers
Cost/ Sacrifice
Benefit
Expense to acquire the Satisfaction
good or service
Unit cost of production
Payment and profit
The price of the products determines the economic decisions of the players in the market. The
buyers depend on the prices as to how they will satisfy their needs and desires. The sellers depend on
the prices as to the quantity of products that they will supply in the market. It could be a manifestation of
the perception about the product- a higher price reflects a higher value of the product while a lower price
manifests a lower value of the product.
“
Price System in the Market Economy
”
As what you have learned in Lesson 2, neither the producers nor consumers can impact the prices
in the market economy. Prices are decided by interactions between the producers and the consumers
“
which brings the natural flow of demand and supply in the market.
”
REMEMBER!
“
“
The price of commodity is a reflection of relative scarcity
*”
•
Price increases if the commodities are in need.
•
Price decreases if the commodities are abundant in nature.
To understand further the price system in the market, let us first define the price ceiling and price floor
and their relation to shortage and surplus of products and resources.
“
“
”
Price floor and Surplus
”
In a market economy, an effective price floor of products leads to surplus. Price floor is the
minimum or least price of a product that is set by the government to intervene in the market price.
Since the price floor is set to be greater than the equilibrium level, the normal response of the sellers is
to increase their supply. But since the price is high, the buyers’ response is to decrease their demand for
the product. In this event that there is more supply of product than the demand in the market, surplus of
products occurs.
”
“
In this graph, the Qd in price floor is less than the Qs. This distance between the Qs and
Qd is the surplus.
”
EXAMPLE:
“
There are times that the government administer prices higher than equilibrium price to
protect the producers. One instance is when a typhoon hit the country’s agricultural lands, so
the government tries to help farmers to still secure good income amidst the calamity by setting
a price floor or the lowest price that is charged to the products. This price floor is above
the equilibrium price to still attain higher prices for the produce of the farmers.
Price Ceiling and Shortage
“
”
Price ceiling is the maximum price that is charged for a product or the maximum selling
price. An effective price ceiling set by the governments leads to shortage. Because price ceiling is
set under the equilibrium level, the normal response of the buyers to a decreased price is to increase
their demand. However, due to lower price in the market, the sellers or producers are discouraged to
sell more because of decrease in profit so they tend to decrease their quantity supply. In this event
that there is greater demand for a commodity but not being satisfied by the sellers, shortage occurs.
”
“
In this graph, the Qd in price ceiling is greater than the Qs. This distance between the Qs
and Qd is the shortage .
”
EXAMPLE:
“
Price ceiling is set to protect the households or the consumers. One example of
government intervention is when it sets price ceiling to rice. The government may set the
maximum price that the producers can sell certain types of rice in the market to avoid abuse
of some sellers to the buyers. This price ceiling is administered below or under the equilibrium
price to achieve offering of low price for a commodity. Since the price of rice is low, there are
rice suppliers who are discouraged to sell more. A few even try to hoard rice which is illegal
for it violates Republic Act No. 7581 or the Price Act.
“
”
When there is disequilibrium (absence of equilibrium level on price and quantity), or when
there is problem of scarcity in the market, it is addressed through the changes in price . Price plays
”
“
as an indication of shortage or surplus. It then helps firms and households to respond to varying
changes in the condition in the market .
”
Here is how it happens:
Shortage of Goods
Surplus of Goods
Price= tends to rise
Price= tends to fall
Corresponding Response:
Corresponding Response:
Buyers – Decrease demand
Sellers – Increase supply
Buyers – Increase demand
Sellers – Decrease supply
REMEMBER!
“
A surplus pushes pressure in a downward manner on the price and a shortage
pushes pressure in an upward manner on the price to achieve the equilibrium
level. However, markets do not always attain equilibrium immediately. During this
adjustment period of price to set on equilibrium level, the market is said to be in
disequilibrium .
”
“
As price is pushes downward in surplus or as price is pushes upward in shortage, it will
eventually reach a point that the demand and supply intersect. You learned in Lesson 3 that when
demand and supply curve meet at one point of price and quantity, that is called equilibrium point. This
is the point wherein the price in the market is enough to encourage sellers to supply in the market
that same quantity of goods that buyers will be willing to pay for at that same given price .
”
“
ELASTICITIES OF DEMAND AND SUPPLY
”
You have learned in the previous lesson that demand and supply respond to changes in
different determinants (price, income, etc.). The demand and supply of these products also react to
changes in their determinants. This degree of response to a change in determinant is called elasticity.
Big Idea:
Elasticity is a measure of how much buyers and sellers respond to changes in
market conditions or changes in determinants .
“
”
The coefficient of elasticity is computed by dividing percentage change in demand by the
“
*
percentage change in any of its determinant like price (since price of commodity is the basic
”
determinant of both demand and supply).
DEGREES OF ELASTICITY:
1. ELASTIC DEMAND OR SUPPLY – a variation or change in determinant will result to a
““
*
proportionately greater variation or change in demand or supply .
