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In the ordinary parlance demand means desire or willingness for a commodity. But in Economics terminology demand backed up by enough money to pay for the goods demanded. Demand is the Desire or want backed up by money. Therefore, demand means desire backed by the willingness to buy a commodity and the purchasing power to pay. Harvey demand in economics is the desire to posses something & the willingness & ability to pay a certain price in order to possess it. Stonier & Hague demand in economics means demand backed up by enough money to pay for the good demanded. Benham demand for a thing at a given price is the amount of it which will be bought per unit of time at that price.
money desire + purchasing power 2. Demand is always related to price and time it is an relative concept. Demand for a commodity should always have a reference to price and time. Example demand for grapes by a household at a price of Rs 10/kgs or 20 kgs/ per week. 3. Demand may be viewed Ex-Ante or Ex-post Ex-ante means intended demand Ex-post what is already purchased.
2. 3.
4.
Law of Demand
The law of demand is one of the fundamental
laws of economics. The law of demand states that the demand for a commodity increases when its price decreases and falls when its price rises, other things remaining constant. The law of demand states, there is an inverse relationship between the price and quantity of demand. The law holds under the condition (based on assumption) i.e., other things remain constant
Law of Demand.
Short Run in the long run they tend to change. The law of demand is based on the Law of Diminishing Marginal Utility . It can be illustrated through a demand schedule, a demand curve and a demand function.
Demand Schedule
Individual Demand refers to the demand for a commodity from the individual point of view a family, household or person. Individual demand is a single consuming entitys demand D = f (P). Market Demand Refers to the total demand of all the buyers taken together. Market demand is an aggregate of the quantities of product demanded by all the individual buyers at a give price.
Dx = f (Px, Py, M, T, A, U) Dx = Quantity demanded for commodity x f = functional relationship Px = Price of commodity x Py = Prices of related commodities M = The money income of the consumer T = the taste of the consumers A = the advertisement effect U = unknown variable
10 1
9 3
8 7
7 11
6 13
A 1 3 7
B 0 1 2
C 3 6 9
D 0 4 7
10 9 8
4 14 25
7
6
11
13
4
6
12
14
10
12
37
45
inverse relationship between the price and quantity demanded. But the question is why do people demand more if prices come down ?
because of the
price
demand
quantity demanded
The law of demand is based on the law of If consumers uses more and more units of a
commodity the utility derived from each and successive units goes on decreasing. It means as the price of the commodity falls consumer purchases more of the commodity and hence his marginal utility will diminishes.
2. Substitution effect
Substitution effect also leads to the demand As the price of a commodity falls, prices of its
substitute goods remains the same and consumer will buy more of that commodities.
3. Income effect
After
falling prices, - he has spend less money for purchasing the same amount of commodity as before. A part of this money can be used for purchasing some more units of that commodity. Similarly, if the price increases, the consumers income effect reduced and he has to curtail his expenditure on the commodity.
4. New consumers
enter into market. For example computer sets, laptops, mobile, refrigerators, washing machines etc falling prices even the poor people can also buying these goods.
5. Several uses
6. Psychological effects
which lead to downward slope of the demand curve. When the price of such commodities goes up they will be used for important purposes. When price falls, the commodities will be uses for various purpose For example electricity/power favour to buy more which is natural & psychological entity. Therefore, the demand increases with the fall in prices.
that prices and quantities of a commodities are inversely related. There are certain peculiar cases law of
demand also increases and with the fall in price quantity demand also falls. In such a case demand curves slopes upward from left to right. Robert Giffen was the first person to expose this rare occasion, which is known as Giffen Paradox.
D
P2
Prices of Commodities
P1
Q1 Quantity of Demanded
Q2
1. Prestige Goods
rich people costlier price diamond, gold etc. Veblen in his doctrine of conspicuous consumption and hence this effect is called Veblen Effect. When prices of such goods rise, their snob appeal increases and they are purchase in larger quantities. On the other hand, as the price of Veblen goods falls, their capacity to perform the function of ostentation diminishes.
