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Law Of Demand Theory

And
Equi-marginal Utility
Approach

1
2
Presented by:

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0011 0010 1010 1101 0001 0100 1011
Adrita Nath

Ashwini Kumar

Rohit Kishore

11/29/09 Shritama
group 2 sec cSarkar 1
Contents
 Why demand ?
 What is demand ?
 Determinants
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demand.
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 The law of Demand.
 Demand Schedule.
 Demand curve.

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 Characteristics of a typical demand curve.

1
 Assumptions.
 Exceptions to the law.

4
 Movement along the curve.
 Movement of demand curve.

11/29/09 group 2 sec c 2


Contd…
 Factors and effect of change in demand.
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 The law of equi marginal utility.

2
 Utility schedule.

1
 About the law.

4
 Example.
 Assumptions.
 Equi marginal utility and law of demand.
 Use for managerial purposes.

11/29/09 group 2 sec c 3


Why Demand ?
NEED
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SATISFACTION

2
WANTS

1
4
PURCHASE

DEMAND

11/29/09 group 2 sec c 4


What is Demand ?
“ When the desire for a commodity is backed by the
0011 0010 1010 1101 0001
willingness and0100
the 1011
ability to spent adequate sums
of money, it becomes demand or effective demand
in the economic sense of the curve. Only desire for

2
commodity or having money for the same cannot

1
give rise to its demand”

4
Marshall
“ Demand for a product refers the amount of it which
will be bought per unit of time at a particular price”.

11/29/09 group 2 sec c 5


Determinants of
Demand
1.Price of the product.
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2.Income and wealth distribution.
3.Tastes, habits and preferences.

2
4.Relative prices of other goods

1
 Substitute products.

4
 Complementary products.
1.Consumers satisfaction.
2.Advertisements effects.
3.Growth of population.
4.Level of taxation.
5.Climatic or weather conditions.
6.Special occasions.
11/29/09 group 2 sec c 6
The Law of Demand
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“Other factors remaining same (habits, tastes etc.)

2
as price decreases demand increases and vice

1
versa”

4
Marshall

“Ceteris paribus, higher the price of a commodity,


smaller is the quantity demanded and lower the
price, larger the quantity demanded.”

11/29/09 group 2 sec c 7


Demand Schedule
(Hypothetical)
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Price of commodity (in Quantity demanded
Rs) (unit per week)

1
2
5 100
4 200

4
3 300
2 400
1 500

11/29/09 group 2 sec c 8


Demand Curve
D
P1 - old price
E1
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P1
P2 - new price

2
P2 E2 Q1 – old quantity

1
Price( demanded
P) D

4
Q2 – new quantity
0 Q1 Q2 demanded
Quantity
DD – demand curve
demanded (Q)

A Linear Demand
Curve
11/29/09 group 2 sec c 9
Characteristics of A Typical
Demand Curve
 Drawn by joining different loci.
0011 0010 1010 1101 0001 0100 1011

2
 Downward sloping.

1
4
 Reciprocal relationship between price and
quantity demanded ( P α 1/Qd )

 Linear Non -
linear
11/29/09 group 2 sec c 10
Assumptions (Other
things)
a) No change in consumer’s income.
b)0010
0011 No1010
change in consumer’s
1101 0001 0100 1011 preferences.
c) No change in the fashion.

2
d) No change in the price of related goods :

1
 Substitute goods.

4
 Complementary goods.
a) No expectation of future price changes or
shortages.
b) No change in size, age, composition and sex ratio of
the population.
c) No change in the range of goods available to the
consumers.
11/29/09 group 2 sec c 11
Contd…
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h) No change in the distribution of income
and wealth.

2
1
i) No change in the government policy.

4
j) No change in weather conditions.

11/29/09 group 2 sec c 12


Exceptions To The Law
a) Giffen goods.
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b) Articles of snob appeal.
c) Speculation.

