PRINCIPLES OF ECONOMICS Third Edition
© Oxford Fajar Sdn. Bhd. (008974-T), 2013
All Rights Reserved
2– 1
CHAPTER
2
DEMAND AND SUPPLY
PRINCIPLES OF ECONOMICS Third Edition
© Oxford Fajar Sdn. Bhd. (008974-T), 2013
All Rights Reserved
2– 2
DEFINITION OF DEMAND
Demand is defined as the ability and willingness
to buy specific quantities of goods
in a given period of time
at a particular price, ceteris paribus.
PRINCIPLES OF ECONOMICS Third Edition
© Oxford Fajar Sdn. Bhd. (008974-T), 2013
All Rights Reserved
2– 3
CLASSIFICATION OF GOODS
AND SERVICES

Free goods are goods that have no production
cost.
 Public goods are goods that are for common
use and will benefit everyone.
 Economic goods are goods of value that can
be seen and touched. Economic services are
intangible things (with value) that cannot been
seen or touched.
PRINCIPLES OF ECONOMICS Third Edition
© Oxford Fajar Sdn. Bhd. (008974-T), 2013
All Rights Reserved
2– 4
LAW OF DEMAND
Law of demand states that the higher the price
of a good, the lower is the quantity demanded
for that good and the lower the price, the higher
is the quantity demanded, ceteris paribus.
P  Qdd 
P  Qdd 
NEGATIVE RELATIONSHIP
PRINCIPLES OF ECONOMICS Third Edition
© Oxford Fajar Sdn. Bhd. (008974-T), 2013
All Rights Reserved
2– 5
DEMAND SCHEDULE AND
CURVE
Demand Schedule
Demand Curve
Price
Quantity
5
2
12
10
4
4
8
3
6
6
2
8
4
1
10
2
DD
0
2
PRINCIPLES OF ECONOMICS Third Edition
© Oxford Fajar Sdn. Bhd. (008974-T), 2013
4
6
8
10
All Rights Reserved
2– 6
INDIVIDUAL AND MARKET
DEMAND
INDIVIDUAL DEMAND
The relationship between the quantity
of a good demanded by a single individual
and its price.
MARKET DEMAND
The relationship between the total quantity
of a good demanded by adding all the quantities demanded
by all consumers in the market and its price.
PRINCIPLES OF ECONOMICS Third Edition
© Oxford Fajar Sdn. Bhd. (008974-T), 2013
All Rights Reserved
2– 7
Consumers’
income
Tastes and
trends
Price of
related goods
Supply of
money in
circulation
Level of taxation
Population or
number of
buyers
DETERMINANTS
OF DEMAND
Festive
seasons and
climate
PRINCIPLES OF ECONOMICS Third Edition
© Oxford Fajar Sdn. Bhd. (008974-T), 2013
Expectation
about future
prices
Advertisement
All Rights Reserved
2– 8
CHANGES IN QUANTITY DEMANDED
VS. CHANGES IN DEMAND
CHANGES IN QUANTITY DEMANDED
CHANGES IN DEMAND
Price
Price
D1
DD




D0
Quantity
Movement along DD curve
Price changes and other factors are
constant
Upward movement  Decrease in
quantity demanded (Contraction)
Downward movement  Increase in
quantity demanded (Expansion)
PRINCIPLES OF ECONOMICS Third Edition
© Oxford Fajar Sdn. Bhd. (008974-T), 2013
Quantity




Shift in the demand curve
Occurs when there are changes in
other factors but price remains
constant
Increase in Demand (D0  D1)
Decrease in Demand (D1  D0)
All Rights Reserved
2– 9
EXCEPTIONAL DEMAND
Exceptional Demand is the opposite of the Law of Demand
where as price increases, demand will also increase and vice versa.
GIFFEN GOODS
SPECULATION
EMERGENCIES
STATUS SYMBOL GOODS
HIGHLY-PRICED GOODS
PRINCIPLES OF ECONOMICS Third Edition
© Oxford Fajar Sdn. Bhd. (008974-T), 2013
All Rights Reserved
2– 10
INTER-RELATED DEMAND
CROSS DEMAND
The demand for a good is also affected by the price of
its substitute or complementary goods. Cross demand can be
divided into two: Joint demand and competitive demand.
DERIVED DEMAND
Derived demand is the demand for a good
which is derived from other goods.
