Demand and Supply in Product Markets

What Demand and Supply in Product Markets covers

Demand and supply in product markets is examined in Unit AS 1, Markets and Market Failure. It covers what determines demand and what determines supply, movements along a curve versus shifts of a curve, why the demand curve slopes downwards, why the supply curve slopes upwards: marginal cost and the profit incentive, consumer surplus and producer surplus and when consumers do not behave rationally.

The 6 subtopics

Each one has its own page.

• What determines demand and what determines supplyEffective demand and explain why willingness alone is not enough, substitute good and complementary good.Open →
• Movements along a curve versus shifts of a curveExtension and a contraction of supply.Open →
• Why the demand curve slopes downwardsLaw of demand and the condition under which it holds, income effect of a price fall and substitution effect of a price rise.Open →
• Why the supply curve slopes upwards: marginal cost and the profit incentiveLaw of supply and explain the profit reasoning behind it, supply curve be described as the firm's marginal cost curve and how a technological improvement affects marginal cost.Open →
• Consumer surplus and producer surplusWhat consumer and producer surplus each measure, how they are read off a demand and supply diagram, and how a price change redistributes them.Open →
• When consumers do not behave rationallyBounded rationality, how habitual behaviour prevents consumers from responding to better offers and inertia or the status quo bias in consumer behaviour.Open →

What you need to know

Answer each one before you reveal it.

Take Demand and Supply in Product Markets further

The same content, four other ways.

Commonly confused

Pairs that lose marks when they are blurred together.

• Marginal cost vs Average cost

  Marginal cost: the cost of one more unit. Average cost: total cost divided by output.

• Inelastic demand vs Perfectly inelastic demand

  Inelastic demand: quantity changes by proportionately less than price, so the elasticity lies between 0 and -1 and the curve is steep but still sloping. Perfectly inelastic demand: quantity does not change at all, so the elasticity is exactly 0 and the curve is vertical.

• Specific (per unit) tax vs Ad valorem tax

  Specific (per unit) tax: a fixed cash sum per unit, so it shifts supply upward in parallel and the vertical gap is constant. Ad valorem tax: a percentage of price, so it pivots supply and the vertical gap widens as price rises.

Questions from this topic

Each one with the model answer underneath.

1. 1

   Define effective demand and explain why willingness alone is not enough.

   Model answer

   Effective demand is the quantity of a good that consumers are both willing and able to buy at each price in a given period. Wanting a good has no effect on the market unless the consumer can actually pay for it, because sellers respond to purchases rather than to wishes. A person who would love a sports car but cannot afford one contributes nothing to the demand curve for sports cars.

2. 2

   List the main factors that shift the demand curve for a good.

   Model answer

   Consumer income, the prices of substitutes and complements, tastes and fashion including advertising, the size and age structure of the population, expectations about future prices, and the availability and cost of credit. Government policy such as a subsidy paid to consumers, and seasonal factors, also shift demand. The price of the good itself is not on this list, because a change in that price moves the economy along the curve rather than shifting it.

3. 3

   Explain, with an example, how a rise in income affects demand for a normal good and for an inferior good.

   Model answer

   For a normal good, demand rises as income rises, so the demand curve shifts to the right: households with more income buy more restaurant meals at every price. For an inferior good, demand falls as income rises, so the curve shifts left: as households become better off they buy fewer own-brand basic foods and switch to premium alternatives. The classification depends on how consumers actually behave, not on the quality of the good in any absolute sense.

4. 4

   What is a substitute good, and how does a change in its price affect demand for the original good?

   Model answer

   A substitute is a good that satisfies a similar want and can be bought instead, such as tea and coffee. If the price of coffee rises, some consumers switch to tea, so the demand curve for tea shifts to the right at every price of tea. A fall in the price of coffee shifts the demand for tea to the left. Substitutes therefore move together in the sense that a price rise in one raises demand for the other.

5. 5

   What is a complementary good, and how does a change in its price affect demand for the original good?

   Model answer

   A complement is a good consumed together with another, such as printers and ink cartridges or cars and petrol. If the price of petrol rises sharply, the total cost of motoring rises, so demand for cars shifts to the left. A fall in the price of the complement shifts demand for the original good to the right. A rise in the price of one complement therefore reduces demand for the other.

6. 6

   Explain how expectations of a future price change affect current demand.

   Model answer

   If consumers expect a good to become more expensive soon, they bring purchases forward to avoid the higher price, so current demand shifts right. If they expect prices to fall, they postpone buying and current demand shifts left. This is why announced tax rises on cars or fuel are usually preceded by a surge in sales and followed by a slump, even though nothing about the good itself has changed.

What is inside Levo

Six ways to work the same material.

Demand and Supply in Product Markets revision questions

What does Demand and Supply in Product Markets cover in CCEA A-Level Economics?

6 subtopics: what determines demand and what determines supply, movements along a curve versus shifts of a curve, why the demand curve slopes downwards, why the supply curve slopes upwards: marginal cost and the profit incentive, consumer surplus and producer surplus and when consumers do not behave rationally. Each one has its own page with questions and model answers.

How is Demand and Supply in Product Markets organised?

By the CCEA 4410 specification, subtopic by subtopic, so it matches the order you are taught it in.