1. All Rights Reserved PRINCIPLES OF ECONOMICS Third Edition © Oxford Fajar Sdn. Bhd. (008974-T), 2013 2– 1

2. All Rights Reserved PRINCIPLES OF ECONOMICS Third Edition © Oxford Fajar Sdn. Bhd. (008974-T), 2013 2– 2 CHAPTER 2 DEMAND AND SUPPLY

3. All Rights Reserved PRINCIPLES OF ECONOMICS Third Edition © Oxford Fajar Sdn. Bhd. (008974-T), 2013 2– 3 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.

4. All Rights Reserved PRINCIPLES OF ECONOMICS Third Edition © Oxford Fajar Sdn. Bhd. (008974-T), 2013 2– 4 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 be seen or touched.

5. All Rights Reserved PRINCIPLES OF ECONOMICS Third Edition © Oxford Fajar Sdn. Bhd. (008974-T), 2013 2– 5 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  Q dd  P  Q dd  NEGATIVE RELATIONSHIP

6. All Rights Reserved PRINCIPLES OF ECONOMICS Third Edition © Oxford Fajar Sdn. Bhd. (008974-T), 2013 2– 6 DEMAND SCHEDULE AND CURVE PriceQuantity 52 44 36 28 110 Demand Schedule Demand Curve 5 4 3 2 1 0 6 246810 DD Quantity (units) Price (RM)

7. All Rights Reserved PRINCIPLES OF ECONOMICS Third Edition © Oxford Fajar Sdn. Bhd. (008974-T), 2013 2– 7 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.

8. All Rights Reserved PRINCIPLES OF ECONOMICS Third Edition © Oxford Fajar Sdn. Bhd. (008974-T), 2013 2– 8 Level of taxation Festive seasons and climate Price of related goods Consumers’ income Consumers’ income Tastes and trends Population or number of buyers Supply of money in circulation Expectation about future prices Advertisement

9. All Rights Reserved PRINCIPLES OF ECONOMICS Third Edition © Oxford Fajar Sdn. Bhd. (008974-T), 2013 2– 9 CHANGES IN QUANTITY DEMANDED VS. CHANGES IN DEMAND CHANGES IN QUANTITY DEMANDEDCHANGES IN DEMAND Price DD 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) Price D 1 D 0 Quantity  Shift in the demand curve  Occurs when there are changes in other factors but price remains constant  Increase in Demand (D 0  D 1 )  Decrease in Demand (D 1  D 0 )

10. All Rights Reserved PRINCIPLES OF ECONOMICS Third Edition © Oxford Fajar Sdn. Bhd. (008974-T), 2013 2– 10 EXCEPTIONAL DEMAND GIFFEN GOODS Exceptional Demand is the opposite of the Law of Demand where as price increases, demand will also increase and vice versa. STATUS SYMBOL GOODS SPECULATION EMERGENCIES HIGHLY-PRICED GOODS

11. All Rights Reserved PRINCIPLES OF ECONOMICS Third Edition © Oxford Fajar Sdn. Bhd. (008974-T), 2013 2– 11 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.

12. All Rights Reserved PRINCIPLES OF ECONOMICS Third Edition © Oxford Fajar Sdn. Bhd. (008974-T), 2013 2– 12 CROSS DEMAND: JOINT DEMAND VS. COMPETITIVE DEMAND Price of pizza Q 2 Q 1 P2P2 P1P1 Negative relationship exists between complement goods Quantity of soft drinks Q 1 Q 2 Quantity of spaghetti P1P1 P2P2 DD Positive relationship exists between substitute goods Cross Demand Price of pizza a) Joint Demand b) Competitive Demand DD

13. All Rights Reserved PRINCIPLES OF ECONOMICS Third Edition © Oxford Fajar Sdn. Bhd. (008974-T), 2013 2– 13 DERIVED DEMAND Derived demand is the demand for a good which is derived from other goods. INTER-RELATED DEMAND

