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Lesson # 2
DEMAND
DEMAND
Demand is the effective desire or want for a
commodity, which is backed up by the ability (i.e.
money or purchasing power) and willingness to pay
for it.
Demand = Desire + Ability to pay + will to spend
The demand for a product refers to the amount of it
which will be bought per unit of time at a particular
price.
Consumer Demand
Two levels: Individual Demand
Market Demand
Market Demand is the sum total of all individual
demands.
Prices are determined based on Market
Demand.
Factors influencing individual demands:
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Price of the products.
Income of the buyer.
Tastes, Habits and Preferences.
Relative prices of other goods.
Relative prices of substitute and complementary
products.
Consumer’s expectations about future price of the
commodity.
Advertisement effect.
Factors influencing Market Demand
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Price of the product.
Distribution of Income and Wealth.
Community’s common habits and scale of preferences.
General standards of living and spending habits of the people.
Number of buyers in the market and the growth of population.
Age structure and sex ratio of the population.
Future expecations.
Level of taxation and Tax structure.
Inventions and Innovations.
Fashions
Climate and weather conditions.
Customs
Advertisement and Sales propaganda.
Important factors (key variables)affecting demand:
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“own price” of the product
Price of substitute or
Price of complimentary product
Level of disposable income
(income left with buyers after paying tax)
Change in the buyers Taste
Advertisement effect (level of ad. Exp)
Changes in population (or number of buyers)
(P)
(Ps)
(Pc)
(Yd)
(T)
(A)
(N)
Thus, Demand Function, Dx = f(Px, Ps, Pc, Yd, T, A, N, u)
Commodity = x Hence, price = Px, Demand = Dx
LAW OF DEMAND
Ceteris Paribus: (All other things remaining
the same)
Other things remaining unchanged, the demand varies
inversely to changes in price. Dx = f(Px).
The higher the price of a commodity, the smaller is the
quantity demanded and lower the price, larger the
quantity demanded. Other things remaining
unchanged, the demand varies inversely to changes
in price. Dx = f(Px).
Why does a Demand Curve Slope downward?
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The demand varies inversely to changes in price.
Dx = f(Px). The demand curve is downward sloping
indicating an inverse relationship between price and
demand.
The price is measured on the Y – axis and Demand
on the X- axis. When the price falls, demand
increases. The downward slope of demand curve
implies that the consumer tends to buy more when
the price falls. Thus the demand curve is shown as
downward sloping.
What are the assumptions underlying law
of demand?
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No change in Consumer’s income.
No change in consumer’s preferences.
No change in the Fashion.
No change in the Price of Related Goods.
No expectation of Future price changes of shortages.
No change in size, age composition, sex ratio of the population.
No change in the range of goods available to the consumers.
No change in the distribution of income and wealth of the
community.
No change in government policy.
No change in weather conditions.
What are the exceptions to the
Law of Demand?
Sometimes it may be observed, that with a fall
in price, demand also falls and with a rise in
price, demand also rises. This is apparently
contrary to the law of demand. The demand
curve in such cases will be typically unusual
and will be upward sloping.
What are the exceptions to the
Law of Demand?
Giffen Goods: In the case of certain Giffen
goods, when price falls, quite often less
quantity will be purchased because of the
negative income effect and people’s
increasing preference for a superior
commodity with rise in their real income. E.g.
staple foods such as cheap potatoes, cheap
bread, pucca rice, vegetable ghee, etc. as
against good potatoes, cake, basmati rice
and pure ghee.
What are the exceptions to the
Law of Demand?
Articles of Snob appeal (Veblen effect) : Sometimes,
certain commodities are demanded just because
they happen to be expensive or prestige goods and
have a ‘snob appeal’. They satisfy the aristocratic
desire to preserve the exclusiveness for unique
goods. These goods are purchased by few rich
people who use them as status symbol. When prices
of articles like diamonds rise, their demand rises.
Rolls Royce car is another example.
What are the exceptions to the
Law of Demand?
Speculation: When people are convinced that
the price of a particular commodity will rise
further, they will not contract their demand;
on the contrary they may purchase more for
profiteering. In the stock exchange, people
tend to buy more and more when prices are
rising and unload heavily when prices start
falling.
What are the exceptions to the
Law of Demand?
Consumer’s phychological bias or illusion:
When the consumer is wrongly biased against
the quality of a commodity with reduction in
the price such as in the case of a stock
clearance sale and does not buy at reduced
prices, thinking that these goods on ‘sale’ are
of inferior quality.
Reasons for change (increase or
decrease) in demand:
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Change in income.
Changes in taste, habits and preference.
Change in fashions and customs
Change in distributioin of wealth.
Change in substitutes.
Change in demand of position of complementary goods.
Change in population.
Advertisement and publicity persuasion.
Change in the value of money.
Change in the level of taxation.
Expectation of future changes in price.