2
d) Consumer psychological bias or illusion.
D
1
4
P2
Upward
Price P1
sloping
D demand
Q1 Q2
curve
Quantity
11/29/09 demanded group 2 sec c 13
Movement along the curve
OR
Change in quantity
demanded
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 Extension of demand /Increase in

2
quantity demanded:

1
‘ With a decrease in price, there is

4
increaseDin the quantity demand of the
product’.
P
E
1

Price E`
P2

Q1 Q2

11/29/09
Quantity
group 2 sec c 14
demanded
 Contraction of demand /Decrease in
quantity demanded:
‘ With a increase in price, there is a
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decrease in quantity demanded’.’

2
1
E`

4
P2

PriceP 1
E

Q2 Q1

Quantity
demanded
11/29/09 group 2 sec c 15
Movement of Demand Curve
OR
Change
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in demand
 Increase in demand:

2
a) More quantity demanded ------ at a

1
given price.

4
b) D`
Same quantity demandedD`------ at a
D
higher price. D
b
P2
a b
P1 Price
Pric a
D` P1 D`
e
D D

Q1 Q2 Q1
11/29/09 group 2 sec c Quantity demanded 16
Quantity
 Decrease in demand :
a) Less quantity demanded ---- at
same price.
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b) Same quantity demanded ---- lower
price.

2
D D

1
D` D`

4
b
P1
Price
a b Price D
P1
D a
P2
D` D`

Q2 Q1 Q1
Quantity demanded Quantity demanded

11/29/09 group 2 sec c 17


Factors And Effects of
Change
(increase or decrease) in
demand
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a) Change in income :

1
2
D
Increase Decrease
D`

4
D`
Price
Price D

D
D D` D`

Quantity Quantity
demanded demanded
11/29/09 group 2 sec c 18
b) Change in taste, habit and
preference :
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D Negativ
Positive
D` e

1
2
D`
D
Price

4
Price

D` D
D D`

Quantity Quantity
demanded demanded

11/29/09 group 2 sec c 19


c) Change in fashion and
customs :
Favorable
0011 0010 1010 1101 0001 0100 1011 Unfavorable
D
D`

1
2
D`
D
Price Price

4
D` D
D D`

Quantity Quantity
demanded demanded

11/29/09 group 2 sec c 20


d) Change in distribution of wealt

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Fiscal Fiscal measures
measures D (particular)
D`

2
(welfare)

1
D`
Price D Price

4
D
D` D`
D

Quantity Quantity
demanded demanded

11/29/09 group 2 sec c 21


e) Change in substitutes :

Increase
0011 0010 1010 in0100
1101 0001 price of
1011 Decrease in price of
substitute goods D substitute goods
D`

1
2
Pric D Pric D`
e

4
e

D` D
D D`

Quantity Quantity
demanded demanded
Ptea Dtea : Pcoffee Ptea Dtea : Pcoffee
11/29/09 group 2 sec c 22
Dcoffee Dcoffee
f) Change in demand of
complementary goods :
Decrease in price Increase in price
0011 0010 1010 1101 0001 0100 1011
D
D`

2
Price Price D`

1
D

4
D` D
D`
D

Quantity Quantity
demanded demanded
Pcar Dcar : Ppetrol Pcar Dcar : Ppetrol
11/29/09
Dpetrol group 2 sec c
Dpetrol 23
g)Change in population :
Increase
0011 0010 1010 1101 0001 0100 1011 Decrease
D
D`

1
2
D`
D Price

4
Price
D`
D
D D`

Quantity Quantity
demanded demanded

11/29/09 group 2 sec c 24


h) Advertisement and publicity
persuasion :
Aggressive
0011 0010 1010 1101 0001 0100 1011 Docile
D
D`

1
2
D Price D`
Price

4
D` D
D D`

Quantity Quantity
demanded demanded

11/29/09 group 2 sec c 25


i) Change in value of money :