PRINCIPLES OF ECONOMICS Third Edition
© Oxford Fajar Sdn. Bhd. (008974-T), 2013
All Rights Reserved
2– 11
CROSS DEMAND: JOINT DEMAND
VS. COMPETITIVE DEMAND
Cross Demand
Positive relationship exists
between substitute goods
Price of pizza
Price of pizza
DD
Negative relationship exists
between complement
goods
P2
P2
P1
P1
DD
Q1
Q2
Quantity of soft drinks
Joint Demand
PRINCIPLES OF ECONOMICS Third Edition
© Oxford Fajar Sdn. Bhd. (008974-T), 2013
Q1
Q2
Quantity of
soft drinks
Competitive Demand
All Rights Reserved
2– 12
DERIVED DEMAND
Cross Demand
Positive relationship exists
between substitute goods
Price (RM’000)
of pizza
Wage
Pricerate
of pizza
(RM per hour)
S0DD
S0
Negative relationship exists
between complement
goods
P21
P
P0
WR
P21
D1
WR
P10
P1
D1
D0DD
Q1
QQ0 2
Q1 Quantity Quantity
of soft drinks
Demand
Joint Demand
and supply for house
PRINCIPLES OF ECONOMICS Third Edition
© Oxford Fajar Sdn. Bhd. (008974-T), 2013
D0
Q01
Q02
Quantity
Quantity
of of
softworkers
drinks
Demand
Competitive
and supply
Demand
for carpenters
All Rights Reserved
2– 13
INTERRELATED DEMAND
COMPOSITE DEMAND
Composite demand is demand for a good
that has multiple uses
For example: oil can be used for petrol,
kerosene and diesel
PRINCIPLES OF ECONOMICS Third Edition
© Oxford Fajar Sdn. Bhd. (008974-T), 2013
All Rights Reserved
2– 14
COMPOSITE DEMAND
Price
Price
S1
S0
S0
P1
P1
P0
P0
D1
D0
Q0
Q1 Quantity
Demand and supply for petrol
PRINCIPLES OF ECONOMICS Third Edition
© Oxford Fajar Sdn. Bhd. (008974-T), 2013
D0
Q1
Q0
Quantity of
workers
Demand and supply for diesel
All Rights Reserved
2– 15
PRICE ELASTICITY OF DEMAND
DEFINITION:
Measures the sensitivity/responsiveness
of the quantity demanded
due to a change in its price.
PRINCIPLES OF ECONOMICS Third Edition
© Oxford Fajar Sdn. Bhd. (008974-T), 2013
All Rights Reserved
2– 16
PRICE ELASTICITY OF
DEMAND (cont.)
FORMULA:
d
=
%  Quantity Demanded
%  Price
d
=
Q 2 – Q1
Q1
PRINCIPLES OF ECONOMICS Third Edition
© Oxford Fajar Sdn. Bhd. (008974-T), 2013
x
P1
P2 – P1
All Rights Reserved
2– 17
DEGREE OF ELASTICITY
Price (RM)
d < 1
d =0
Perfectly Inelastic Demand
Inelastic
Demand
A condition in which
the quantity demanded does
not
change
as the price
changes.
A large
percentage
of change
in the price of a good
will only affect a small percentage of change in the
quantity demanded.
Elastic Demand
d = 
d = 1
A small percentage of change in the
price of a good
will leadElastic
to larger
Unitary
percentage of change in quantity
Demand
demanded.
Perfectly
Elastic
A condition in which
Demand
percentage changes in price
equals to percentage
A condition in which a small
changes in quantity
percentage of change in
demanded.
price leads to an infinite
percentage of change in the
quantity demanded.
d > 1
Quantity Demanded
PRINCIPLES OF ECONOMICS Third Edition
© Oxford Fajar Sdn. Bhd. (008974-T), 2013
All Rights Reserved
2– 18
Existenceofof
Existence
substitutes
substitutes
Frequently
purchased
products
Proportionofofthe
the
Proportion
expenditureon
onaa
expenditure
product
product
DETERMINANTS
OF PRICE ELASTICITY
OF DEMAND
Complementary
goods
PRINCIPLES OF ECONOMICS Third Edition
© Oxford Fajar Sdn. Bhd. (008974-T), 2013
Habits
Nature of
goods
Income level
Time
dimension
All Rights Reserved
2– 19
RELATIONSHIP TO TOTAL
REVENUE
Total Revenue (TR) = Price (P) x Quantity (Q)
The information on price elasticity of demand will be useful
for the seller to adjust their selling price since it will affect
the total revenue.
Price
DEMAND IS ELASTIC
RM30
Total Revenue
RM20 x 10 = RM200
RM20
If seller increases price to RM30
New Total Revenue
= RM30 x 5 = RM150
 TR =  RM50
D
5
10
PRINCIPLES OF ECONOMICS Third Edition
© Oxford Fajar Sdn. Bhd. (008974-T), 2013
Quantity Demanded
All Rights Reserved
2– 20
RELATIONSHIP TO TOTAL
REVENUE (cont.)
