O Level Economics: Demand and Supply Revision Notes

1. Introduction to Demand and Supply

Demand and supply are fundamental concepts in economics that describe the interaction between potential buyers and sellers of a product or service. They determine market prices and quantities.

2. Demand

2.1 Definition of Demand

Demand refers to the quantity of a good or service that consumers are willing and able to purchase at various prices during a specific period, ceteris paribus (all other things being equal).

2.2 Law of Demand

The Law of Demand states that, ceteris paribus, as the price of a good increases, the quantity demanded decreases, and vice versa. This inverse relationship leads to a downward-sloping demand curve.

2.3 Demand Curve

A demand curve graphically represents the relationship between price and quantity demanded. It slopes downwards from left to right.

2.4 Factors Affecting Demand (Shifts in Demand Curve)

Changes in these factors cause the entire demand curve to shift:

Income: For normal goods, demand increases with income; for inferior goods, demand decreases with income.
Tastes and Preferences: Favourable changes increase demand.
Price of Related Goods:
- Substitutes: Increase in price of substitute increases demand for the good.
- Complements: Increase in price of complement decreases demand for the good.
Population (Size and Structure): Increase in population generally increases demand.
Expectations of Future Prices: Expected price increases may increase current demand.
Government Policies: Taxes or subsidies can influence demand.

2.5 Change in Quantity Demanded vs. Change in Demand

Change in Quantity Demanded: Movement along the demand curve due to a change in the good's own price.
Change in Demand: A shift of the entire demand curve (left or right) due to a change in any non-price factor affecting demand.

3. Supply

3.1 Definition of Supply

Supply refers to the quantity of a good or service that producers are willing and able to offer for sale at various prices during a specific period, ceteris paribus.

3.2 Law of Supply

The Law of Supply states that, ceteris paribus, as the price of a good increases, the quantity supplied increases, and vice versa. This direct relationship leads to an upward-sloping supply curve.

3.3 Supply Curve

A supply curve graphically represents the relationship between price and quantity supplied. It slopes upwards from left to right.

3.4 Factors Affecting Supply (Shifts in Supply Curve)

Changes in these factors cause the entire supply curve to shift:

Cost of Production: Decrease in costs (e.g., wages, raw materials) increases supply.
Technology: Improvements in technology increase supply.
Price of Other Goods:
- Joint Supply: Increase in price of one good increases supply of the other (e.g., beef and leather).
- Competitive Supply: Increase in price of one good decreases supply of another that uses the same resources.
Government Policies: Subsidies increase supply; indirect taxes decrease supply.
Number of Producers: More producers increase market supply.
Expectations of Future Prices: Expected price decreases may increase current supply.
Natural Factors: Favorable weather for agricultural goods increases supply.

3.5 Change in Quantity Supplied vs. Change in Supply

Change in Quantity Supplied: Movement along the supply curve due to a change in the good's own price.
Change in Supply: A shift of the entire supply curve (left or right) due to a change in any non-price factor affecting supply.

4. Market Equilibrium

4.1 Definition of Market Equilibrium

Market equilibrium occurs at the price where the quantity demanded equals the quantity supplied. There is no tendency for the price to change.

4.2 Equilibrium Price and Quantity

The price and quantity at which the demand and supply curves intersect.

4.3 Surplus and Shortage

Surplus (Excess Supply): Quantity supplied exceeds quantity demanded when the price is above equilibrium. This pushes prices down.
Shortage (Excess Demand): Quantity demanded exceeds quantity supplied when the price is below equilibrium. This pushes prices up.

4.4 Changes in Equilibrium

Shifts in either demand or supply curves will lead to a new equilibrium price and quantity.

Increase in Demand: Equilibrium price and quantity increase.
Decrease in Demand: Equilibrium price and quantity decrease.
Increase in Supply: Equilibrium price decreases, equilibrium quantity increases.
Decrease in Supply: Equilibrium price increases, equilibrium quantity decreases.

5. Elasticity

Elasticity measures the responsiveness of quantity demanded or supplied to a change in price or other factors.

5.1 Price Elasticity of Demand (PED)

Measures the responsiveness of quantity demanded to a change in the good's own price.

Elastic Demand (PED > 1): Quantity demanded changes proportionally more than price.
Inelastic Demand (PED < 1): Quantity demanded changes proportionally less than price.
Unitary Elastic Demand (PED = 1): Quantity demanded changes proportionally equal to price.
Factors affecting PED: Availability of substitutes, necessity vs. luxury, proportion of income spent, time period.

5.2 Price Elasticity of Supply (PES)

Measures the responsiveness of quantity supplied to a change in the good's own price.