Deflationary Inflationary
0011 0010 1010 1101 0001 0100 1011
D
D`

1
2
D`
Pric
Price D
e

4
D`
D

D D`

Quantity Quantity
demanded demanded
( Value of ( Value of
11/29/09 money ) group 2 sec c money ) 26
j) Change in level of taxation :

Low0100 1011 High


0011 0010 1010 1101 0001
D
D`

2
Price

1
D D`
Price

4
D` D

D D`

Quantity Quantity
demanded demanded

11/29/09 group 2 sec c 27


k)Expectation of future changes
in prices :
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Rise D Fall
D`

2
Price D`

1
D
Price

4
D
D`
D`
D

Quantity Quantity
demanded demanded

11/29/09 group 2 sec c 28


Law of Equi marginal Utility
 Utility :
0011 0010‘1010
The1101
satisfaction that a consumer gets by having
0001 0100 1011
or consuming goods or services is called utility’.

2
 Total Utility (TU) :

1
‘ It is the sum total of satisfaction which a
consumer receives by consuming the various units

4
of the commodity’.

 Marginal Utility (MU) :


‘ It is the change in total utility resulting from one
unit change in consumption of good’.
MU = ∆TU / ∆Q
MU = TUn – TUn-1 ; where ∆Q = 1

11/29/09 group 2 sec c 29


Utility Schedule
Units of goods (n) TUn MUn= (∆TUn /
0011 0010 1010 1101 0001 0100 1011
∆Qn)
0 0 -

2
1 9 9
2 16
1 7

4
3 21 5
4 24 3
5 25 1
6 24 -1
7 21 -3
11/29/09 group 2 sec c 30
About The Law
‘ A consumer maximizes his total utility by
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allocating his income among goods and services (
including savings ) available to him in such a way

2
that the marginal utility per rupees worth of one

1
good equals the marginal utility per rupees worth

4
of any other good.’

MUx / Px = MUy / Py
Generalizing ,
MUx1/ Px1 = MUx2 / Px2 = ……= MUxn / Pxn

11/29/09 group 2 sec c 31


Assumptions
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a) Cardinal utility
b) Independent utility

2
c) Additive utility
d) Constant marginal utility of money

1
4
e) Diminishing marginal utility
f) Rationality
g) Introspective analysis

11/29/09 group 2 sec c 32


Example
Money Income = Rs37/-
Units MU
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A 1011 MUB MUC
P P P =Rs

2
=Rs5/unit =Rs3/unit 2/unit

1
4
1 120 100 50
2 100 90 48
3 80 80 46
4 60 70 44
5 40 60 42
6 20 50 40
11/29/09 group 2 sec c 33
7 0 40 38
TU = Σ MUA + Σ MUB + Σ MUC
0011 0010 1010 1101 0001 0100 1011

= 890

1
2
So, MUA / PA = MUB / PB = MUC / PC = MU

4
(Money)

= 100/5 = 60/3 = 40/2 = 20

This is Consumer’s Equilibrium.

11/29/09 group 2 sec c 34


Equi marginal Utility
And
Law
0011 0010 1010 1101 0001 0100of
1011 Demand

 Substitution effect :

1
2
Income constant If price x fall MUx fall

11/29/09
Demand X increased

group 2 sec c 4
Real income increased

35
 Income Effect :
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Price constant Income increased

1
2
4
Demand rises Money income rise

In case of normal goods


+ve I.E + S.E = Law
of demand
11/29/09 group 2 sec c 36
Use for managerial
a)
purposes
Sales forecasting with sound base and greater
0011 0010accuracy.
1010 1101 0001 0100 1011

b) Demand manipulation.
c) Product planning.

1
2
d) Product improvement.
e) Determining sales quotas.

4
f) Appraisal of performance.
g) Pricing policy.
h) Market share.
i) Scope for expansion.
j) Competitive position.

11/29/09 group 2 sec c 37


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2
1
11/29/09 group 2 sec c 4 38