Price
Total Revenue (TR) = Price (P) x Quantity (Q)
DEMAND IS INELASTIC
Total Revenue
RM2
RM1 x 15 = RM15
If seller increases price to RM2
RM1
New Total Revenue
= RM2 x 10 = RM20
 TR =  RM5
D
10
15
PRINCIPLES OF ECONOMICS Third Edition
© Oxford Fajar Sdn. Bhd. (008974-T), 2013
Quantity Demanded
All Rights Reserved
2– 21
RELATIONSHIP TO TOTAL
REVENUE (cont.)
Total Revenue (TR) = Price (P) x Quantity (Q)
Price
DEMAND IS UNITARY ELASTIC
Total Revenue
RM2
RM1 x 20 = RM20
If seller increases price to RM2
New Total Revenue
RM1
= RM2 x 10 = RM20
 TR =  0
D
10
20
PRINCIPLES OF ECONOMICS Third Edition
© Oxford Fajar Sdn. Bhd. (008974-T), 2013
Quantity Demanded
All Rights Reserved
2– 22
INCOME ELASTICITY OF
DEMAND
DEFINITION:
Measures the sensitivity/responsiveness
of the quantity demanded
due to a change in income.
PRINCIPLES OF ECONOMICS Third Edition
© Oxford Fajar Sdn. Bhd. (008974-T), 2013
All Rights Reserved
2– 23
INCOME ELASTICITY OF
DEMAND (cont.)
FORMULA:
Y
=
%  Quantity Demanded
%  Income
Y
=
Q 2 – Q1
Q1
PRINCIPLES OF ECONOMICS Third Edition
© Oxford Fajar Sdn. Bhd. (008974-T), 2013
x
Y1
Y2 – Y1
All Rights Reserved
2– 24
RESPONSES OF INCOME
ELASTICITY
Elastic Income
Income
-Type of good: Luxury goods such as antique
furniture and diamonds
y =0
Inelastic Income
-Type of good: Normal goods such as food
and clothing
Negative Income Elasticity
-Type of good: Giffen/ Inferior goods such
as used car and low grade potatoes
Zero Income Elasticity
0 < y < 1
-Type of good: Necessity Goods such as rice
and vegetables
y > 1
y< 0
Quantity Demanded
PRINCIPLES OF ECONOMICS Third Edition
© Oxford Fajar Sdn. Bhd. (008974-T), 2013
All Rights Reserved
2– 25
CROSS ELASTICITY OF
DEMAND
DEFINITION:
Measures the sensitivity/responsiveness
of the quantity demanded of one product
due to a change in the price of a related product.
PRINCIPLES OF ECONOMICS Third Edition
© Oxford Fajar Sdn. Bhd. (008974-T), 2013
All Rights Reserved
2– 26
INCOME ELASTICITY OF
DEMAND
FORMULA:
X = %  Quantity Demanded of good X
%  Price of good Y
X
=
QX2 – QX1 x
QX1
PRINCIPLES OF ECONOMICS Third Edition
© Oxford Fajar Sdn. Bhd. (008974-T), 2013
PY1
PY2 – PY1
All Rights Reserved
2– 27
RESPONSES OF CROSS
ELASTICITY
Price of Good X
Positive Cross Elasticity
x =0
-Good X and Y are substitute goods
Negative Cross Elasticity
-Good X and Y are complementary goods
Zero Cross Elasticity
-Good X and Y have no relationship
x > 0
x < 0
Quantity Demanded
of Good Y
PRINCIPLES OF ECONOMICS Third Edition
© Oxford Fajar Sdn. Bhd. (008974-T), 2013
All Rights Reserved
2– 28
DEFINITION OF SUPPLY
Supply is defined as the ability and willingness
to sell or produce a particular product
and services in a given period of time
at a particular price, ceteris paribus.
PRINCIPLES OF ECONOMICS Third Edition
© Oxford Fajar Sdn. Bhd. (008974-T), 2013
All Rights Reserved
2– 29
LAW OF SUPPLY
Law of supply states that the higher the price
of a good, the greater is the quantity supplied
for that good and the lower the price of a good,
the lower is the quantity supplied, ceteris paribus.