14. All Rights Reserved PRINCIPLES OF ECONOMICS Third Edition © Oxford Fajar Sdn. Bhd. (008974-T), 2013 2– 14 DERIVED DEMAND Derived Demand Price (RM) Q 0 Q 1 P1P1 P0P0 D0D0 Quantity of houses Q 0 Q 1 Quantity of workers WR 0 WR 1 Wage rate (RM per hour) Demand and supply for houses Demand and supply for carpenters D1D1 S0S0 D0D0 D1D1 S0S0

15. All Rights Reserved PRINCIPLES OF ECONOMICS Third Edition © Oxford Fajar Sdn. Bhd. (008974-T), 2013 2– 15 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

16. All Rights Reserved PRINCIPLES OF ECONOMICS Third Edition © Oxford Fajar Sdn. Bhd. (008974-T), 2013 2– 16 COMPOSITE DEMAND Price Q 0 Q 1 P1P1 P0P0 D0D0 Quantity of petrol Q 1 Q 0 Quantity of diesel P0P0 P1P1 Demand and supply for petrolDemand and supply for diesel D1D1 S0S0 D0D0 S1S1 Price S0S0

17. All Rights Reserved PRINCIPLES OF ECONOMICS Third Edition © Oxford Fajar Sdn. Bhd. (008974-T), 2013 2– 17 PRICE ELASTICITY OF DEMAND DEFINITION: Measures the sensitivity/responsiveness of the quantity demanded due to a change in its price.

18. All Rights Reserved PRINCIPLES OF ECONOMICS Third Edition © Oxford Fajar Sdn. Bhd. (008974-T), 2013 2– 18 PRICE ELASTICITY OF DEMAND (cont.)  d = Q 2 – Q 1 x P 1 Q 1 P 2 – P 1 FORMULA:  d = %  Quantity Demanded %  Price

19. All Rights Reserved PRINCIPLES OF ECONOMICS Third Edition © Oxford Fajar Sdn. Bhd. (008974-T), 2013 2– 19 Perfectly Inelastic Demand A condition in which the quantity demanded does not change as the price changes. Inelastic Demand 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 A small percentage of change in the price of a good will lead to larger percentage of change in quantity demanded. Unitary Elastic Demand A condition in which percentage changes in price equals to percentage changes in quantity demanded. Perfectly Elastic Demand A condition in which a small percentage of change in price leads to an infinite percentage of change in the quantity demanded.  d > 1  d < 1  d =0  d =   d = 1 DEGREE OF ELASTICITY

20. All Rights Reserved PRINCIPLES OF ECONOMICS Third Edition © Oxford Fajar Sdn. Bhd. (008974-T), 2013 2– 20 DEGREE OF ELASTICITY Price (RM) Quantity Demanded  d > 1  d < 1  d = 1  d =0  d = 

21. All Rights Reserved PRINCIPLES OF ECONOMICS Third Edition © Oxford Fajar Sdn. Bhd. (008974-T), 2013 2– 21 Existence of substitutes Frequently purchased products Time dimension Complementary goods Habits Proportion of the expenditure on a product Nature of goods Income level Existence of substitutes Proportion of the expenditure on a product

22. All Rights Reserved PRINCIPLES OF ECONOMICS Third Edition © Oxford Fajar Sdn. Bhd. (008974-T), 2013 2– 22 RELATIONSHIP TO TOTAL REVENUE Price D RM30 10 DEMAND IS ELASTIC Total Revenue RM20 x 10 = RM200 If seller increases price to RM30 New Total Revenue = RM30 x 5 = RM150  TR =  RM50 RM20 5 Quantity Demanded 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. Total Revenue (TR) = Price (P) x Quantity (Q)