Elastic Supply (PES > 1): Quantity supplied changes proportionally more than price.
Inelastic Supply (PES < 1): Quantity supplied changes proportionally less than price.
Factors affecting PES: Time period, ability to store goods, mobility of factors of production, excess capacity.

6. Exam-style Questions

Which of the following describes the Law of Demand?
- A. As price increases, quantity demanded increases.
- B. As price decreases, quantity demanded decreases.
- C. As price increases, quantity demanded decreases.
- D. As income increases, quantity demanded increases.
A movement along the demand curve is caused by a change in:
- A. Consumer income.
- B. The price of the good itself.
- C. Tastes and preferences.
- D. The price of substitute goods.
Which factor would cause the demand curve for normal goods to shift to the left?
- A. An increase in consumer income.
- B. A decrease in the price of a substitute good.
- C. An increase in the price of a complementary good.
- D. A successful advertising campaign for the good.
If the price of coffee rises, what is likely to happen to the demand for tea (a substitute)?
- A. Demand for tea will increase.
- B. Demand for tea will decrease.
- C. Quantity demanded for tea will increase.
- D. Quantity demanded for tea will decrease.
What does a downward-sloping demand curve indicate?
- A. A direct relationship between price and quantity demanded.
- B. An inverse relationship between price and quantity demanded.
- C. That supply is elastic.
- D. That demand is inelastic.
The Law of Supply states that, ceteris paribus:
- A. As price increases, quantity supplied decreases.
- B. As price decreases, quantity supplied increases.
- C. As price increases, quantity supplied increases.
- D. As technology improves, quantity supplied increases.
Which of the following would cause the supply curve for a good to shift to the right?
- A. An increase in the cost of production.
- B. A decrease in technology.
- C. A government subsidy to producers.
- D. An increase in indirect taxes.
What is meant by a 'shortage' in the market?
- A. Quantity supplied is greater than quantity demanded.
- B. Quantity demanded is greater than quantity supplied.
- C. Equilibrium price is too high.
- D. Equilibrium quantity is too low.
When a market is in equilibrium:
- A. There is an excess supply.
- B. There is an excess demand.
- C. Quantity demanded equals quantity supplied.
- D. Government intervention is always required.
If both demand and supply for a product increase, what is the effect on the equilibrium quantity?
- A. It will increase.
- B. It will decrease.
- C. It will remain unchanged.
- D. It is indeterminate.
If the equilibrium price of a product increases, this could be due to:
- A. An increase in supply.
- B. A decrease in demand.
- C. A decrease in supply.
- D. A simultaneous decrease in both demand and supply.
Which of these describes an inelastic demand?
- A. A large change in quantity demanded for a small change in price.
- B. A small change in quantity demanded for a large change in price.
- C. Quantity demanded changes proportionally to price.
- D. Quantity demanded does not change at all.
Which factor is most likely to make the supply of a product inelastic?
- A. Availability of many substitutes.
- B. Short time period for production adjustment.
- C. Low cost of production.
- D. High mobility of factors of production.
What would be the likely effect on the market for umbrellas if there is an unexpected period of heavy rain?
- A. Both demand and supply increase.
- B. Demand increases, supply remains unchanged.
- C. Demand remains unchanged, supply increases.
- D. Demand decreases, supply decreases.
An increase in the price of raw materials used to produce a good will typically lead to:
- A. A rightward shift of the supply curve.
- B. A leftward shift of the supply curve.
- C. A movement up along the supply curve.
- D. A movement down along the supply curve.
Which of the following is NOT a determinant of demand?
- A. Consumer income.
- B. Technology.
- C. Price of complementary goods.
- D. Tastes and preferences.
What happens to the equilibrium price and quantity of cars if consumer incomes rise (assuming cars are normal goods) and the cost of steel (a raw material for cars) also rises?
- A. Price rises, quantity is indeterminate.
- B. Price falls, quantity is indeterminate.
- C. Quantity rises, price is indeterminate.
- D. Quantity falls, price is indeterminate.
If the government imposes an indirect tax on a good, what is the immediate effect on the supply curve?
- A. It shifts to the right.
- B. It shifts to the left.
- C. There is a movement along the curve upwards.
- D. There is no change.
Which of these goods would likely have the most inelastic demand?
- A. Luxury cars.
- B. Fresh vegetables.
- C. Life-saving medicine.
- D. Restaurant meals.
What would cause a movement from one point to another along an existing supply curve?
- A. A change in production technology.
- B. A change in the market price of the good.
- C. A change in the number of suppliers.
- D. A change in government subsidies.

7. Answer Key

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