Download Topic-2 Demand Analysis

Demand Analysis
Demand
Demand for a commodity refers to the quantity
of the commodity which an individual household
is willing to purchase per unit of time at a
particular price.
Demand for a commodity implies:
(a) Desire to acquire it,
(b) Willingness to pay for it, and
(c) Ability to pay for it.
●
Law of Demand
●
●
“The greater the amount to be sold, the
smaller must be the price at which it is
offered in order that it may find
Purchasers.”
The law indicates the inverse relation
between the price of a commodity and its
quantity demanded in the market.
Assumptions of Law of
Demand
● There is no change in consumer taste and
●
●
●
●
●
preferences
Income should remain constant
Prices of other goods should not change
There should be no substitute for the commodity
The demand of the commodity should be
continuous.
People should not expect any change in the price
of the commodity.
Law of Demand
Marshall law states that, all other factors
being equal, as the price of a good or
service increases, consumer demand for
the good or service will decrease and vice
versa.
Demand Schedule
Prices of
Quantity
Apple (Rs) Demanded
10
1
8
2
6
3
4
4
2
5
Market Demand
●
Market demand refers to the sum of
all individual demands for a
particular good or service.
●
Graphically, individual demand
curves are summed horizontally to
obtain the market demand curve.
Market Demand Schedule
Demand Curve
Demand functions
● simple demand functions
Qd = a – bP
● more complex demand functions
Qd = a – bP + cY + dPs – ePc
Demand curve for equation: Qd = 10 000 – 200P
P
D
Q
Demand curve for equation: Qd = 10 000 – 200P
P
Qd (000s)
5
9
P
D
Q
Demand curve for equation: Qd = 10 000 – 200P
P
Qd (000s)
5
10
9
8
P
D
Q
Demand curve for equation: Qd = 10 000 – 200P
P
Qd (000s)
5
10
15
9
8
7
P
D
Q
Demand curve for equation: Qd = 10 000 – 200P
P
Qd (000s)
5
10
15
20
9
8
7
6
P
D
Q
Why does the Demand
Curve Slope Downward?
●
●
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Law of Diminishing Marginal Utility:
Law of Eqi-Marginal Utility :
Increased Real Income:
What is Utility
●
Utility of a good is its expected capacity
to satisfy a human want. To a consumer,
the utility of a good is the satisfaction
which he expects from its consumption. It
is the extent to which it is expected to
satisfy his want(s)
Measuring Utility
●
●
Cardinal Approach
Ordinal Approach
Cardinal Utility Approach
In cardinal measurement, utility is
expressed in absolute standard units,
such as there being 20 units of utility
from the first loaf of bread and 15 units
from the second.
Ordinal Utility Approach
●
Ordinal utility approach is purely
subjective and is immeasurable. Ordinal
measurement of utility is the one in which
utility can not be expressed in absolute
units. Utility from two or more sources is
only ‘ranked’ or ‘ordered’ in relation to
each other
Concepts of Total, Average
and Marginal Utility
When a consumer consumes a good, the
utility derived from it varies with its
quantity, and generates three concepts;
namely
– Total Utility(TU)
– Average Utility(AU)
– Marginal Utility(MU)
●
●
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Total Utility : Total utility (TU) is the
summation of utilities derived from all the
n units.
Average utility : Total utility (TU)
divided by the number of units of X, that
is n, the resultant is Average utility (AU)
of these units of X to the consumer
The additional satisfaction a consumer
gains from consuming
one more unit of ‘X’ is Marginal utility
(MU) of that unit of X.
The Law Of Diminishing
Marginal Utility
●
●
●
It states that as consumption increases the
marginal utility derived from each additional
unit declines.
Marginal utility is derived as the change
in utility as an additional unit is consumed.
Utility is an economic term used to represent
satisfaction or happiness. Marginal utility is the
incremental increase in utility that results from
consumption
of
one
additional
unit.
Utility
(utils)
Darren’s utility from
consuming crisps (daily)
Packets
of crisps
TU
in utils
0
1
2
3
4
5
6
0
7
11
13
14
14
13
Packets of crisps consumed (per day)
Utility
(utils)
Darren’s utility from
TU
consuming crisps (daily)
Packets
of crisps
TU
in utils
0
1
2
3
4
5
6
0
7
11
13
14
14
13
Packets of crisps consumed (per day)
Darren’s utility from
TU
consuming crisps (daily)
Utility (utils)
MU
Packets
TU
of crisps in utils in utils
0
1
2
3
4
5
6
0
7
11
13
14
14
13
Packets of crisps consumed (per day)
7
4
2
1
0
-1
Darren’s utility from
TU
consuming crisps (daily)
Utility
(utils)
MU
Packets
TU
of crisps in utils in utils
0
1
2
3
4
5
6
0
7
11
13
14
14
13
7
4
2
1
0
-1
MU
Packets of crisps consumed (per day)
Utility (utils)
Darren’s utility from
consuming crisps
(daily)
ΔTU =
ΔQ =
1
TU
2
MU = ΔTU / ΔQ
MU
Packets of crisps consumed (per day)
Utility (utils)
Darren’s utility from
TU
consuming crisps
(daily)
ΔTU =
ΔQ =
1
2
MU = ΔTU / ΔQ = 2/1 =
2
MU
Packets of crisps consumed (per day)
●
As the consumer buys more and more of a
commodity , the marginal utility of
additional unit falls. Therefore the
consumer is willing to pay lower prices for
additional units.
