CHAPTER 3

ELEMENTS OF DEMAND
AND SUPPLY
 Every economy must somehow solve the three basic economic
problems: what should be produced, how goods and services should be
produced, and for whom are the goods and services produced. Hence,
every economy must make decisions, and mostly it relies on the market
system and price.
The operation of demand and supply is the answer to the three
basic economic problems. In a market economy, prices of good and
services are determined by the interaction of demand and supply.
 This chapter shows how demand and supply work in a
competitive market. Also in this chapter, the basic concept of market
equilibrium will be discussed.
DEMAND
Demand refers to the number or amount of goods and services
desired by the consumers. The quantity demanded is the amount of
goods or services consumers are willing and able to buy/purchase at a
given price, place, and at a given period of time.
• Determinants of Demand
Determinants of demand are those that actually determine the
quantity of demand. Some determinants of demand are as follows:
Price of the good itself. As the price of certain goods and services
increases, the demands of these goods and services decreases or vice
versa.
Consumers’ Income. A change in income will cause a change in
demand. Consumers tend to buy more goods and acquire more
services when their income increases. On the other hand, demand for
such goods and services declines ones their income decreases. Thus,
changes on the consumers’ income likewise change their demand for
goods and services. The direction in which the demand will shift in
response to a change in income depends on the type of goods, to wit:
Normal Good. Refers to a good for which quantity demand ate every
price increases when income rises.

Inferior Goods. Refers to a good for which quantity demand falls when
income rises. Public transportation is a good example- as the income of
passengers increases, they stop riding this public mode of
transportation and instead drive their own car.
Consumers’ Expectation of Future Prices. The quantity of a good
demanded within any period depends not only a prices in that period
but also on prices expected in future periods. When someone expects
higher prices in the future especially for basic commodities, the
tendency is to buy more of this goods today. In the same manner,
demand for such goods decreases if consumers expect prices to decline
in the future.
Prices of Related Commodities/Goods. The quantity demanded of any
particular good will be affected by changes in the prices of related
goods. Changes in the prices of alternative goods such as pork and
chicken will affect the quantity of fish demanded. All other
commodities are either substitute or complementary.
Substitute goods are goods that can be used in place of other goods.
They are related in such a way that an increase in the price of one good
or vice versa. For example, coffee substitutes for tea.

Complementary goods are goods that go to other. They are related in

such a way that an increase in the price of one good will cause a
decrease in the demand for the other good. For example: car and
gasoline.
Consumers’ Tastes and Preferences. Consumers’ tastes and
preferences are a major factor determining the quantity of any good
demanded. An increase in the preference and taste for a certain good
will certainly increase the demand for that particular good. For
example, a change in preference from scooter to big bike will increase
the demand for big bikes and decrease the demand for scooters.
Population. An increase in the population means more demand for
goods and services. Inversely, less population means less demand for
good and services.
• Demand Schedule
The demand schedule is the relationship between the quantity of
a good demanded and the price of that good. Other factors that may
affect the quantity demanded, such as the price of other goods, re held
constant in drawing up the demand schedule.
The demand for a commodity can be illustrated in a tabular
presentation in Table 1.
• Demand Curve
The demand curve shows graphically the relationship between the
quantity of a good demanded and its corresponding price, with other
variables held constant. The demand curve is typically downward-
sloping. It describes the negative relation between the price of a good
and the quantity that consumers want to buy at a given price. The
demand schedule for shoes shown in Table 1 can be expressed into a
graph, with the price on y axis and the quantity demanded on the x
axis. Usually, in economics, price is on the vertical axis and the quantity
demanded on the horizontal axis. The numerical data presented in
Table 1 can also be given a graphical interpretation in Figure 4.
 6

Price ( Php’000)
3

0
100 200 300 400 500 600 700 800 900 1000
• Law of Demand
The law of demand states that as a price increases, quantity
demanded decreases; and as price decreases, quantity demanded
increases, if other factors remain constant. It can be noted that the law
of demand deals with the functional relationship between price and
the quantity demanded. The word “law” in this case does not refer to a
bill that has been passed by the House of Congress, but to an observed
regularity in all markets.
• Validity of the Law of Demand
The law of demand is only true if the assumption of ceteris
paribus is applied or other determinants remain constant; that is, there
is no change and movement in income or population. For example, if
the price of a notebook decreases by 50% from its original price, then
the quantity demanded for such items increases. This is only true if
other variables remain constant such as the consumer’s income.
Suppose that the income of the consumer decreases by around 75%,
the quantity demanded for such product will fall even though the price
decreases because the consumer has less purchasing power brought by
the decline in income.
• Justification for the Law of Demand
Income Effect. When the price of goods decreases, the consumer can
afford to buy more of it or vice versa. This simply implies that at a lower
price, the consumers have a greater purchasing power. For example,
the price of one kilo of pork before was only 50 pesos. At present, the
same amount cannot buy even half a kilo. This only shows that the
same amount of income can buy more goods when prices are lower.
Substitution Effect. It is expected that the consumers tend to buy
goods with a lower price. Hence, in case that the price of good that the
consumers buy increases, they look for substitutes with a lower price.
For instance, the price of pork increases the consumers’ shifts to other
similar meats such as beef and chicken which have a lower price.
• Changers Involving Demand
Change in Quantity Demanded. Movement along a demand curve is
known as a change in quantity demanded, which indicates movement
from one point to another point of the same demand curve. This is due
to a change in the price of goods and services. For example, the price of
a Nokia cell phone falls from 20,000.00 to 10,000.00. This will cause the
quantity demanded to increase from 20 to 40 units of cell phones or
from point X to point Y as shown in the Figure 5.
Change in Demand. Shifting from one demand curve to another is
known as change in demand. This is brought by the changes in all
determinants of demand except price. Beforehand, consumers are
willing to buy 30 units of goods, but due to a change in tastes and
preferences that favor good x, the demand curve shifts to the right side
that resulted to an increase in consumption of good x from 30 units to
40 units at a price 15 pesos as shown in Figure 6. On the other hand, if
tastes and preferences do not favor good x, the demand curve will shift
to left reducing the consumption of good x from 40 units to 30 units at
15 pesos as shown in Figure 7.