P  Qss 
P  Qss 
POSITIVE RELATIONSHIP
PRINCIPLES OF ECONOMICS Third Edition
© Oxford Fajar Sdn. Bhd. (008974-T), 2013
All Rights Reserved
2– 30
SUPPLY SCHEDULE AND
CURVE
Supply Schedule
Supply Curve
Price
Quantity
12
5
10
10
4
8
8
3
6
6
2
4
4
1
2
2
Supply
0
1
PRINCIPLES OF ECONOMICS Third Edition
© Oxford Fajar Sdn. Bhd. (008974-T), 2013
2
3
4
5
All Rights Reserved
2– 31
INDIVIDUAL AND MARKET
SUPPLY
INDIVIDUAL SUPPLY
The relationship between the quantity of a product
supplied by a single seller and its price.
MARKET SUPPLY
The relationship between the total quantity
of a product supplied by adding all the
quantities supplied by all sellers
in the market and its price.
PRINCIPLES OF ECONOMICS Third Edition
© Oxford Fajar Sdn. Bhd. (008974-T), 2013
All Rights Reserved
2– 32
Proportion of the
Cost
of production
expenditure
on a
product
Price of related
goods
Improvement in
infrastructure
Expected
future price
DETERMINANTS
OF PRICE ELASTICITY
OF DEMAND
Government
Policies
PRINCIPLES OF ECONOMICS Third Edition
© Oxford Fajar Sdn. Bhd. (008974-T), 2013
Technological
advancement
Number of
sellers
All Rights Reserved
2– 33
CHANGE IN QUANTITY SUPPLIED
VS. CHANGE IN SUPPLY
CHANGE IN SUPPLY
CHANGE IN QUANTITY SUPPLIED
Price
Price
s0
s1
SS
Quantity
Quantity
 Movement along supply curve
 Shift in the supply curve
 Price changes and other factors are
constant
 Occurs when there are changes in
other factors but the price remains
constant
 Downward movement  Decrease in
quantity supplied (Contraction)
 Upward movement  Increase in
quantity supplied (Expansion)
PRINCIPLES OF ECONOMICS Third Edition
© Oxford Fajar Sdn. Bhd. (008974-T), 2013
 Increase in Supply (S0  S1)
 Decrease in Supply (S1  S0)
All Rights Reserved
2– 34
EXCEPTIONAL SUPPLY
Exceptional Supply is the opposite of the Law of
Supply where as price increases, the quantity supplied
decreases and vice versa
Wage Rate
20
Income Effect
(Exceptional Supply
Curve)
15
10
Substitution Effect
5
0
1
2
3
PRINCIPLES OF ECONOMICS Third Edition
© Oxford Fajar Sdn. Bhd. (008974-T), 2013
4
5
6
Labour
All Rights Reserved
2– 35
INTERRELATED DEMAND
JOINT SUPPLY
Increase in the supply of one good
brings to an increase in the supply
of another related goods.
PRINCIPLES OF ECONOMICS Third Edition
© Oxford Fajar Sdn. Bhd. (008974-T), 2013
All Rights Reserved
2– 36
PRICE ELASTICITY OF
SUPPLY
DEFINITION:
Measures the sensitivity/responsiveness
of the quantity supplied due to a change
in the price of a product or service.
PRINCIPLES OF ECONOMICS Third Edition
© Oxford Fajar Sdn. Bhd. (008974-T), 2013
All Rights Reserved
2– 37
PRICE ELASTICITY OF SUPPLY
(cont.)
FORMULA:
ss
=
%  Quantity Supplied
%  Price
SS
PRINCIPLES OF ECONOMICS Third Edition
© Oxford Fajar Sdn. Bhd. (008974-T), 2013
=
Q2 – Q1 x
Q1
P1
P2 – P1
All Rights Reserved
2– 38
DEGREE OF ELASTICITY
Elastic Supply
A small percentage of change in the price of a good will lead to
larger percentage of change in the quantity supplied.
Price (RM)
ss < 1
Inelastic Supply
ss =0
ss = 1
A large percentage of change in the price of a good
will only affect a small percentage of change of the
quantity supplied.
Unitary Elastic Supply
Percentage change in price equals the percentage
change in the quantity supplied.
Perfectly Elastic Supply
ss = 
An almost zero percentage of change in price
brings a very large percentage of change in the
quantity supplied.
Perfectly Inelastic Supply
ss > 1
A percentage of change in price has no effect on
the percentage of change in the quantity supplied.
Quantity Demanded
PRINCIPLES OF ECONOMICS Third Edition
© Oxford Fajar Sdn. Bhd. (008974-T), 2013
All Rights Reserved
2– 39
Time Period
Technology
improvements
Nature of the
market
DETERMINANTS
OF PRICE ELASTICITY
OF DEMAND
Availability and mobility of
factors of production
PRINCIPLES OF ECONOMICS Third Edition
© Oxford Fajar Sdn. Bhd. (008974-T), 2013
Perishability
All Rights Reserved
2– 40