● Marginal utility: ΔTU/ΔQ
●
●
The Law of Diminishing Marginal Utility
directly relates to the concept of diminishing
prices. As the utility of a product decreases
as its consumption increases, consumers are
willing to pay smaller dollar amounts for
more of the product.
For example, assume an individual pays
$100 for a vacuum cleaner. Because he has
little value for a second vacuum cleaner, the
same individual is willing to pay only $20 for
a second vacuum
Law of Equi- Marginal Utility
●
The law of equi-marginal utility states that
the consumer will distribute his money
income between the goods in such a way
that the utility derived from the last rupee
spend on each good is equal. In other
words, consumer is in equilibrium position
when marginal utility of money
expenditure on each goods is the same.
Exceptional Demand Curve
Price
Quantity
Demanded
Exceptions to law of demand
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Giffen goods: are Inferior goods on which the consumer spends a
large part of his income and the demand for which falls with a fall in
their price .
Veblen or Demonstration effect : Articles of snob appeal: Goods
which serve ' status symbol ' do not follow the law of demand. these
are goods of ' conspicuous consumption. Rich People buy certain
goods because it gives special distinction or prestige.
Speculative Effect : i.e Expectations regarding future prices. If the
price of a commodity is rising and is expected to rise in future the
demand for the commodity will increase.
Fear of Shortage : In case of Emergency or At times of war, famine
etc. consumers buy more ( Hoarding)
Quality-price relationship: people assume that expensive goods are
of a higher quality then the low priced goods.
Necessaries : In the case of necessaries like rice , vegetables,
medicines etc people buy even if the prices are increasing.
Prices of Related Goods
Substitutes & Complements
When a fall in the price of one good
reduces the demand for another good,
the
two
goods
are
called
substitutes.(Tea & Coffee)
● When a fall in the price of one good
increases the demand for another
good, the two goods are called
complements.(Car & petrol)
●
Substitution & Income effect
In the two goods - two prices analysis, the effect of a
change in the price of one of the goods is generally
decomposed into the substitution effect and the
income effect.
● The substitution effect is the change in the quantity of
that good consumed when the budget constraint
reflects the new relative prices
● The income effect is then the change in the quantity of
that good consumed when the budget constraint is
shifted holding its slope constant to intersect with the
new endowment point.
Determinants of demand
● Tastes & Preferences
● number and price of substitute goods
● number and price of complementary goods
● Income (Taxes & Subsidies)
● Advertisings
● Expectations
● Seasonal Variations
● Population
Change in Quantity Demanded
versus Change in Demand
Change in Quantity Demanded
●
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Movement along the demand curve.
Caused by a change in the price of
the product.
Price of
biscuits per
Pack
$4.00
Changes in Quantity
Demanded
C
A tax that raises the
price of biscuits results
in a movement along
the demand curve.
A
2.00
D1
0
12
20
Number of biscuits
consumed per Day
Change in Quantity Demanded
versus Change in Demand
Change in Demand
●
●
A shift in the demand curve, either
to the left or right.
Caused by a change in a
determinant other than the price.
Consumer Income
Price of
Ice-Cream
Cone
Normal Good
$3.00
An increase
in income...
2.50
Increase
in demand
2.00
1.50
1.00
0.50
D1
0 1
2 3 4 5 6 7 8 9 10 11 12
D2
Quantity of
Ice-Cream
Cones
Consumer Income
Price of
Ice-Cream
Cone
Inferior Good
$3.00
2.50
An increase
in income...
2.00
Decrease
in demand
1.50
1.00
0.50
D2
0 1
D1
2 3 4 5 6 7 8 9 10 11 12
Quantity of
Ice-Cream
Cones
Change in Quantity Demanded
versus Change in Demand
Variables that
Affect Quantity
Demanded
Pric
e
Incom
ePrices of
goodrelated
s
Taste
s
Expectation
s
Number
of
buyers
A Change in
This Variable . . .
Represents a
movement
along
the demand
Shifts curve
the demand
curve
Shifts the
demand
curve
Shifts the demand
curve
Shifts the
demand
curve
Shifts the
demand
curve