To know about demand and supply theory we need to know about the Demand and Supply curves, its elasticity, and determinants.

Demand Curve:

• The demand curve is a graphical representation of the relationship between the price of a good or service for a given period of time and the quantity demanded at that specific period of time.
• In a traditional representation, the price will appear on the left vertical axis, the quantity demanded on the horizontal axis.
• Simply, Demand for commodity implies:
  • The desire to acquire it,
  • Willingness to pay for it,
  • Ability to pay for it.

Determinants of Demand:

There are five determinants of demands:

1. Price of the good
2. Taste, preferences, or level of desire for the product by the buyer
3. The income of the buyer
4. The prices of related goods or services
   • Either complementary and purchased along with a particular item, or
   • Substitutes and bought instead of a product.
5. Consumer expectations
   • This refers to whether a consumer believes prices for the product will rise or fall in the future.

Changes that lead to decline in Demand:

• Increase in price of a complement
• The decrease in the price of a substitute
• The decrease in income if good is usual good
• Increase in income if good is inferior good

Elasticity of Demand:

• The extent to which rising prices translate into declining demand is referred to as demand elasticity or price elasticity of demand.
• Elasticity reacts to the issue of how much the quantity will change with a 1% price change in percentage terms, and is therefore critical in deciding how revenue will change.
• Also, we can say A quantity variable (Q) sensitivity test for changes in the price variable (P).

Supply Curve:

• It is the total amount of goods and services that producers are willing and able to purchase at a given price in a given time period.
• As per the law of supply, “as the price of a product rises, the quantity supplied of the product will usually increase”.
• when there will be a higher price, the greater will be the incentive for the firm to sell more.

Determinants of supply:

• Changes in costs of production:
  • Increase in the cost of production causes the quantity supplied to which further shifts the supply curve to the left.
  • Decrease in the cost of production causes the quantity supplied to increase. The supply curve will shift rightwards.
• State of technology:
  • Improvements in technology shifts the supply curve to the right
  • Natural disasters may move the technology which shifts supply to the left.
• Price of relating product (joint/competitive supply):
  • if the producer could produce another product with higher profit, due to limited resources, the supply for the existing product decreases.
• Expectations:
  • if demand for the product is likely to rise then supply increases
• Indirect taxes & subsidies:
  • Indirect taxes increase costs which shifts supply curve to left.
  • Subsidies reduce costs which shifts supply curve to right.
• Number of firms in the market:
  • more firms producing shifts supply curve to the right and more are being supplied at each price level.

Elasticity of Supply:

• Elasticity of supply refers to the responsiveness of the quantity supplied of a good to change in its price.
• If supply is elastic (i.e. PES > 1), then producers can increase output without a rise in cost or a time delay
• If supply is inelastic (i.e. PES <1), then firms find it hard to change production in a given time period.

More on Demand & Supply

• The Law of Demand states that the demand for a specific product increases with an increase in price while all items remain constant.
• If a commodity has low price (Inferior good), it shall tend to keep the low price elasticity.
• The income elasticity of demand is negative in the case of inferior products.
• If demand is inelastic and the prices increase.
• Supply of the good does not meant by the actual production. It means the amount of the good offered for sale at a particular price per unit of time.