Elasticity of Demand

Demand elasticity means how much more, or less, demand changes when the price does. It's
specifically measured as a ratio. It's the percentage change of the quantity demanded divided by
the percentage change in price.

There are three levels of demand elasticity:

1. Unit elastic is when demand changes by the exact same percentage as the price does.
2. Elastic is when demand changes by a greater percentage than the price does.
3. Inelastic is when demand changes by a smaller percentage than the price does.

Aggregate Demand

Aggregate demand, or market demand, is the demand from a group of people. The five
determinants of individual demand govern it. There’s also a sixth: the number of buyers in the
market.

Aggregate demand can be measured for a country. It's the quantity of the goods or services the
country produces that the world's population demands. For that reason, it is composed of the
same five components that make up gross domestic product:

1. Consumer spending.
2. Business investment spending.
3. Government spending.
4. Exports.
5. Imports, which are subtracted from aggregate demand and GDP.

Businesses Depend on Demand

All businesses try to understand and guide consumer demand. They seek to understand it with
market research. They attempt to guide it with marketing, including public relations and
advertising. Companies with a competitive advantage draw more demand. One advantage is to
be the low-cost provider. Costco provides bulk purchases with low prices per unit. Another is to
be the most innovative. Apple charges hig

Determinants of Demand

There are five determinants of demand. The most important is the price of the good or service
itself. The second is the price of related products, whether they are substitutes or
complementary.

Circumstances drive the next three determinants. These are consumers' incomes, their tastes, and
their expectations.

Law of Demand
The law of demand governs the relationship between the quantity demanded and the price. This
economic principle describes something you already intuitively know. If the price increases,
people buy less. The reverse is also true. If the price drops, people buy more.

But, price is not the only determining factor. The law of demand is only true if all other
determinants don't change.

In economics, this is called ceteris paribus. The law of demand formally states that, ceteris
paribus, the quantity demanded for a good or service is inversely related to the price.

Demand Schedule

The demand schedule is a table or formula that tells you how many units of a good or
service will be demanded at the various prices, ceteris paribus

Businesses Depend on Demand

All businesses try to understand and guide consumer demand. They seek to understand it with
market research. They attempt to guide it with marketing, including public relations and
advertising. Companies with a competitive advantage draw more demand. One advantage is to
be the low-cost provider. Costco provides bulk purchases with low prices per unit. Another is to
be the most innovative. Apple charges higher prices because they are the first to the market with
new products.

Conversely, if demand drops then businesses will first lower the price, hoping to shift demand
from their competitors and take more market share. If demand isn't restored, they will innovate
and create a better product. If demand still doesn't rebound, then companies will produce less and
lay off workers. This contraction phase of the business cycle can end in a recession.

Demand and Fiscal Policy

The federal government also tries to manage demand to prevent either inflation or recession.
This ideal situation is called the Goldilocks economy. Policymakers use fiscal policy to boost
demand in a recession or subdue demand in inflation. To boost demand, it either cuts taxes,
purchases goods and services from businesses. It also gives subsidies and benefits such
as unemployment benefits. So, demand is based on confidence and enough decent, well-paying
jobs. The best ways to create those jobs is government spending on mass transit and education.

To subdue demand, it can raise taxes, cut spending, and withdraw subsidies and benefits. This
often angers beneficiaries and leads to the elected officials being booted out of office.

Demand and Monetary Policy

Thus, most inflation fighting is left to the Federal Reserve and monetary policy. The Fed's most
effective tool for reducing demand is increasing prices. It does so by raising interest rates. This
reduces the money supply, which reduces lending. With less to spend, consumers and businesses
might want more, but they have less money to do it with.

The Fed also has powerful tools to boost demand. It can make prices cheaper by lowering
interest rates and increasing the money supply. With more money to spend, businesses and
consumers can buy more.

Even the Fed is limited in boosting demand. If unemployment remains high for a long period of
time, then consumers don't have the money to get the basic needs met. No amount of low interest
rates can help them, because they can't take advantage of low-cost loans. They need jobs to
provide income and confidence in the future.

Demand for Goods and Services

Economists use the term to refer to the amount of some good or service consumers are willing
and able to purchase at each price. Demand is based on needs and wants—a consumer may be
able to differentiate between a need and a want, but from an economist’s perspective, they are
the same thing. Demand is also based on ability to pay. If you can’t pay for it, you have no
effective demand.

What a buyer pays for a unit of the specific good or service is called the price. The total number
of units purchased at that price is called the quantity demanded. A rise in the price of a good or
service almost always decreases the quantity of that good or service demanded. Conversely, a
fall in price will increase the quantity demanded. When the price of a gallon of gasoline goes up,
for example, people look for ways to reduce their consumption by combining several errands,
commuting by carpool or mass transit, or taking weekend or vacation trips closer to home.
Economists call this inverse relationship between price and quantity demanded the law of
demand. The law of demand assumes that all other variables that affect demand are held
constant.

An example from the market for gasoline can be shown in the form of a table or a graph. A table
that shows the quantity demanded at each price, such as Table 1, is called a demand schedule.
Price in this case is measured in dollars per gallon of gasoline. The quantity demanded is
measured in millions of gallons over some time period (for example, per day or per year) and
over some geographic area (like a state or a country).