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Meaning of demand

• Demand for a commodity refers to the quantity of the


commodity which an individual consumer or a household
is willing to purchase per unit of time at a particular price.
• Demand for a commodity implies –
• (a) desire of the consumer to buy the product,
• (b) his willingness to buy the product, and
• © sufficient purchasing power in his possession to buy the
product.
• The demand may arise from an individual, household as
well as a market.
Determinants of Demand
• Price of the commodity
• Income of the consumer
• Prices of Related Goods
• Tastes and Preferences
• Advertisement
• Expectations
The law of demand
• The law- Law of demand states that higher the price lower
the quantity demanded, and vice versa, other things
remaining constant, i.e. Q dx = f (P).
• It states “other things remaining the same quantity
demanded of a commodity is inversely related to its price”.
• That is, given prices of the relates goods, income and tastes
and preferences of the consumer remains constant.
• If price of the good decreases its quantity demanded
increases.
Market Demand Curve

Price

Quantity
Assumptions underlying the Law of
demand
• 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 or Shortages
• No change in Size, Age Composition and Sex ratio of the
population
Exceptions to law of demand
(a) Giffen goods: If there is an inferior good in whose case
the income effect is stronger than the substitution effect,
the law of demand would not hold.
(b) Commodities which are used as status symbols.-Some
expensive commodities like diamonds, air-conditioned
cars, etc.,are used as status symbols to display one’s
wealth.
(c) Expectations of change in the price of the commodity- If
a household expects the price of a commodity to
increase, it may start purchasing greater amount of the
commodity even at the presently increased price.
Contd.

• Consumer’s Psychological Bias or Illusion- When the


consumer is wrongly biased against the quality of a
commodity with the price change, he may contract this
demand with a fall in price. Some sophisticated consumers
do not buy when there is stock clearance sale at reduced
prices, thinking that the goods may be of bad quality.
Change in Quantity demanded v/s
Change in demand
• Extension and Contraction of Demand- A variation in
demand implies ‘extension’ or ‘contraction’ of demand.
When with a fall in price more of a commodity is bought,
there is an extension of demand. In short, demand extends
when the price falls and it contracts when the price rises.
The terms ‘extension’ and ‘contraction’ are technically
used in stating the law of demand.
• Increase and decrease in demand – These two terms are
used to express changes in demand . Changes in demand
are a result of the change in the conditions or factors
determining demand, other than price. A change in
demand, thus,implies an increase or decrease in demand.
10

Change in Quantity Demanded


A to B: Increase in quantity demanded
Price
A

B
6

47
D0

Quantity
Change in Demand
Price D0 to D1: Increase in Demand

6
D1

D0
7 13 Quantity
Reasons for change in demand
• A change in demand occurs when the basic conditions
of demand change.
1) Changes in income
2) Changes in tastes,habits and preference
3) Change in fashions and Customs
4) Change in distribution of wealth
5) Change in substitutes
6) Change in demand of position complementary
7) Change in population
8) Advertisement and Publicity Persuasion
Contd.

9) Change in the Value of Money

10) Change in the Level of Taxation

11) Expectation of future changes in prices


Why do Demand curves slope
Downwards
• The law of diminishing marginal utility is at the root of the
law of demand.
• A commodity tends to be put to more use when it becomes
cheaper. Thus the existing buyers purchase more and some
new consumers enter the market.The cumulative effect is
thus ,an extension of demand when price falls.
• A fall in the price of a superior good will lead to a rise in
the consumer’s real income. The consumer can, therefore,
buy more of it.
Demand Types
• Demand for durable goods and non-durable goods
• Long-run and Short-run demand
• Direct Demand and Derived demand
• Joint or Complimentary Demand
• Cross demand
• Composite demand
• Industry demand and Firm demand
• Total market demand and market Segments demand
Elasticity of demand
• Elasticity of demand (Ed) is defined as the percentage
change in quantity demanded caused by one percent
change in the determinant under consideration, while other
determinants are held constant.
• The general equation for the measurement of elasticity of
demand is:
• e= Percentage change in quantity demanded of good
X/Percentage change in determinant Z
Types of Elasticity of Demand
• Price Elasticity of demand
• Income Elasticity of demand
• Cross price elasticity of demand
• Arc elasticity of demand
• Advertising and Promotional elasticity
Price Elasticity
• The extent of response of demand for a commodity to a
given change in price, other demand determinants of
demand remaining constant, is termed as the price
elasticity of demand.
• The price elasticity of demand may, thus, be defined as the
ratio of the relative change in demand and price variables.
• The co-efficient of price elasticity (e) is measured as:
• e= The percentage change in quantity demanded/The
percentage change in price
Types of Price Elasticity
• Perfectly elastic demand
• Perfectly inelastic demand
• Relatively elastic
• Unitary inelastic
• Relatively inelastic demand
Measurement of Price
• There are three different methods of measuring price
elasticity of demand :
• (i) Ratio method
• (ii) Total revenue method
• (iii) Point method
Factors influencing Elasticity of
Demand
• Nature of Commodity
• Availability of Substitutes
• Number of Uses
• Consumer’s Income
• Height of Price and Range of Price change
• Proportion of Expenditure
• Durability of the Commodity
• Habit
• Complementary Goods
Contd.
• Habit
• Complementary goods
• Time
• Recurrence of Demand
• Possibility of Postponement
Income Elasticity
• Income is a major determinant of demand for a number of
goods.
• D=f(M)
• Where, M refers to the money income of the buyer.
• The income elasticity is defined as a ratio percentage or
proportional change in the quantity demanded to the
percentage or proportional change in Income.

Types of Income Elasticity
• Unitary income elasticity of demand ; (em=1)
• Income elasticity of demand greater than unity; (em>1)
• Income elasticity of demand less than unity; (em<1)
• Zero income elasticity of demand; (em=0)
• Negative income elasticity of demand (em<0)
• 1) When the percentage change in demand is equal to the
percentage change in income, the demand is unitary
income elastic.Thus, em =1
Contd.
• 2) Income elasticity greater than unity
• When the percentage change in quantity demanded is
greater than the percentage change in income, the income
elasticity of demand is greater than unity.Thus, em>1.For
example the demand for T.V.sets, cars, etc.is highly
income elastic
• 3) Income elasticity less than unity –
• When the percentage change is less than the percentage
change in price , the income elasticity is less than unity.For
instance,foodgrains
Contd.
• 4) Zero income elasticity – When the income change in
any direction or in any proportion but carries no effect on
demand so that the quantity demanded remains unchanged,
it is referred to as Zero-Income elasticity. For instance,
consumption of commodities like salt, match-box, etc.
• 5) When an increase in income causes a decrease in the
demand for a commodity, the demand is said to be
negative income elastic.For eg. Cereals like jowar , bajra.
Applications of income elasticity
• Long-term Business Planning
• Market strategy
• Housing Development Strategies
Cross Elasticity of demand
• The cross elasticity demand refers to the degree of
responsiveness of demand for a commodity to a given
change in the price of some related commodity.
• The cross elasticity of demand between any two goods X
and y is measured by dividing the proportionate change in
the quantity demanded of X by the proportionate change in
the price of Y.
Promotional (or Advertising)
• Meaning- Advertising occupies an important place in a
competitive market economy. It consists of visual and oral
activities with an aim to create or expand demand for the
product or the service.
• Advertising elasticity of demand measures the response of
quantity demand to change in expenditure on advertising
and other sales promotion activities. e.g. cosmetics

Uses of Elasticity of Demand
1. Fixation of Price
2. Formulation of tax policy
3. Factor-Pricing
4. Policy of Devaluation
5. Policy of Nationalization

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