Demand Functions

Market Equlibrium
 Questions

• What is Market?

• What is demand?

• Laws of Demand?
 Demand
• 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
c) Purchasing power.

• Demand for a commodity by all the individuals in the

market – Market demand / aggregate demand.
 Demand Function
• A mathematical expression of the relationship between
quantity demanded of the commodity and its determinants.
• Qdx = F (Px,Y,P1,..Pn-1,T,A,Ey,Ep,u )
Qdx = Quantity demanded of Product.
Px = Price of product.
Y = Level of House hold income
P1..Pn-1 = Prices of other related products
T = Tastes of consumer
A = Advertising
Ey = Consumers expected future income
Ep = Consumers expectations about future prices
U = other determinants
 Law of Demand
• The quantity demanded of a commodity
increases when its price decreases and decreases
when its price increases, while all other factors
remaining constant.

• Qdx = F(P)
• Qdx = Quantity demanded of Product.
• P = Price
 Exceptions to law of demand

• Giffen goods
• Commodities which are used as status
symbols
• Prestigious goods
• High priced goods
• Fear of shortage
• Expectations of change in the price of the
commodity.
• Demand Schedule:
It is a tabular presentation of different prices
of a commodity and its corresponding quantity
demanded per unit of time

• Demand Curve:
A graphical presentation of the demand
schedule
 Exceptions to Demand Curve

• Law of diminishing utility

• Equi-Marginal Utility
• More use.
• Rise in consumers income
• Substitute products price effect.
 Change in - quantity demanded /
demand ( Shift of demand curve)
• Change in quantity demanded: Contraction or
Extension of demand curve. Movement along a
demand curve caused by a change in the own price
of the commodity.
• Change in demand / Shift of demand curve:
Change in factors like
• Income of the consumer
• Prices of substitute products
• % of women going out to work.
 Elasticity of Demand

• Is defined as the percentage change in

quantity demanded caused by one percent
change in the demand determinant under
consideration, while other determinants are
held constant.
• E = % change in quantity demanded of
good X / % change in determinant Z.
 Types of Elasticity of demand

• Price elasticity of demand

• Income elasticity of demand
• Cross elasticity of demand
• Promotional elasticity of demand.
• Expectations elasticity of demand.
 Price elasticity of demand
• Perfectly elastic demand = No reduction in price is
needed to cause an increase in quantity demanded.
(E=infinite)
• Absolutely inelastic demand = Where a change in
price, however large, causes no change in quantity
demanded.(E=0).
• Unit elasticity of demand: Where a given
proportionate change in price causes an equally
proportionate change in quantity.(E=1).
• Relatively elastic demand: Where a change
in price causes a more than proportionate
change in quantity demanded.(E>1)
• Relatively inelastic demand: Where a
change in price causes a less than
proportionate change in quantity demanded.
(E<1)
 Types of Income Elasticity

1. High (Positive) income elasticity:(Ey>1)

2. Unitary income elasticity (Ey=1)
3. Low income elasticity : (Ey<1)
4. Zero income elasticity : (Ey=0)
5. Negative income elasticity: (Ey<0).
 Importance of Elasticity of
Demand
• Price Determination.
• Demand Forecasting.
• Strategic Decision making.
• Government policies.
• Decision making – public utilities. Eg.
Electricity.
• Taxation policy.
• Fixing rate of exchange.
 Cross Elasticity of Demand

• Complementary Products

• Substitute Products
 Types of demands.
1) Derived Demand - Producer’s goods demand
2) Autonomous Demand – Consumers goods
demand.
• Autonomous demand is more elastic than derived
demand.
3) Industry demand
4) Firm demand.
• Firm demand is more elastic than Industry
demand.
 Types of demand
5. Short run demand: Demand with its immediate
reaction to price changes.
6. Long run demand: is which will ultimately exist as
a result of the changes in pricing, promotion or
product improvement, after enough time is
allowed to let the market adjust itself to the new
situation.
7. Market segment demand.
8. Market demand.
 Other types of demand.
1. Negative demand – Vasectomies.
2. No demand – Pagers, Refill for ball point pens
3. Latent demand – Hidden demand or untapped
demand. A degree without writing examinations
or attending college.
4. Declining demand – Fountain pens
5. Irregular demand – Theme parks, Air
conditioners.
6. Full demand : Applications for MBA.
7. Overfull demand – Seats for Medical
colleges, Theme parks in summer season.
8. Unwholesome demand – Products which
are having negative impacts. Against
cigarettes, alcohol, drugs, AIDS.
 Demand Forecasting

• A forecast is a prediction or estimation of a

future situation, under given conditions.
 Purpose of Forecasting Demand
Short Run Forecasts Long Run Forecasts
• Decide on sales policy • Capital planning
• Decide on inventory • Installing production
level. capacity.
• Fixing suitable price. • Manpower planning.
• Deciding on • Financial planning.
advertisements and
promotional matters.
 Steps involved in Forecasting.