”
“
It means that there will be greater or bigger percentage variation or difference in the quantity
demanded or supplied when one of their determinants changes (whether increases or
decreases) .
”
Remember: The absolute value of the coefficient of elasticity is greater than 1 .
“
”
Example:
“
If the price of a dress rise by 10% and this leads to decrease in the quantity demanded for that
dress by 12%, then we conclude that the demand for dress is elastic .
”
Computation:
E= % change in Quantity demand or supply / % change in determinant (like price)
“
”
E= 12/10
E= = 1.2
ELASTIC
2. INELASTIC DEMAND OR SUPPLY - a change in determinant will result to a proportionately
*
“
lesser change in demand or supply .
”
“
It shows that the result will be lesser or little percentage change in quantity demanded or
supplied when one of their determinants changes (whether increase or decrease) .
”
Remember: The absolute value of the coefficient of elasticity is less than 1 .
“
”
Example:
“
If the price of rice increases by 12% and as a result the quantity demanded goes down by
6%, then it can be concluded that the demand for rice is inelastic .
”
Computation:
E= % change in Qd or Qs / % change in determinant (like price)
“
”
“
”
E= 6/12
E= 0.5
INELASTIC
3. UNITARY ELASTIC - a change in determinant will lead to an equal change in demand or
“
”
“
supply .
”
Remember: The absolute value of the coefficient of elasticity is equal to 1.
Example;
“
If the price of broccoli increases by 5% and this leads to decrease in the quantity demanded
for broccoli by 5%, then it can be concluded that the demand for broccoli is unitary elastic .
”
Computation:
E= % change in Qd or Qs / % change in determinant (like the price)
“
”
“
”
E= 5/5
E= 1
UNITARY ELASTIC
ELASTICITY OF DEMAND
“
According to Agarwal (2018) and Judge (2020), there are three categories of elasticity of
demand. These three types deal with the responses to a change in the price of the good itself, in
income, and in the price of a related good, which is a substitute or a complement .
”
1. Price Elasticity of Demand (PED)
“
”
“
This quantifies or measures the sensitivity of response of the quantity demand to the
change in price of the good or service. This concept is computed based on percentage
changes .
”
“
This formula for midpoint is used to calculate for PED or price elasticity of demand :
”
Where:
Change in Qty=
Q1=
Q2-Q1
“
Q2=
“
original Qd
”
new Qd
”
Change in price=
P2-P1
P1=
original price of the good
P2=
new price of the good
“
Take note that the coefficient of elasticity is negative due to the opposite relationship
between the price of the product and the quantity demanded for that product . In this case, we
”
say that the coefficient of elasticity is absolute value (ignoring the negative sign, so it is always
*
positive).
Disregarding the negative sign, the coefficient of PED represents the nature of the product
involved:
➢ Elastic= When the computed PED is greater than 1, it means that the demand for that product
“
is elastic
”
( the change in percentage of Qd is higher than the change in percentage of price )
“
”
Interpretation: The good is non-essential because buyers are sensitive to its price .
“
”
EXAMPLE OF ELASTIC PED:
Real estate is one example of this. Since there are many different housing choices like
townhouses, condos, apartments, or resorts. The options make easy for people to not pay
more than they demand. It is then a non- essential good because a little increase in price of
housing would make the buyers look for other choices in the market.
➢ Inelastic= When the computed PED is less than 1, it means that the demand for that product
“
is inelastic
”
( The change in percentage of Qd is lower than the change in percentage in price )
“
”
Interpretation: The product is an essential or important good because buyers show little
“
response to the change in its price .
”
EXAMPLE OF INELASTIC PED:
Gasoline is one example of this because there’s no alternative for this good. It is a necessity
for people with car because they need to buy gasoline to use the vehicle. There could be a
weak substitute like buses or train riding. If the price of the gasoline goes up, drivers don’t have
much of a choice but to still buy it. Therefore, the demand for it is inelastic .
“
”
➢ Unitary elastic= When the coefficient of price elasticity is equal to 1, we say that the demand
“
for it is unitary elastic . It shows that there is proportional variation or change in the Qd and
”
“
the price of the product .
”
➢ Perfectly elastic= if there is a little % change in the price of the good, the Qd changes from 0
“
to infinity .
”
The coefficient of elasticity is equal to infinity (∞)
This signifies when seller increases the prices of his product, no one will buy from him.
➢ Perfectly inelastic= If there is price variation or price change of the product, the change in Qd
“
is equal to zero .
”
“
It means that consumers still buy the exact quantity of the product regardless of the price .
”
Big Idea:
“
Firms need to calculate the price elasticity of demand to know the impact to
their sales if their price drops. The Law of Demand states that a lower price for
*
the product leads to higher quantity demanded for that product, but by how
much? It is important to note how sensitive the quantity demand is with respect
*
to a change in price because if a quantity demanded rises enough, a cut to the
unit cost of the product will be profitable for the firm .
”
2. INCOME ELASTICITY OF DEMAND (YED)
“
“
”
This signifies the sensitivity of quantity demanded to the % change in income of the consumers .