23. All Rights Reserved PRINCIPLES OF ECONOMICS Third Edition © Oxford Fajar Sdn. Bhd. (008974-T), 2013 2– 23 RELATIONSHIP TO TOTAL REVENUE (cont.) Price D RM2 15 DEMAND IS INELASTIC Total Revenue RM1 x 15 = RM15 If seller increases price to RM2 New Total Revenue = RM2 x 10 = RM20  TR =  RM5 RM1 10 Quantity Demanded Total Revenue (TR) = Price (P) x Quantity (Q)

24. All Rights Reserved PRINCIPLES OF ECONOMICS Third Edition © Oxford Fajar Sdn. Bhd. (008974-T), 2013 2– 24 RELATIONSHIP TO TOTAL REVENUE (cont.) Price D RM2 20 DEMAND IS UNITARY ELASTIC Total Revenue RM1 x 20 = RM20 If seller increases price to RM2 New Total Revenue = RM2 x 10 = RM20  TR =  0 RM1 10 Quantity Demanded Total Revenue (TR) = Price (P) x Quantity (Q)

25. All Rights Reserved PRINCIPLES OF ECONOMICS Third Edition © Oxford Fajar Sdn. Bhd. (008974-T), 2013 2– 25 INCOME ELASTICITY OF DEMAND DEFINITION: Measures the sensitivity/responsiveness of the quantity demanded due to a change in income.

26. All Rights Reserved PRINCIPLES OF ECONOMICS Third Edition © Oxford Fajar Sdn. Bhd. (008974-T), 2013 2– 26 INCOME ELASTICITY OF DEMAND (cont.)  Y = Q 2 – Q 1 x Y 1 Q 1 Y 2 – Y 1 FORMULA:  Y = %  Quantity Demanded %  Income

27. All Rights Reserved PRINCIPLES OF ECONOMICS Third Edition © Oxford Fajar Sdn. Bhd. (008974-T), 2013 2– 27 RESPONSES OF INCOME ELASTICITY Negative Income Elasticity -Type of good: Giffen/ Inferior goods such as used car and low grade potatoes Income Quantity Demanded  y < 0  y > 1  y =0 Inelastic Income -Type of good: Normal goods such as food and clothing Elastic Income -Type of good: Luxury goods such as antique furniture and diamonds 0 <  y < 1 Zero Income Elasticity -Type of good: Necessity Goods such as rice and vegetables

28. All Rights Reserved PRINCIPLES OF ECONOMICS Third Edition © Oxford Fajar Sdn. Bhd. (008974-T), 2013 2– 28 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.

29. All Rights Reserved PRINCIPLES OF ECONOMICS Third Edition © Oxford Fajar Sdn. Bhd. (008974-T), 2013 2– 29 CROSS ELASTICITY OF DEMAND  X = Q X2 – Q X1 x P Y1 Q X1 P Y2 – P Y1 FORMULA:  X = %  Quantity Demanded of good X %  Price of good Y

30. All Rights Reserved PRINCIPLES OF ECONOMICS Third Edition © Oxford Fajar Sdn. Bhd. (008974-T), 2013 2– 30 RESPONSES OF CROSS ELASTICITY Price of Good X Quantity Demanded of Good Y  x < 0  x > 0  x =0 Zero Cross Elasticity -Good X and Y have no relationship Positive Cross Elasticity -Good X and Y are substitute goods Negative Cross Elasticity -Good X and Y are complementary goods

31. All Rights Reserved PRINCIPLES OF ECONOMICS Third Edition © Oxford Fajar Sdn. Bhd. (008974-T), 2013 2– 31 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.

32. All Rights Reserved PRINCIPLES OF ECONOMICS Third Edition © Oxford Fajar Sdn. Bhd. (008974-T), 2013 2– 32 LAW OF SUPPLY P  Q ss  P  Q ss  POSITIVE RELATIONSHIP 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.

