Unit 2: Demand and Supply Analysis – Polished Study Notes
(MBA – Managerial Economics)
1. Demand Analysis
Definition of Demand
Demand is the quantity of a good or service that consumers are willing and able to buy at
various prices, ceteris paribus.
Law of Demand
👉 Price ↑ → Quantity Demanded ↓ (inverse relationship)
Why? (Core Theory)
Diminishing Marginal Utility
Income Effect (lower price → higher real income)
Substitution Effect (switch to cheaper alternatives)
Demand Function
Q_d = f(P, I, P_r, T, E, A, N)
Where:
(P): Own price
(I): Income
(P_r): Related goods prices
(T): Tastes
(E): Expectations
(A): Advertising
(N): Number of buyers
Applied Example (Coffee Market)
[Q_d = 12{,}500 - 8P + 0.45I + 120A]
👉 Interpretation:
Price coefficient (-8): higher price reduces demand
Income (+0.45): normal good
Advertising (+120): strong marketing impact
Movement vs Shift (Critical Exam Concept)
CHANGE TYPE CAUSE GRAPH EFFECT
CHANGE IN QUANTITY Own price Movement along curve
DEMANDED
CHANGE IN DEMAND Other factors Entire curve shifts
Demand Shifters (With Insight)
Income
o Normal goods → ↑I ⇒ ↑Demand
o Inferior goods → ↑I ⇒ ↓Demand
Related Goods
o Substitutes → positive relationship
o Complements → negative relationship
Expectations
👉 Expected price increase → demand increases today
Population (N)
👉 Key driver in growing cities like Bahir Dar
2. Supply Analysis
Definition
Supply is the quantity producers are willing and able to sell at various prices.
Law of Supply
👉 Price ↑ → Quantity Supplied ↑
Supply Function
[Q_s = f(P, P_i, T_e, N_f, G, E_x)]
Key Supply Shifters
Input Prices (Pi) → ↑cost ⇒ ↓Supply
Technology (Te) → improvement ⇒ ↑Supply
Taxes/Subsidies (G)
o Tax → ↓Supply
o Subsidy → ↑Supply
Expectations (Ex)
👉 Expect higher future price → reduce current supply
3. Market Equilibrium
Equilibrium Condition
Q_d = Q_s
Example (Solved)
Given:
(Q_d = 10,000 - 20P)
(Q_s = -2000 + 30P)
Solve:
[10000 - 20P = -2000 + 30P]
P= 240
Q= 5200
Disequilibrium
Surplus (P > P*) → downward pressure on price
Shortage (P < P*) → upward pressure on price
4. Shock Analysis (Very Important for Exams)
Demand Shock
Example: Subsidy
👉 Demand shifts right → ↑P, ↑Q
Supply Shock
Example: Forex shortage in Ethiopia
👉 Supply shifts left → ↑P, ↓Q
5. Elasticity (Managerial Decision Tool)
Price Elasticity of Demand
E_d = \frac{%\Delta Q_d}{%\Delta P}
Interpretation
Elasticity Meaning Pricing Strategy
Ed >1
Ed <1
Ed =1
Total Revenue Relationship
[TR = P times Q]
Elastic → Price ↑ ⇒ TR ↓
Inelastic → Price ↑ ⇒ TR ↑
Solved Example (Ride-Hailing)
Price: 250 → 300
Quantity: 8000 → 6400
Result:
👉 (E_d = -1.22) (Elastic)
Managerial Insight:
Price increase reduces revenue
Better strategy → promotions, segmentation, or peak pricing
Other Elasticities
Income Elasticity (EI)
o Positive → Normal good
o Negative → Inferior good
Cross Elasticity (Exy)
o Positive → Substitutes
o Negative → Complements
Supply Elasticity
👉 More elastic in the long run
6. Graph Mastery (Exam Critical)
You should be able to draw and explain:
1. Downward-sloping demand curve
2. Upward-sloping supply curve
3. Equilibrium (P*, Q*)
4. Demand shifts (→ right/left)
5. Supply shifts (→ right/left)
6. Elastic vs inelastic demand curves
7. Revenue changes under elasticity
8. Short-run vs long-run adjustments
7. Integration with Market Structures
👉 This is where many students lose marks:
Use elasticity to guide pricing decisions
Use MR = MC rule to determine output
Combine both for profit maximization