2. Speculative goods
shares, more will be demanded when the prices are rising and less will be demanded when the price declines. People tend to buy more shares, bond & debentures when their prices are rising in the hope that making profits in future and they can reduces buying prices are falling.
discovered Giffen Paradox. People were so poor that they spent a major part of their income on Potatoes and a small part on meat. When the price of potatoes rose, they had to economise on meat even to maintain the same consumption of potatoes.
6. Consumers ignorance
7. War or emergency
shortage, people may start buying for hoarding & building stocks even at higher prices. On the other hand, if there is depression, they will buy less at low prices.
1. Extension and contraction demand A movement along a demand curve takes place when there is a change in the quantity demanded due to change in the commoditys own price and not due to any other factor. 2. Increase and decrease demand When demand changes due to changes in other factors such as tastes & preferences, income of consumers, prices of the related good (substitutes and complementary) etc it is called as increase & decrease demand
A movement along a demand curve takes place when there is a change in the quantity demanded due to change in the commoditys own price and not due to any other factor.
P P1
D O M2 M M1 Quantity Demanded
Expansion demand
the quantity demanded is OM. If the price of the good falls from OP to OP1 quantity demanded increases from OM to OM1 is called as expansion demanded. While, on the other hand, when the price of good rises from OP to OP2 quantity demand decreases from OM to OM2, thus situation is called as contraction demand.
2. Increased and decreased demand When demand changes due to changes in other factors such as tastes & preferences, income of consumers, prices of the related good (substitutes and complementary) etc it is called as increased & decreased demand. Due to changes in other factors, if the consumers buy more goods it is called increased demand. On the other hand, if the consumers buy less goods it is called decreased demand
Figure. 2
Figure. 1 Y D D1 D1 A P Price B B A Y D
D D1 D O Q Increased Demand Q1 D1
Q1
price is OP and quantity demanded is OQ. Due to change in the conditions of demand (income, taste & price of substitute & complementary) the quantity demand increases from OQ to OQ1 this is called as increased demand. Figure. 2 - Where OP is the original price of OP and the OQ is the quantity demand. Due to fall in (other factors) quantity demand decreases to OQ1 this situation is called as decreased demand.
Determinants of demand
a change in price but also due to other factors. These factors such as tastes & habits of the people, income of the consumers, weather conditions, size of population & substitution goods etc are leads to changes in demand ( non-price factors) either rightward or leftward directions.
1. Price of the Commodity There is a close relationship between the quantity demanded and the price of the product. Normally a larger quantity is demanded at a lower price and vice-versa. There is inverse relationship between the price and quantity demanded. 2. Income of the Consumer The ability to buy/purchasing power a commodity depends upon the income of the consumer. When the income of the consumers increases, they buy more and when income falls they buy less.
3. Tastes and Preferences of the Consumers The demand for a product depends upon tastes and
preferences of the consumers. Demand for several products like ice-cream, chocolates, beverages and so on depends on individuals tastes. People with different tastes and habits have different preferences for different goods. A Strict Vegetarian no demand for meat at any price. Non-Vegetarian liking chicken even at high price. Smokers and Non-smokers.
4. Prices of Related Goods Related goods are generally substitutes and complementary goods. The demand for a product is also influenced by the prices of substitutes and complements. Substitute commodities examples Tea and Coffee, Jower and Bajra, Pear and Beans, Ground nut and Til-oil. Demand for a commodity depends on the relative price of substitutes. Complementary goods satisfy one wants two or three goods are needed in combination Joint Demand Example Car and Petrol, Pen and Ink, Tea, Sugar and Milk, Shoes and socks, Sarees and Blouse, Gun and Bullets etc
5.Advertisement and Sales Propaganda In modern time, the preferences of consumers can be altered by advertisement and sales propaganda. Advertisement helps in increasing demand by informing the potential consumers. Advertisement are given in various means such as news papers, radio, television. 6. Consumer Expectations Changes in future expectation are also influence to changes in demand. If consumer expects as rise in prices he may buy large quantities of that commodity and vice versa. Expectation of rising income tend to increase his current consumption.
