Economic

Term II Notes
Topic III - Markets

4405
Markets
 What is a Market:
o A market is a composition of producers and consumers within a region. It is
composed of two factors, supply and demand.
o When there is someone willing to sell a product, and someone willing to buy
the product, a market is immediately formed. The more people willing to buy
and sell the product, the larger the market.

 Importance of a market:
o Markets answer the economic problem by minimising wastage of a product/
factors of production thus increasing efficiency to cater to scarcity.
o Within a market, there is supply and demand.

 Supply and Demand:

o Help us understand relative scarcity (lack of abundance of finite goods)

 Demand:
o The quantity of a good a consumer is willing to purchase at a certain price in
a point of time.
 Individual Demand: Demand by an individual customer.
 Market Demand: Total demand by consumers in a market.
 Aggregate Demand: Total amount of demand in an economy.
 AD (Aggregate Demand): C + G + I + (X-M)

o Terminology:
 Demand Schedule: Table indicating a range of prices and quantities
demanded of a product over a given time.
 Demand Curve: Graphical representation of a demand schedule.

o Law Of Demand:
 If price increases, quantity demanded decreases.
 If price decreases, quantity demanded increases.
 A change in price does
not shift the curve but
rather moves across the
curve in an
expansionary/
contractionary direction.
BELOW
 Shifts of the Demand Curve:
o The quantity demanded at a given price will shift the curve. Par Example: if
the quantity of a good demanded at a high price largens, the curve will shift
up but if the quantity demanded at a high price lessens, the curve will shift
down. Below is an exemplar example of a shift in the curve.

o Factors that cause the curve to shift (i.e. change in quantity at a given price):
 Changes in the price of a substitute good: If margarine is less
expensive than the primary good, butter, less people will buy butter
thus decreasing quantity demanded for butter. Thus, the curve is
shifted upwards (an up shift is also a left shift).
 Changes in the price of a compliment good: If the price of e-10 gas
rises, there is less demand for an e-10 gas car thus the curve shifts up
(an up shift is also a left shift).
 Income Changes: If income increases, more quantity of a good will be
able to be bought by a consumer hence the curve shifts downwards
(or right as they are the same).
 Changes In Taste And Fashion (Trends): Everyone knows that you
must go with the flow, so when a trend is upcoming, you will join it no
matter what expense. Thus, the curve will shift down/ right as a
greater quantity is demanded.
 Increases In Population: With an increase in population, a greater
quantity demanded at a given price is almost inevitable. Thus, the
curve shifts down/ right.
 Changes In Age Distribution: Differences in age groups will greatly
affect quantity demanded in a myriad of ways. For instance, older
people require clothing from their era such as old people clothing. So,
old people clothing will have a greater quantity demanded as a larger
 population moves into the older age. Additionally, age distribution
affects income greatly which limits the quantity demanded causing a
leftward shift
o Overall: An increase in quantity demanded at a given price will cause the
curve to shift right or up and a decrease in quantity demanded will cause a
shift left or down.

Elasticity Of Demand

 Elasticity:
o Responsiveness of Quantity Demanded to a change in price. In other words,
elasticity measures how sensitive a product is to a change in price.
o This is represented as the gradient of the demand curve.

 For a large change in P (left), Q changes slowly. This means that the left graph is
inelastic.
 The right graph has a small change in P for a larger change in Q meaning that the
demand in this case is elastic.
 Perfect elasticity is a horizontal line meaning that no matter the quantity,
price is a constant. For instance, a subsidised product such as insulin will
have a constant price for variable demand.
 Perfectly inelasticity is a vertical line meaning that for an altering price,
quantity remains the same. For instance, prescription super drugs which
can only be used in fixed, micro administered quantities will have altering
price but a constant demand.

 So… Overall
o The more elastic a product, the greater a change in price will affect quantity
demanded. Elastic products tend to be wants. If a McLaren 600 lt with scoop
has skyrocketed in price, less people will buy one so a change on price has
narrowed the market.
 o The more inelastic a product, the less a change will affect the quantity
demanded. Inelastic products tend to be necessities as quantity mostly does
not change regardless for price. Bob is always going to buy water because he
needs it.

 What Determines Elasticity

o Availability of Substitutes: Substitute goods will allow consumers to switch to
cheaper products especially with regards to an elastic product.
o Complements: Complementary goods will allow consumers to switch to
cheaper products especially with regards to an elastic product.
o Necessities: Products vital to the sustenance of ones life such as ‘12584-58-6
DTXSID60154957 8A-L-threonine-10A-L-isoleucine-Insulin’ (aka insulin) will be
bought no matter what price. Thus, these products almost always are
inelastic.
o Importance in the budget: An Audemars Piguet Concept may account for
0.7% of my budget but a pack of gum accounts for a 0.00002% impact to my
budget. So a change in price of gum will not affect me at all but a change in
price of the watch will significantly affect my likelihood of purchasing it. So,
‘less of a budget goods’ tend to be more so, inelastic as opposed to ‘bigger
budget items which tend to be more elastic.’

