The Price System and the Micro-economy

Price Mechanism

The means of allocating resources in a market economy


It is a place where buyers and sellers’ trade


Demand is the willingness to pay a price for a specific good or service

National Demand: It is speculative and it is not backed up by the ability to pay

Effective Demand: Demand that is supported by the ability to pay

Demand Curve: It shows the relationship between the quantity demanded and the price of a product

Demand Schedule : The data from which a demand curve is drawn

Market Demand: It is the total quantity demanded across all consumers in a market    

Factors influencing Demand

  • Income
  • Price of a product
  • Fashion and tastes
  • Taxes
  • Subsidies

There are 2 types of goods :

  • Normal goods: As demand of goods increases income increases
  • Inferior goods: As demand of goods decrease income increases


Supply describes the total amount of a specific good or service that is available to consumers

Supply Curve: It is graphic representation of the relationship between product price and quantity of product

Supply Schedule: The data from which a supply curve is drawn

Factors Influencing Supply

  • Costs
  • Size and Nature of the industry
  • Change in price of other products
  • Government Policies
  • Climate
  • Technology


It used to measure the change in the aggregate quantity demanded for a good or service

Elastic: When the change in demand or supply is greater than the change in price

Inelastic: When the relative change in demand or supply is greater than the change in price

Perfectly Elastic: All the products produced are sold at a given price

Perfectly Inelastic: Change in the price does not affect the quantity demanded

Price elasticity of Demand

It is an economic measure of the change in the quantity demanded or purchased of a product in relation to its price change

PED = % change in quantity demanded of a product / % change in income

Unit Elasticity: The change in price is the same as the change in quantity demanded

Factors affecting PED

  • Time
  • Durability
  • Range and attractiveness of substitutes

Income Elasticity of Demand

Income elasticity of demand measures the responsiveness of demand for a particular good to changes in consumer income

YED = % change in quantity demanded / % change in income

Cross Elasticity of Demand

The cross elasticity of demand is an economic concept that measures the responsiveness in the quantity demanded of one good when the price for another good change.

XED = % change in quantity demanded of product A / %[MS1]  change in price of product B

Price Elasticity of Supply

It measures the responsiveness to the supply of a good or service after a change in its market price

PES = % change in quantity supplied/ % change in price

Factors Influencing PES

  • Time
  • Availability of resources
  • Number of firms in the market

Equilibrium and Disequilibrium

Equilibrium: Economic equilibrium is a condition or state in which economic forces are balanced.

Disequilibrium: Economic disequilibrium is a situation where demand and supply are not equal

Equilibrium Price: Price where demand and supply are equal

Equilibrium Quantity: It is the amount that is traded at the equilibrium price

Causes of shifts in the Demand Curve

  • People’s income
  • Availability of the products
  • Price of the products
  • Fashion and Taste

Causes of shifts in the Supply Curve

  • Costs associated with supplying the products
  • The size, structure and nature of the products
  • Government policies
  • Climate

Consumer Surplus and Producer Surplus

Consumer surplus: The difference between the value a consumer places on units consumed and the payment needed to actually purchase the product

Producer surplus: The difference between the price a producer is willing to accept and what is actually paid