7. The Growth of Population The growth of population is also another important fact that affects the market demand. When population increases demand also increases irrespective of the price level. Similarly, composition of population of population also brings about change in demand. If the population consists more of babies then demand for baby food, toys, feeding bottles will increases.
8. Changes in weather condition Demand for a commodity may change due to a change in climatic conditions. For example, during summer demand for cool drinks, ice-creams cotton clothes, fan, cooler etc increases. While, during winter and rainy seasons demand for woolen clothes, rain-coats, umbrella increases. 9. Prosperity & depression Demand for goods increases during the period of prosperity and decreases during depression without any reference to price. 10. Distribution of income and wealth When income wealth is equally distributed the demand will increase more than it is unequally distributed.
The law of demand explains the direction of Elasticity of demand explains the relationship
Elasticity of Demand
change in demand due to change in the price. But it does not tell us the rate at which demand changes due to changes in price.
between a change in price and consequent change in amount demanded. The concept of elasticity of demand was introduced by Marshall Elasticity of demand shows the extent of change in quantity demanded to a change in price. In other words, The elasticity of demand in a market is great or small according as the amount demanded increases much or little for a given fall in the price & diminishes much or little or a give rise in price.
Price Elasticity.
Ed = Percentage Change in Quantity Demanded Percentage Change in Price = Change in Quantity Demanded Quantity Demanded Initially = Where
Qd P
*
P
Qd
Elasticity of Demand
Price Elasticity
Income Elasticity
1. Price elasticity of demand Marshal was the first economist to define price elasticity of demand.
Price Elasticity
____________________________________
2. Income elasticity of demand Income elasticity of demand shows the change in quantity demanded as a result of change in income. Income elasticity of demand may be stated as ratio of change in the
ey
QX Py PY Qx
Qx = Change in quantity demand for commodity X Py = Change in price of commodity Y Py = Price of commodity Y Qx = Quantity demand for commodity X
concept of price elasticity of demand. Price elasticity of demand is not same for all the commodities. It may be more for certain goods and less for some other goods. The price elasticity of demand is classified into five kinds. 1. Perfect elastic demand 2. Perfect inelastic demand 3. Unit elasticity of demand 4. Relatively elastic demand 5. Relatively inelastic demand
Price
Quantity Demanded
2. Perfectly inelasticity of demand In this case even a large change in price of commodity leads to no change in quantity demanded. Ed = 0
Y D
P1 Price P P2
D O M Quantity of Demand X
change in price. When both are equal the elasticity is said to be unitary. Ed = 1
Y D
P Prices P1 D
M M1 Quantity of Demand
D
X O Quantity Demand
Price
P1 D O M M1 Quantity Demand X
D2
D5
D1
Quantity Demand
Measurement of elasticity of demand For practical purposes, it is not enough to know whether the demand is elastic or inelastic. It is more useful to find out the extent to which demand is elastic or inelastic. Generally four methods are to measure elasticity of demand. 1. Percentage method 2. Total outlay method 3. Point method 4. Arc method
1. Percentage method This measured by dividing the percentage change in quantity demanded in response to percentage change in price. Percentage method are also called as ratio method.
Percentage method = % Change in Qty Demanded % Change in Price
It is also called as formula method or coefficient of price elasticity of demand. All the five types of price elasticity of demand can be illustrated.
