DEMAND

Module 2
Outline
 Introduction to Demand
 Law of Demand, Types of demand,
Exceptions to the law,
 Elasticity of Demand – Types of Demand &
Measurements of Demand,
 Demand Distinctions,
 Demand Forecasting and its Methods.
 Introduction to Supply, Law of Supply,
Elasticity of Supply.
Introduction

 The success of a business largely

depends on sales, sales depend on
market demand behavior.
How Hewlett-Packard manages
the demand for printers
 H-P’s success, like that
of any firm, depends on
its ability to manage
changes in demand and
supply. H-P has
responded to changing
market conditions so that
printers, and not PCs, are
now the firm’s most
successful product.
 DEMAND??
Demand = Desire + ability to pay + willingness to pay
Demand
Demand is quantities of goods and services that the
consumers are able to buy at different prices during a
given period of time, other factors remaining constant
(citeris paribus)

Demand is the ability and willingness to buy specific

quantity of a good at alternative prices in a given time
period.
TYPES OF DEMAND

Individual Demand

and

Market Demand
Individual Demand

 The individual demand is the demand of

one individual or firm.
 It represents the quantity of a good that a
single consumer would buy at a specific
price point at a specific point in time.
Market Demand

 Market demand provides the total

quantity demanded by all consumers.
 In other words, it represents the
aggregate of all individual demands.
Determinants or factors in demand
 Individual:
Price
Income
Taste, habits and preferences
Complementary and substitutes
Consumer’s future expectations
Advertisement effect
Determinants or factors in demand
 Market demand:
Scale of preference – quantum of people preferring it.
Wealth distribution on economy
Prices of products
Standards of living and spending habits
Population and population growth
Age structure
Future expectations
Level of taxation and tax structure
Inventions and innovations
Fashions
Climatic conditions
Culture
Demand function
Demand function

 Price-quantity relationship as per law of

demand can be represented as a
function which is called the demand
function.
 D= f (P) it is inversely proportional
 where D is demand,
 P is price and
 f is functional relationship.
Demand function can be represented as:
 1. Demand schedule:
 it is represented as the amount the consumer is
willing to buy corresponding to each
conceivable price per unit of time. Its tabular
representation of price-quantity relationship
 2. Demand curve:
 it is represented as the amount the consumer is
willing to buy corresponding to each
conceivable price per unit of time. Its graphical
representation of price-quantity relationship
Demand Schedule ›
Demand Curve
A demand schedule can be determined
both for individual buyers and for the
entire market. So, demand schedule is of
two types:
1. Individual Demand Schedule:
2. Market demand schedule.
1. Individual Demand Schedule:

 Individual demand schedule refers to a

tabular statement showing various
quantities of a commodity that a
consumer is willing to buy at various
levels of price, during a given period of
time.
2. Market demand schedule

 Market demand schedule refers to a

tabular statement showing various
quantities of a commodity that all the
consumers are willing to buy at various
levels of price, during a given period of
time. It is the sum of all individual
demand schedules at each and every
price.
THE DEMAND CURVE

 Demand curve: A curve that shows the

relationship between the price of a
product and the quantity of the product
demanded.
 Demand schedule Demand curve
Price in Quantity Price Quantity
Rs

5 30 10 6

4 40 20 4

3 60 30 2.5

2 100 45 1.5

1 140 60 1

Draw demand curve…what shape is it ??

Follow convention of Q on X-axis and P

on Y-axis
Characteristics of Demand Curve
 Negative slope.
 Drawn by joining the locus of points
representing alternative commodity
demanded by consumer per period of
time.
 A particular point on the demand curve
depicts specifically a single price
quantity relationship.
 May be linear or nonlinear.
THE LAW OF DEMAND

“When the price of a commodity rises,

demand for that commodity falls and
when the price of a commodity falls,
the demand for that commodity rises,
other things being constant (citeris
paribus)”.
 Characteristics of demand curve

 Slopes downwards from left to right showing inverse

relationship between price and quantity. Slope of the curve
indicates proportion.
 Position of demand curve indicates the level of demand at
a price. Position to the right indicates higher quantity
demanded for a price and position towards left indicates
lower demand.
 Shifting of curve indicates change in demand over a period
of time owing to change in consumer behaviour. It
indicates that higher prices now generate the same demand
as lower prices before.
Assumptions behind law of demand

 No change in the income of the consumer

 No change in tastes and preferences
 No future price expectations
 No change in population
 No change in prices of complementary and
substitute goods
 No change in fashion
 No change in range of goods available
 No change in government policy
 Exceptions to law of demand
Demand curve slopes upwards as exception to the law of
demand in special cases like,
 1. Giffen goods:
 2. Brand loyalty
 4. Ignorance about price and quality
 5. Unavoidable circumstances
 6. Prestige goods/Veblen’s effect: high price leads to high
demand because of snob value/prestige value.
 7. Conspicuous necessities: status-symbol necessities like
TV/fridge/car
 8. Change in fashion
 9. Speculation
Changes in Demand and Quantity Demanded

 In economics the terms change in

quantity demanded and change in
demand are two different concepts.
Change in quantity demanded

 Change in quantity demanded refers to

change in the quantity purchased due to
increase or decrease in the price of a
product.
 In such a case, it is incorrect to say
increase or decrease in demand rather it
is increase or decrease in the quantity
demanded
Change in demand

 Change in demand refers to increase or

decrease in demand of a product due to
various determinants of demand, while
keeping price at constant
 Changes in quantity demanded can be
measured by the movement of demand
curve.
 The terms, change in quantity demanded
refers to expansion or contraction of
demand.
 while changes in demand are measured
by shifts in demand curve.
 while change in demand means increase
or decrease in demand.
1. Expansion and Contraction of Demand:

 Expansion of demand refers to the

period when quantity demanded is more
because of the fall in prices of a product.

