1.2-The market

• Demand is the amount of a good or service that consumers are willing and able to buy at a given price.

  The relationship between price and quantity for demand is inversely proportional meaning the curve slopes downward.
• Rules for diagram questions

  • Axis- label axis correctly
  • Curves- which curve are you drawing
  • Equilibrium- where do the two curves meet if it is a supply+demand curve
• Price is the only factor that causes a movement along a demand curve.

  The factors that cause a shift in demand are: (the acronym to remember this is PIRATESS)

  • Population
  • Income
  • Related goods (compliments)
  • Advertising + branding
  • Trends + fashion
  • External shocks
  • Substitutes
  • Seasonal changes
• A complimentary good (related good) is a good that is bought alongside another good. For example, strawberries and cream.

  An increase in price of a good A, which is a compliment to good B, would have a negative effect on the quantity demanded of good B
• A substitute good is a good that is an alternative to another good. For example, tea and coffee.

  An increase in price of good A, which is a substitute for good B, would lead to an increase in quantity demanded for good B
• When there is a seasonal change in demand, this means that certain goods are sold more during particular times of year than others. For example, ice cream sales tend to rise in summer when temperatures are higher. When there is a seasonal change in demand, this leads to a shift in demand. The demand curve shifts outwards because the quantity demanded increases at every possible price.
• If there is a trend or fashion change in demand, this means that some goods become popular with consumers while other goods fall out of favour. For example, in the late 90's platform shoes became very popular among teenagers. As a result, the demand for these shoes increased. When there is a trend or fashion change in demand, this leads to a shift in demand. The demand curve shifts outwards because the quantity demanded increases at every possible price.
• An external shock is an unexpected event that is outside the business’ control but have a direct impact on the level of demand. An example of an external shock is a war.
• An advertising campaign can be used by businesses to influence consumer behaviour. Adverts may persuade people to buy a product they wouldn’t normally consider buying. This will lead to a shift in demand as the demand curve shifts outwards due to an increase in the quantity demanded at all prices.
• Changes in income levels affect the purchasing power of households. If household income rises, then their purchasing power also rises. Therefore, if income levels rise, it causes a shift in demand. The demand curve shifts outwards because the quantity demanded increases at all prices.
• Supply is the amount of a good or service that producers are willing and able to make available on the market at a given price. The relationship between price and supply is directly proportional as firms are willing to supply more when prices are higher as they will make more revenue.

  What determines how much a firm supply?

  • The profit motive
  • Production and costs
  • A new entrant into the market
• Price is the only factor that cause a movement along a supply curve.

  The factors that shift a supply curve are:

  • Cost of production- if cost of production rises then supply falls as less profit will be made on each product sold at a given price
  • Introduction of new technology- New technology means production can be more efficient meaning supply will increase
  • Indirect taxes- an increase in cost means less profit
  • Subsidies- Since costs are lower, more profit can be made from supplying the product
  • External shocks
  • Weather conditions- a severe change in weather can affect supply of products
• A supply curve shows the relationship between the price of an item and the quantity supplied over a period of time.

  Why does the supply curve slope upwards?

  • There is a directly proportional relationship between price and quantity supplied
  • The higher the price charged for a product the higher the quantity supplied
  • Producers and sellers aim to maximise profits
  • The higher the price for a product, the higher the profit earned, ceteris paribus
  • Higher profits provide an incentive to expand production and increase supply
• Market equilibrium (or market clearing price) is the price at which the quantity supplied equals the quantity demanded.

  At this price, all buyers can get the exact amount they want to buy and all sellers sell exactly the amount they want to sell. Therefore, there is nothing left over.

  Equilibrium price will only change if there is a change in demand or supply.
• Price elasticity of demand (PED) is a measure of the responsiveness of demand to a change in price. The value for PED is always negative.

  .

  what do the values of PED mean?

  • -1<PED<0 -inelastic
  • PED=-1 -unit elastic
  • -♾️<PED<-1 -elastic
• The formula for PED is:

  PED = % change in quantity demanded / % change in price
• The factors affecting PED are:

  • Time- the longer the time, the higher the PED as other firms have the ability to produce similar products
  • Availability of substitute- the closer the substitute and the more that are available, the higher the PED
  • Branding- by creating brand loyalty, customers will be willing to pay more for the product so the PED is lower
  • Nature of the good- a luxury good will be price elastic as demand will be more sensitive to changes in price. A necessity will be price inelastic as demand will be less sensitive to changes in price.
• PED is difficult to measure because:

  • PED is constantly changing in a dynamic world
  • Price elasticity changes over different price ranges
  • Difficulty in finding accurate information
  • Price elasticity will change over the period of the economic cycle
  • Tastes and fashion are constantly changing
  • Competitors don’t stand still
• Income elasticity of demand (YED) is a measure of the responsiveness of demand to a change in income.

  The formula for YED is: % change in quantity demanded / % change in income
• Interpreting YED

  • YED<0 - inferior good (value items). Demand falls as incomes rise as consumers can afford better quality items.
  • YED>0 - normal good. Two types of normal good: Necessity (0<YED<1) and Luxury (YED>1)