D2
D5
D1
Quantity Demanded
2. Total expenditure/outlay/revenue method This method was given by Alfred Marshall. Elasticity of demand can be measured on the basis of
purchase or sold). This can know only whether elasticity is equal to one, greater than one or less than one. Unit elasticity (ep = 1) Relatively more elasticity (ep = > 1) Relatively less elasticity ( ep = < 1)
P3
P1
Ed = > 1
Price
Ed = 1 P2 P4
Ed = < 1
O E3 E4 E2 X
Total Outlay
Marshall.
curve joining the two axes and measure the elasticity between two points. Point method refers to conditions where the changes in prices as well as changes in quantities demanded are very small. In this method, consider do not large changes in price or quantities in the calculation of elasticity's of demanded. Point-Elasticity Formula
Q1 Q0 Q0 P1 P0 P0
or
Q/Q0 P/P0
ep = ep > 1
Price
ep = 1
ep < 1
ep = 0 0 Quantity Demanded
4. Arc Method Arc elasticity of demand is the measurement of elasticity of demand when large changes in price or quantities are considered. Point elasticity measures only minute changes, where as arc elasticity is used to calculate elasticity over a substantial range of price changes. Original Quantity New Quantity Original Quantity + New Quantity Arc elasticity = Original Price New Quantity Original Price + New Quantity
Arc-Elasticity Formula
Q1 Q0 Q1 + Q0
2
P1 P0 P1 + P0
2
Price
Draw a tangent AB on the demand curve at point R ep = Lower Segment Upper Segment S Slope of AB = OB/OA Ep = (OB/OA)* (RN/RM) As triangle AOB, AMR and NRB are similar (OB/OA)= (NB/RN) Ep = (NB/RN)*(RN/RM) = NB/RM
R D
Factors determines elasticity of Demand 1. Nature of the commodities 2. Availability of substitutes 3. Variety of uses 4. Joint Demand 5. Deferred Consumption 6. Income groups 7. Proportion of income spent 8. Level of prices 9. Time factor
1. Nature of the commodity The elasticity of demand for any commodities depends upon the nature of commodities necessary, comfort or luxury. The demand for necessaries like food, salt, cloths, maches etc inelastic in nature. Luxuries commodities like diamond, gold, silver more elastic in nature. 2. Availability of substitutes Commodities having substitutes have more elastic in nature. When the change in the price of one commodity, the demand for its substitute is immediately affected. If the commodity has no substitutes than elasticity is inelastic in nature.
3. Variety of uses
4. Joint Demand There are certain commodities which are jointly demanded for example petrol & car, pen & ink, bread & jam etc. The elasticity of demand of the second commodity depends upon the elasticity of demand of the major commodity. It the demand for cars is less elastic, the demand for petrol will also be less elastic. On the other hand, if the demand for bread is elastic, the demand for jam will also be elastic.
demand is more elastic than that of the commodities which cannot be postponed.. The consumption of T.V. sets, VCR, DVDs, refrigerator, washing machine etc. can be postponed, if their price goes up. But the consumption of medicine, salt, food etc cannot be postponed even if its price rises. If the price of any of these articles rises, people will post-pone their consumption. As a result, their demand will decrease and vice-versa. 6. Habits of the people People who are habituated to the consumption of a particular commodity like tea, coffee, cigarette, wine of a particular brand demand is generally inelastic. What ever the price of particular commodities, habitant use of it.
7. Consumers income The elasticity of demand also depends upon the income. Persons who belong to the higher income group, their demand for commodities is less elastic. On the other hand, the demand of persons in lower income groups is generally elastic. A rise or fall in the price of commodities will reduce or increase the demand on their part. 8. Proportion of income spent If a consumer spends a very small part of his income on goods like newspapers, salt, matchbox etc, the demand for them will be inelastic. On the other hand, consumer spends a larger part of his income like, T.V sets, refrigerators, washing machine, the demand of them is elastic.
9. Level of prices The level of prices also influences the elasticity of demand for commodities. When the price level is high, the demand for commodities is elastic and when the price level is low, the demand is less elastic. 10. Time factors Time factor plays an important role in influencing the elasticity of demand for commodities. The shorter the time in which the consumer buys a commodities the lesser will be the elasticity of demand for that product. On the other hand, the longer the time which the consumer takes in buying a commodities, the higher will be the elasticity for that product.