Guide · 7 min read

Supply, Demand and Elasticity for Economics Assignments

Supply and demand is the foundation of microeconomics. Learn to move between the equation, the diagram and the explanation, and most introductory problems become manageable.

The model in brief

The demand curve shows how much of a good buyers want at each price, holding everything else constant. It slopes downward because a higher price reduces quantity demanded. The supply curve shows how much sellers want to sell at each price, and it slopes upward because a higher price makes production more profitable. The market is in equilibrium where the two curves meet, at the price where quantity demanded equals quantity supplied.

Always keep the idea of ceteris paribus, which means all other things equal, in mind. A change in the good's own price causes a movement along the curve. A change in anything else shifts the whole curve.

Movements versus shifts, and what shifts each curve

CurveShifts right (increase) ifShifts left (decrease) if
DemandIncome rises (normal good), price of a substitute rises, price of a complement falls, tastes favor the good, more buyers, expected future price risesThe opposite of each
SupplyInput costs fall, technology improves, more sellers, subsidies, favorable weather, expected future price fallsThe opposite of each

When you describe a shift, follow a standard chain: state which curve shifts and why, the direction of the shift, the new equilibrium and the change in price and quantity. For example, a rise in the price of coffee shifts the demand for tea right, which raises the equilibrium price and quantity of tea.

ChangeEquilibrium priceEquilibrium quantity
Demand increases, supply constantRisesRises
Demand decreases, supply constantFallsFalls
Supply increases, demand constantFallsRises
Supply decreases, demand constantRisesFalls
Both increaseUnclear (depends on sizes)Rises
Demand increases, supply decreasesRisesUnclear (depends on sizes)

Solving for equilibrium with equations

Exam problems often give linear equations. Set quantity demanded equal to quantity supplied and solve.

Equilibrium (hypothetical market)

Demand: Qd = 120 - 2P. Supply: Qs = 3P.

Set Qd = Qs: 120 - 2P = 3P, so 120 = 5P and P = 24. Substitute to find quantity: Q = 3 x 24 = 72.

To draw the diagram, find the intercepts. Demand reaches zero quantity at P = 60 (since 120 - 2P = 0) and zero price at Q = 120. Supply passes through the origin. Label the axes (price on the vertical axis, quantity on the horizontal), both curves, the equilibrium point and its coordinates.

Many courses present demand in inverse form, with price as a function of quantity. Here P = 60 - 0.5Q for demand and P = Q/3 for supply. Be ready to move between forms, because surplus triangles use the inverse form.

Price ceilings and floors

A price ceiling is a legal maximum price. If it is set below equilibrium, it binds and creates a shortage. A price floor is a legal minimum. If it is above equilibrium, it binds and creates a surplus. If a control is set on the wrong side of equilibrium, it has no effect.

PolicyLevelQuantity demandedQuantity suppliedResult
Price ceiling$18120 - 36 = 843 x 18 = 54Shortage of 30 units
Price floor$30120 - 60 = 603 x 30 = 90Surplus of 30 units

With a binding ceiling, the quantity actually traded is the smaller one, which is 54, so the market also loses transactions. Mention the usual side effects in a discussion: queues, black markets and falling quality under ceilings, and storage or waste costs under floors.

Taxes, incidence and deadweight loss

A tax per unit shifts the supply curve up (if levied on sellers) by the amount of the tax. The result is a higher price for buyers, a lower price received by sellers and fewer units traded. Who legally pays the tax does not determine who bears it. Incidence depends on elasticity.

A $5 tax on sellers (continuing the example)

New supply is Qs = 3(P - 5) = 3P - 15. Set equal to demand: 120 - 2P = 3P - 15, so 135 = 5P and P = 27, with Q = 66.

  • Buyers now pay 27, up 3 from 24. Sellers receive 27 - 5 = 22, down 2 from 24. Buyers bear 3 of the 5 tax and sellers bear 2.
  • Tax revenue is 5 x 66 = $330.
  • The deadweight loss is the triangle of lost trades: 0.5 x 5 x (72 - 66) = $15.

Whichever side is less elastic bears more of the tax. Here demand is less elastic than supply at the equilibrium, so buyers bear the larger share.

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Consumer and producer surplus

Consumer surplus is the difference between what buyers are willing to pay and what they pay. Producer surplus is the difference between the price sellers receive and the lowest price they would accept. Both are areas on the diagram, usually triangles, and total surplus measures the market's gains from trade.

Before taxAfter the $5 tax
Consumer surplus0.5 x (60 - 24) x 72 = 1,2960.5 x (60 - 27) x 66 = 1,089
Producer surplus0.5 x 24 x 72 = 8640.5 x 22 x 66 = 726
Tax revenue0330
Total2,1602,145
Deadweight loss15

Check: the total before the tax (2,160) minus the total after (2,145) equals the deadweight loss of 15, which matches the triangle calculation above. This reconciliation is a good habit for catching mistakes.