”
YED = (% 𝑐ℎ𝑎𝑛𝑔𝑒 𝑖𝑛 𝑑𝑒𝑚𝑎𝑛𝑑)/ (% 𝑐ℎ𝑎𝑛𝑔𝑒 𝑖𝑛 𝑖𝑛𝑐𝑜𝑚e)
Normal Goods - goods that consumer tends to buy more when their income increases. The demand
“
*
for these products increases as the income of the consumers rises . The demand curve will move to
”
“
the right or shift to right as the income rises .
”
A positive sign (+) for YED shows that it is a normal good. As income increases, buyers can
now afford to buy more expensive counterpart of the goods that they were buying before.
Example:
As the consumers’ income increases, the demand for beef steak rises and the demand for
chicken decreases.
Inferior Goods - goods that are bought by consumers when their income becomes low or the demand
*
for these products goes down as the income of the consumers rises. Its demand curve shifts to the
“
left as the income rises .
”
A negative sign (-) for YED shows that it is an inferior good.
Example:
“
When the income of the consumers goes up, the demand for inexpensive brand of electric
fans falls because consumers will now switch to more expensive brands of electric fans or they may
even afford to buy air-conditioning units .
”
3. CROSS PRICE ELASTICITY (XED)
“
*
This computes how the demand quantity of a certain product changes as the price of a related
good changes . Cross-price elasticity computes how the demand for a good respond to the change
”
“
in the price of its substitute good or complement goods .
”
XED = (% 𝑐ℎ𝑎𝑛𝑔𝑒s 𝑖𝑛 Qd 𝑜𝑓 𝑔𝑜𝑜𝑑 𝑋) / (% price change 𝑜𝑓 𝑔𝑜𝑜𝑑 𝑌)
“
“
”
For example, Coca-Cola Company wants to see the relationship between the demand for their
products and the price of Pepsi and vice versa .
”
“
To compute the XED of the demand of Coke to the price change of Pepsi, here’s the equation :
”
XED = (% 𝑐ℎ𝑎𝑛𝑔𝑒 𝑖𝑛 𝑞𝑢𝑎𝑛𝑡𝑖𝑡𝑦 𝑑𝑒𝑚𝑎𝑛𝑑𝑒𝑑 𝑜𝑓 Coke) / (% 𝐶ℎ𝑎𝑛𝑔𝑒 𝑖𝑛 𝑝𝑟𝑖𝑐𝑒 𝑜𝑓 Pepsi)
▪
“
“
If the value of Cross Price Elasticity is positive (+)
Substitute good
(It shows that when the product price increases, the demand for the substitute product rises)
Example: When the price of bread goes up, buyers will substitute rice for bread
▪
“
When value of Cross Price Elasticity is negative (-)
”
”
”
Complement good
( It shows that the demand for a product will increase when the market price of its complement
“
decreases )
”
“
Example: When price of cellphone load goes up significantly, it will lead to decrease of cellphone
demand
”
▪
“
When Cross Price Elasticity is zero
”
“
The two products are unrelated
”
PRICE ELASTICITY OF SUPPLY (PES)
*
“
This calculates how the suppliers respond to the variation of products’ price in the market .
”
Steep curve of supply
“
Flat curve of supply
products that are easy to produce = ELASTIC SUPPLY
”
“
products that need a long time to produce = INELASTIC
”
SUPPLY
➢ An elastic supply indicates that firms can increase their output level without an increase in
“
cost or delay in time frame .
”
➢ An inelastic supply means that producers have difficulty in changing their output level in a
“
given time frame .
”
➢ Perfectly elastic supply curve (horizontal curve) is a case when firms are prepared to supply
“
any amount of good at a certain price, but at any price decrease, the supplier will never supply
a good .
”
EXAMPLE OF PERFECTLY ELASTIC
Example of perfectly elastic supply curve are the goods in the supermarket. Consumers can buy
as much as they want for as long as it is on the prevailing price . But they will not be able to buy
anything if they try to buy the goods lower than the prevailing price.
*
➢ Perfectly inelastic supply curve is the most unresponsive supply to any change in price. This
“
means that the percentage change in quantity supplied is zero no matter what the price is .
”
EXAMPLE OF PERFECTLY INELASTIC
Example of perfectly inelastic supply curve are the goods that have fixed supply in the market.
Paintings of Picasso, Cadillacs that was owned by Elvis Presley, are examples of this.
PES = (% 𝑐ℎ𝑎𝑛𝑔𝑒 𝑖𝑛 𝑞𝑢𝑎𝑛𝑡𝑖𝑡𝑦 𝑆𝑢𝑝𝑝𝑙𝑖𝑒𝑑) / (% 𝑐ℎ𝑎𝑛𝑔𝑒 𝑖𝑛 𝑃𝑟𝑖𝑐𝑒)
If PES > 1
supply is price elastic
PES = 0
supply is perfectly inelastic
PES = infinity
supply is perfectly elastic
PES < 1
supply is price inelastic
*
*
*
*
Source: Economics, A Contemporary Introduction 7th Edition p. 102