 Total Outlay Method:

o Total Outlay = Price x Quantity, (note, this is the same formula for total
revenue, so don’t be fooled)
o An increase in Total Outlay is ALWAYS relatively elastic and a decrease in
total outlay is ALWAYS relatively inelastic. However, when total outlay is the
same, it is unitary elastic.
CONSIDER: If the price of a good increases and total outlay decreases, that means that the
quantity demanded of a g/s is contracting by consumers. Hence, this indicates that the g/s
demanded is an elastic product, most likely a non-necessity (a want) such as designer items.

Supply Of A Market

 The supply side of a market is made up of producers, (anyone who is willing to

manufacture and sell a product).

 Law Of Supply
o As the price of a good or service increases, supply of that good/ service will
also increase.
o Thus there is a direct relationship between supply and price.

 Supply Graph
o Graphical representation of supply and price.
 Definitions
o Supply:
 Quantity of a particular good or service that consumers are willing to
provide for sale at a given price.
o Individual Supply:
 An individual producer’s supply of a particular good or service.
o Market Supply:
 The amount supplied by all producers within a market.

 Factors affecting market supply:

o Price of a good or service
 The higher the price, the more producers are able to make a larger
profit hence more producers will enter the market. This will increase
quantity. The lower the price, vice versa.
o Price Of Factors Of Production (costs)
 The higher the costs, the less produces are able to enter the market
for a given price hence quantity minimises. However, if the price
raises such as in the example above, profit will be made over the costs
hence more producers are able to enter the market. This will in turn
increase the quantity produced.
o Expected Future Prices
 If suppliers expect a raise in price, lets say the largest oil reservoir is
predicted to deplete in the next year, scarcity will increase hence
price will increase as the reservoir runs out. As a result, companies
will hoard stock (stockpiling) as well as will start to ramp up
production. This causes an increase in quantity produced.
o Current State Of Technology
 The current state of technology limits the maximum amount of goods
able to be produced for a certain price. This will put a ‘cap’ on
quantity stopping the curve from shifting.
o The Price Of Substitutes And Complements
 The price of complements, in this case gas prices which will skyrocket,
will also raise the price of the gas car, hence, more producers will be
able to enter the market and produce gas cars. Hence, quantity
increase. If a substitute good is cheaper than the primary good, then
consumers will switch to the substitute. This will cause a select
amount of producers to be able to produce the substitute as it is
relatively cheaper than the primary good.
o The number of producers in a market
 The larger the number of producers in a market, the more expensive
the product.

 The supply schedule

 o Table indicating the relationship between quantity supplied of a product
relative to the price.

 The Supply Curve

o Graphical representation of the supply
schedule.
o Only when the price of a good changes,
a movement alongst the curve occurs.
That is, either contracting or expanding.
o When the price increases, an expansion
occurs and when the price decreases, a
contraction occurs.

 Increase In The Supply Curve

o Shift outward (right/ downward shift) means that the supply is increasing.
o For a given price, the quantity of of supply is now larger than that before.
o For example, new supercomputers within a factory will speed up production
efficiency of the machinery hence quantity at a given price will increase.
 Decrease In The Supply Curve
o Shift inward (left/ upward shift) means that the supply is now decreasing.
o For a given price, the quantity of supply is now lesser than that before.
o For example, a natural disaster that destroyed 2 factories will cause less
quantity of supply to be produced at a given price.

Contraction Expansion

Elasticity Of Supply

 Price Elasticity:
o Measure of the responsiveness of the quantity
supplied to a change in price.
o It is harder for a producer to respond to a change
in price as opposed to a consumer as it takes a
 long time for firms to alter the amount produced as stock manufacturing is
usually done in advance. This is known as a lag

 Factors Affecting Elasticity Of Supply:

o Excess (spare capacity):

 When firms are not operating to full capacity, excess capacity occurs
where some machines are not being used. This may be a result of
reduced demand in a market.
 However, with excess capacity, firms can respond much quicker to a
change in price thus they would have relatively elastic supply.
 When firms have no excess capacity, they tend to be relatively
inelastic to a change in price.
 So, a factory has excess capacity when prices are lower as the costs
of running the extra machines is more than the profits at a low price.
This is very good as when price rises, they are able to switch on
more machines thus with excess capacity, efficiency of supply is
constantly maintained.
o The Ability To Store And Hold Inventory - Perishability
 Inventory is the stock of goods held by a firm that is intended for sale.
 If a business is able to store lots of goods, they can respond more
quickly as price changes. Thus, they tend to be more elastic. For
example, if Bob grows apples and today, the price of apples is $1, he
wants to hoard them as $1 is very low and profits would be marginal.
However, when the price of apple rises to $12, Bob will sell all of his
inventory making far greater profits.
o Length Of Time After A Price Change
 The longer the time a producer has after a change in price, the better
it can adapt thus being more elastic.
 In the short run (time is little), producers will most likely to be unable
to change or adapt their products.
 In the long run, for example, coronavirus, breweries had little demand
for liquor so the large length of time led breweries to produce hand
sanitizers. Thus, long lengths of time tend to be elastic.