Elasticity

Elasticity measures how responsive quantity is to a change in something else. The price elasticity of demand is the percentage change in quantity demanded divided by the percentage change in price. For analysis, ignore the minus sign unless asked, and describe size.

Value of absolute elasticityDescriptionEffect of a price rise on total revenue
Greater than 1ElasticRevenue falls
Equal to 1Unit elasticRevenue unchanged
Less than 1InelasticRevenue rises

Midpoint method

Price rises from $10 to $12 and quantity falls from 100 to 80. Using midpoints, the change in quantity is -20 / 90 = -22.2 percent, and the change in price is 2 / 11 = 18.2 percent. Elasticity = -22.2 / 18.2 = -1.22, so demand is elastic. Check with revenue: 10 x 100 = 1,000 before and 12 x 80 = 960 after, so revenue fell, which is what elastic demand predicts.

Point elasticity on a linear demand curve

With Qd = 120 - 2P at P = 24, Q = 72. The slope in terms of quantity is -2, so elasticity = -2 x (24 / 72) = -0.67, inelastic. On a straight line, elasticity differs at each point, and is unit elastic at the midpoint, which is P = 30 here.

Other elasticityFormulaInterpretation
Income elasticity of demandPercentage change in quantity divided by percentage change in incomePositive for normal goods, above 1 for luxuries, negative for inferior goods
Cross-price elasticityPercentage change in quantity of A divided by percentage change in price of BPositive for substitutes, negative for complements
Price elasticity of supplyPercentage change in quantity supplied divided by percentage change in priceHigher when production can adjust quickly

Determinants of price elasticity of demand: availability of substitutes, whether the good is a necessity or luxury, share of income spent on it, and the time horizon. Demand is generally more elastic over longer periods.

Practice problem with solution

Demand is Qd = 200 - 4P and supply is Qs = 6P - 20. (a) Find the equilibrium. (b) What happens with a price floor of $26? (c) What if demand rises to Qd = 240 - 4P? (d) Compute the elasticity of demand at the original equilibrium. (e) Find the effects of a $5 tax on sellers.

Solution

  • (a) 200 - 4P = 6P - 20, so 220 = 10P and P = 22, Q = 6 x 22 - 20 = 112.
  • (b) At 26: Qd = 200 - 104 = 96 and Qs = 156 - 20 = 136. There is a surplus of 40, and only 96 units are sold.
  • (c) 240 - 4P = 6P - 20, so 260 = 10P, giving P = 26 and Q = 136. Price and quantity both rise.
  • (d) Elasticity = -4 x (22 / 112) = -0.79, so demand is inelastic at that point.
  • (e) New supply is Qs = 6(P - 5) - 20 = 6P - 50. Set equal to demand: 200 - 4P = 6P - 50, so P = 25 and Q = 100. Buyers pay 3 more (25 versus 22) and sellers keep 20, which is 2 less. Tax revenue is 5 x 100 = $500. Deadweight loss is 0.5 x 5 x (112 - 100) = $30. Because demand is inelastic, buyers bear the larger share (3 of the 5).

Writing economics answers well

  • Draw a clear diagram Label both axes, every curve and the equilibrium. Use a ruler or drawing tool and show the shift with an arrow and a new label.
  • Explain in a chain Cause, shift, new equilibrium, effect on price and quantity, in that order.
  • Use the right terms Distinguish between a change in quantity demanded (movement) and a change in demand (shift).
  • Show your algebra Set up the equation, solve step by step and state the units.
  • Evaluate when asked Consider elasticity, time frame, and real-world limits.
  • Use a real example Link the model to a recent market, but keep the model central.

If you need help with a problem set, diagrams or an economics essay, you can order economics homework help.

Quick answers

What is the difference between a change in demand and a change in quantity demanded?

A change in quantity demanded is a movement along the curve caused by the good's own price. A change in demand is a shift of the whole curve caused by something else, such as income or tastes.

Who really pays a tax, the buyer or the seller?

Both share it. The side that is less responsive to price (less elastic) bears more of the burden, regardless of who legally pays.

Why does elasticity change along a straight demand curve?

Because it is a ratio of percentage changes. At high prices and low quantities, a small change in price is a small percentage and a given quantity change is a large percentage, so demand is elastic. The reverse holds at low prices.

Do I need calculus?

Not for most introductory courses. Algebra and the midpoint formula are enough. If your course uses derivatives, point elasticity is (dQ/dP) x (P/Q).

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