33. All Rights Reserved PRINCIPLES OF ECONOMICS Third Edition © Oxford Fajar Sdn. Bhd. (008974-T), 2013 2– 33 SUPPLY SCHEDULE AND CURVE PriceQuantity 510 48 36 24 12 Supply ScheduleSupply Curve 10 8 6 4 2 0 12 12345 Supply

34. All Rights Reserved PRINCIPLES OF ECONOMICS Third Edition © Oxford Fajar Sdn. Bhd. (008974-T), 2013 2– 34 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.

35. All Rights Reserved PRINCIPLES OF ECONOMICS Third Edition © Oxford Fajar Sdn. Bhd. (008974-T), 2013 2– 35 Price of related goods Number of sellers Improvement in infrastructure Government Policies Proportion of the expenditure on a product Expected future price Technological advancement Cost of production

36. All Rights Reserved PRINCIPLES OF ECONOMICS Third Edition © Oxford Fajar Sdn. Bhd. (008974-T), 2013 2– 36 CHANGE IN QUANTITY SUPPLIED VS. CHANGE IN SUPPLY CHANGE IN QUANTITY SUPPLIED CHANGE IN SUPPLY Price SS Quantity  Movement along supply curve  Price changes and other factors are constant  Downward movement  Decrease in quantity supplied (Contraction)  Upward movement  Increase in quantity supplied (Expansion) Price s 0 s 1 Quantity  Shift in the supply curve  Occurs when there are changes in other factors but the price remains constant  Increase in Supply (S 0  S 1 )  Decrease in Supply (S 1  S 0 )

37. All Rights Reserved PRINCIPLES OF ECONOMICS Third Edition © Oxford Fajar Sdn. Bhd. (008974-T), 2013 2– 37 EXCEPTIONAL SUPPLY Wage Rate Labour 15 45 5 10 20 0 123 Income Effect (Exceptional Supply Curve) Substitution Effect Exceptional Supply is the opposite of the Law of Supply where as price increases, the quantity supplied decreases and vice versa 6

38. All Rights Reserved PRINCIPLES OF ECONOMICS Third Edition © Oxford Fajar Sdn. Bhd. (008974-T), 2013 2– 38 INTERRELATED SUPPLY JOINT SUPPLY Increase in the supply of one good brings to an increase in the supply of another related goods.

39. All Rights Reserved PRINCIPLES OF ECONOMICS Third Edition © Oxford Fajar Sdn. Bhd. (008974-T), 2013 2– 39 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.

40. All Rights Reserved PRINCIPLES OF ECONOMICS Third Edition © Oxford Fajar Sdn. Bhd. (008974-T), 2013 2– 40 PRICE ELASTICITY OF SUPPLY (cont.)  SS = Q 2 – Q 1 x P 1 Q 1 P 2 – P 1 FORMULA:  ss = %  Quantity Supplied %  Price

41. All Rights Reserved PRINCIPLES OF ECONOMICS Third Edition © Oxford Fajar Sdn. Bhd. (008974-T), 2013 2– 41 DEGREE OF ELASTICITY Price (RM) Quantity Supplied Unitary Elastic Supply Percentage change in price equals the percentage change in the quantity supplied. Inelastic Supply A large percentage of change in the price of a good will only affect a small percentage of change of the quantity supplied. Elastic Supply A small percentage of change in the price of a good will lead to larger percentage of change in the quantity supplied. Perfectly Inelastic Supply A percentage of change in price has no effect on the percentage of change in the quantity supplied. Perfectly Elastic Supply An almost zero percentage of change in price brings a very large percentage of change in the quantity supplied.  ss > 1  ss < 1  ss = 1  ss =0  ss =   ss > 1  ss < 1  ss = 1  ss =0  ss = 

42. All Rights Reserved PRINCIPLES OF ECONOMICS Third Edition © Oxford Fajar Sdn. Bhd. (008974-T), 2013 2– 42 Technology improvements Perishability Availability and mobility of factors of production Nature of the market Time Period