Governments: can use elasticity to determine which goods to tax such

as cigarettes which are quite inelastic.

Businesses: can use total outlay to determine the greatest outlay to

Market Equilibrium maximise profits.

 Equilibrium:
o Market Equilibrium occurs where the level of demand is equivalent to the
level of supply.
 o At equilibrium, the market clears (no excess demand or supply) and there is
no tendency for change in price or quantity.

 Market Equilibrium Graph:

 How This Works

o Equilibrium occurs through a process known as the price mechanism.
o This process forces supply and demand to interact determining a set price for
goods and services.
 Consider…

o Expansion:
 Supply moves
upwards or
contraction moves
downwards.
o Contraction:
 Demand moves
upwards or supply
moves downwards.
o Blue Dot (refer to graph):
At the blue dot, there is high demand for little supply. This is due to a low
price which excludes competitors from markets. This is known as a
SHORTAGE which leads to PRICE PRESSURE which causes the price to raise
thus allowing more competitors in a
market. Resultingly, supply increases
where more demand is fulfilled
(expansion) until equilibrium is
reached.
 o Green Dot (refer to graph): At the green dot, there is very high supply for a
low level of demand. This is known as a SURPLUSS which leads to PRICE
PRESSURE in turn forcing the price downwards. This will
exclude competitors from a market causing supply to
decrease in turn causing demand for the good or service
to increase (contraction) until equilibrium is maintained.

 Shifting the Equilibrium

o Shifting the graph is caused by various factors. However,
in most cases these factors will only affect one portion of
the graph, either supply or demand.
o For example, an increase in income will only affect demand. Lets say income
increases in a certain city. With an increase in income, more people are able
to buy a Rolex so the demand for a Rolex will shift outwards (right). However,
supply stays the same. It looks like this:

 Allocative Efficiency
o Price Mechanism: System where the forces of demand and supply determine
the prices of commodities.
o The price mechanism ensures allocative efficiency.
o This refers to the economy’s ability to allocate
resources to satisfy a consumer’s wants.
 Government Intervention
o While the price mechanism works efficiently for
most goods and services, it can still create
unsatisfactory outcomes.
o This can result in market failure.
o This is because the price mechanism focusses on
individual needs, not collective needs (community
needs).
o When this occurs, the government may intervene.
 Examples include: Insulin, Pyrimethamine (darapim), Street lamps,
community parks, roads.

 2 Forms of Government Intervention

 Price Intervention: The government may intervene in a market where

the price is too high or too low:

o Too Low: A price floor is used when the government believes

that the price within a market is too low. Therefore, they
 create a minimum price or a price floor. This floor is always
above the market determined price (equilibrium).
 As seen in the graph (left), PE is the price determined
by the market at equilibrium. However, the
government has raised the price to P1 where there is
lower demand and extra supply due to larger amounts
of demand being fulfilled. Minimum wages are some
of the most prevalent price floors.
o Too High: A Price Ceiling is used when the price of a product is
too high. Hence, a maximum price is created. Thus, the ceiling
is always below the market determined price (equilibrium).
 As seen in the graph (left), PE is the price determined
by the market (equilibrium), however, this price is too
high hence P1 (green line typo) is created below
equilibrium. This results in excess demand. Rent is a
common price ceiling forcing prices to stop rising.

 Quantity Intervention: Rather than intervening

with price, the government may intervene with
regard to the quantity, often supply. This occurs where the
government believes that the quantity of goods is too high or low.
This is because social costs and benefits of production are not taken
into consideration by firms or consumers. These costs/ benefits are
referred as to externalities.

o Negative Externalities: Social costs result from the production

process or consumer of a product.
 This includes things like pollution, environmental
damage and the social costs of people consuming
cigarettes or too many ‘made in China lollies’. The
government can restrict these products through laws
(such as issuing pollution producing permits) or taxes.
o Positive Externalities - Merit Goods: Social benefits arising
from people using certain goods/ services, this include reading
books or swimming in a community pool.
 However, consumers may not be willing to pay the
market price for such goods - despite the fact that they
benefit society. This may include merit goods and
services such as museums, art galleries and public
swimming pools. However, this means that these
goods are excludable, so if people don’t pay, they are
in turn excluded.
 o Positive Externalities - Public Goods: Goods not provided by
firms.
 This includes places such as squares, footpaths,
community spectroscopy centres and other public
services. These goods are non-excludable meaning that
one is not excluded for not paying. They are also non-
rivalry meaning that the usage of one person does not
reduce the ability for other people to use it. Thus, the
government intervenes and collects taxes to do so.

 THE END - NEXT BOOKLET OF NOTES IS Chapter 4 - Labour Markets