1. Identification of objective.
2. Determining the nature of goods under
consideration.
3. Selecting a proper method of forecasting.
4. Interpretation of results.
 Levels of Forecast
1. Macro economic forecasting.
2. Industry demand forecasting
3. Firm demand forecasting
4. Product line forecasting.
5. Segment forecasting.
6. New product forecasting.
7. Types of commodities for which forecast is to be
undertaken
8. Miscellaneous factors.
 Determinants for Consumer
Durable goods
1. Population
2. Saturation limit of the market.
3. Existing stock of the good.
4. Replacement demand Vs new demand.
5. Income levels of consumers
6. Consumer credit outstanding.
7. Tastes and scales of preference of consumers.
Determinants of Consumer goods

1. Disposable Income.
2. Price.
3. Size & characteristics of population
D = f(Yd,P,S)
 Determinants for Capital goods.
1. Growth possibility of the industry of the particular
firm.
2. Norm of consumption of capital goods/unit of
installed capacity.
3. Excess capacity in the industry.
4. Forecast for consumer goods.
5. Existing stock & its age distribution of the capital
goods.
6. Rate of obsolescence.
7. Financial position of the company.
8. Tax provisions on repurchase.
9. Price of Substitute / complementary goods.
 Methods of forecasting

Forecasting

Opinion polling methods Statistical Methods

 Opinion polling Methods

Consumers survey Sales Force opinion Experts opinion Method

(Delphi Technique)

Complete enumeration Sample Survey & End use

survey Test marketing (Input-output method)
 Stastical Methods

Mechanical Extrapolation Barometric Techiniques Regression method Econometric method

(Trend projection methohd (Simultaneous equation
method)

Fit ing Trend Time series Smoothing ARIMA Leading, Dif usion
line by analysis methods method Lagging & indices
observation (least squares Box-Jenkin Coincident
method) Technique indicators
• Fitting trend by observation (Graphical Method):
Involves merely the plotting of annual sales on a
graph, observing it and extrapolating it.

• Time Series analysis employing Least Square

Method: “Line of best fit” By statistical methods a
trend line is fitted and by extrapolating the trend
line for future we get the forecasted sales.
• 1) linear trends S = a + bT
• 2) Non linear trends (Exponential trend).
Log Y = log a + b log T
• Decomposing a time series: Composed of
trend, seasonal fluctuations, cyclical
movements and irregular variations – for a
long period of time.
• Smoothing methods: It attempts to cancel
out the effect of random variations on the
values of the series. 1) Moving average
2) Exponential smoothing.
 (Box Jenkin)
ARIMA METHOD
• Auto Regressive Integrated Moving Averages.
• Used when inherent pattern of time series exists.
3 stages
1. Removal of trend – those time series does not
have a long term trend component.
2. Make sure that there is seasonality in the
stationary time-series
3. Use models to predict sales
a. Auto regression model
b. Moving average model
c. Autoregressive –moving average model
 Barometric Technique
1. Leading series(indicators) : eg.A) Applications
for housing loans - Demand for construction
material. B) Birth rate – Demand for school
seats.
2. Coincident series: GNP – Industrial production.
3. Lagging Series: Inventory – Consumer credit
outstanding.
4. Diffusion indices indicators.
 Econometric Methods

• Econometric models : All economic and

demographic variables that influence a
future are taken into account and build a
cause effect relationship.
1. Regression equation – Univariate &
bivariate
2. Simultaneous equations
• Regression Equation method – Once the
variables are identified, they are expressed as an
equation.
• Simultaneous Equation: Several simultaneous
equation. Interaction between Independent
variable and dependent variable.
• Yt = Ct + It + Gt + NXt
Yt = Gross National Product
Ct = Total consumption Expenditure
It = Gross private investment
Gt = Government expenditure
NXt = Net exports
• Ct = a + bYt
 Demand forecasting of new
products
1. Survey of buyer’s intentions.
2. Test marketing
3. Substitute product demand
4. Life cycle segmentation analysis.
a) Introduction.
b) Growth
c) Maturity
d) Saturation.
e) Decline.
 Supply

• Supply of a commodity refers to the

schedule of the quantities of a good that the
firms are able and willing to offer for sale at
various prices.
 Determinants of supply
1. Price of the good / 7. Technological know
Profit. how’s.
2. Prices of related goods. 8. Cartels
3. Price of inputs 9. To raise price – supply
4. Prices of factors of may be destroyed.
production. 10. Taxation on output.
5. No. of firms 11. Political disturbances.
6. Producers objectives. 12. Time period.
 Miscellaneous determinants

1. Expectations of the future level of prices.

2. Natural factors – monsoons, floods etc.
3. Government procurement / Govt. control.
4. Inventory.
 Law of Supply

• Law of supply states that other things

remaining constant, more of a commodity is
supplied at a higher price and less of it is
supplied at a lower price.
• Shift in Supply
 Elasticity of supply
Elasticity of supply is the degree of
responsiveness of supply to changes in price of a
good.
Other factors are
1. Changes in Marginal cost of Production
2. Response of the producers
3. Availability of inputs for expanding output
4. Possibilities of substitution of one product for the
others
5. The length of time
Market equilibrium of Demand &
Supply
 Market equilibrium

• It refers to a state of market in which

quantity demanded of a commodity equals
the quantity supplied of the commodity
• Market Mechanism – It is a process of
interaction between the market forces of
demand and supply to determine
equilibrium price
 Determination of Market price
Price per Demand Supply Market Effect on
Soap Position Price

5 80 10 Shortage Rise

10 55 28 Shortage Rise

15 40 40 Equilibrium Stable

20 28 50 Surplus Decrease

25 20 55 Surplus Decrease

30 15 60 Surplus Decrease
• Shift in demand & supply curves

• Simultaneous shift in demand and supply

curves