Supply and Demand Curves in the era of COVID-19

 

When it comes to economics, there are basic factors to consider when analyzing and discussing market status. We base our economy on the Supply of goods and services, and the Demand for those goods.

In this short article, I would like to explain in simple words and with some charts, the first steps of all economic analysis, to understand what Supply Curve and Demand Curve stand for. Then, I will demonstrate its basic use in the case of a market that is relevant to recent months.

‘Demand Curve’ shows the relations between the goods we would like to acquire, such as four drinking-glasses, and the price we are willing to pay for those goods. Let us assume that we agree to pay up to 10$ for those four glasses. When it comes to the fifth drinking-glass, we do not want to pay the same price as we paid before for a glass (2.5$), and so we offer a lower price. The linear curve shows that when our will to buy any product increases, we tend to offer less money for the next unit we buy.

‘Supply Curve’ shows the relations between the number of goods offered by a company to the market, and the price it expects to get for that quantity. Returning to the drinking-glasses factory, let’s assume that it costs 9$ to produce four glasses, therefore, the company agrees to get the 10$. But when it comes to producing the fifth glass the cost of all five rises to 11$, therefore, the company expects to get 11$ or more for five glasses. The linear curve shows that when the company offers a larger number of goods to the market, it expects to get more money and raises the price.

Here is what a common Demand and Supply curves look like on a chart.

Let me explain some more about the curves with a true case-study. The world is facing a massive attack from a new virus called COVID19. At this moment, there is not a known vaccine for that virus, and many laboratories are trying to figure it out.

The humankind needs the vaccine. Let us assume that for preventing the virus from spreading farther more, we have to buy five billion units worldwide. The need is so urgent that we agree to pay any price to get the vaccine. The situation that a buyer agrees to pay any price for the goods in unique. The curve is as shown in the chart below. This situation indicates that the buyer is determined to but at any cost. The curve is called a perfectly inelastic demand curve.

Being optimistic, let us assume that in six months, one of the labs would achieve a big breakthrough and find the first world vaccine prior to all other labs.

The market the CEO sees is an open market. A very elastic market where he/she can sell the vaccine alone in the market, being a monopoly, and understands that any price would do, as long as the lab supplies five billion units. In this case, the price of one billion equals the price of five billion. That is because the lab asks for the highest reasonable price it can. In the chart below we can see that the price is 35 billion $ and it meets the market demand. This type of Supply Curve is also unique, and it is called a perfectly elastic supply curve.

Now that we’ve understood the basics of demand and supply, let’s go a step farther and explain some more concepts. Let us assume that two months after the first vaccine was born, another lab developed the vaccine, and it wants to get into the market. This lab understands that there is a monopoly in the market, selling the very same vaccine it developed, but they want to compete in this market. They also see a very elastic market because they are number two in the market with no other competitors. They compete on the price, assuming that the buyers would prefer to pay less for the same product. The chart below shows this situation.

Please notice, that I could make it more complicated if, for instance, lab1 could supply only 3 billion and lab2 could supply 2 or more. In this case, the curves would look different. But this is a lesson for another time.

The final example of this first economics lesson is this: let us assume that a month after the vaccine was born, there would be another big lab, developing new pills to heal the illness, instead of injections.

This makes competition more interesting. We began with a competition that was in the same market and with the same product. Now, the competition is in the same market but different products for the same purpose. At this point, the buyer has a chance to choose between substitutes. The ability to choose reflects the preferences of the buyer. In economics, it is called the buyer’s flavor. The demand for the vaccine by injection is not inelastic any more. The buyer can force the vaccine monopoly to lower the prices, knowing that the buyer has other options. The Demand curve for the vaccine by injection now has a slope and elasticity. The buyer may still need five billion units, but now the offered price is lower than the monopoly price. The buyer is willing to pay less and less as the quantity increases. The next chart shows that for five billion units the buyer agrees to pay not more than 10 billion $.

Finally, a word about Intelligence in this little story. It is not fiction rather the actual situation we are living in. Our economic ecosystem is hectic trying to find the vaccine, and many labs, startups, and pharma companies are trying to end this crisis. For a competitor in this race, it is important to implement Intelligence processes, projects, and researches and gain as much information as can be to strengthen its leverage over other competitors. This can be achieved by applying and investing in CI (know your competitors), MI (know your buyers’ needs and price elasticity), BI (know your strengths and weaknesses).

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