 However, contraction of demand takes

place when the quantity demanded is less
due to rise in the price of a product.
 For example, consumers would reduce the
consumption of milk in case the prices of
milk increases and vice versa.
 Movement from one point to another in a
downward direction shows the expansion of
demand, while an upward movement
demonstrates the contraction of demand.
Figure-11 demonstrates the expansion and
contraction of demand:

When the price changes from OP to OP1 and

demand moves from OQ to OQ1, it shows the
expansion of demand. However, the movement of
price from OP to OP2 and movement of demand
from OQ to OQ2 show the contraction of demand.
2. Increase and Decrease in Demand:

 Increase and decrease in demand are

referred to change in demand due to
changes in various other factors such as
change in income, distribution of income,
change in consumer’s tastes and
preferences, change in the price of related
goods, while Price factor is kept constant
 Increase in demand refers to the rise in
demand of a product at a given price.

 On the other hand, decrease in demand

refers to the fall in demand of a product
at a given price.
 For example, essential goods, such as
salt would be consumed in equal
quantity, irrespective of increase or
decrease in its price.
 Therefore, increase in demand implies
that there is an increase in demand for a
product at any price.
 Similarly, decrease in demand can also
be referred as same quantity demanded
at lower price, as the quantity demanded
at higher price.
 Increase and decrease in demand is
represented as the shift in demand curve.

 In case of increase in demand, the

demand curve shifts to right, while in case
of decrease in demand, it shifts to left of
the original demand curve.
Figure-12 shows the increase in demand:

 In Figure-12, the movement from DD to

D1D1 shows the increase in demand with
price at constant (OP). However, the
quantity has also increased from OQ to
OQ1.
Figure-13 shows the decrease in demand

 In Figure-13, the movement from DD to

D2D2 shows the decrease in demand with
price at constant (OP). However, the
quantity has also decreased from OQ to
OQ2.
Reasons for Increase and Decrease in Demand

 (i) The fashion for a goods increases or

people’s tastes and preferences become
more favorable for the good;
 (ii) Consumer’s income increases.
 (iv) Prices of complementary goods have
fallen.
 (v) Propensity to consume of the people
has increased and
 (vi) Owing to the increase in population
and as a result of expansion in market,
the number of consumers of the goods
has increased.
DEMAND DISTINCTIONS:
TYPES OF DEMAND
 Producer’s goods and Consumer’s goods
 Durable goods and Non-durable goods
 Derived demand and Autonomous demand
 Industry demand and Company demand
 Short –run demand and Long-run demand
 Joint Demand and Composite Demand
 Price demand, Income Demand & Cross
Demand.
 Producer’s goods and Consumer’s goods

 Producer’s goods are those which are used for

the production of other goods- either consumer
goods or producer goods themselves.
 Examples: machines, tools, equipments etc.
 Consumer’s goods are those which are used fo
r final consumption.
 Examples of consumer’s goods are readymade
clothes, prepared food etc.
 Durable goods and Non-durable goods

 Non- durable:
consumer goods are those which cannot be con
sumed more than once.
 Example bread, milk etc. These will meet only
the current demand.
 Durable consumer goods are those which can
be consumed more than once over a period of
time.
 Example ; car, refrigerator, ready-
made shirt, and umbrella.
 Derived demand and Autonomous demand
 When a product is demanded consequent on the purc
hase of a parent product, its demand is called derived
demand.
 For example, the demand for cement is derived dema
nd, being directly related to building activity.

 If the demand for a product is independent

of the demand for other goods, then it is called
autonomous demand.
 But this distinction is purely arbitrary and it is very dif
ficult to find out which product is entirely independent
of other products.
 Industry demand and Company demand
 The term industry demand is used to denote
the total demand for the products of a partic
ular industry.
 e.g. the total demand for steel in the country.

 On the other hand, the term company

demand denotes the demand for the
products of a particular company,
 e.g. demand for steel produced by the Tata I
ron and Steel Company.
 Short –run demand and Long-run demand
 Short rundemand refers to demand with its immediate
reaction to price changes, income fluctuations, etc.,
 long-run demand is that which
will ultimately exist as a result of changes in pricing, pr
omotion or product improvement, after enough time is
allowed to let the market adjust to the new situation.
 For example, if electricity rates are reduced, in the sho
rt run, the existing users will make greater use of elect
ric appliances.
 In the long run, more and more people will be induced
to use electric appliances.
 JOINTDEMAND AND COMPOSITE DEMAND

 Joint demand occurs when demand for two

goods is interdependent.
 For example, it is no good having a printer
without the ink to go with it. Similarly, ink
cartridges are no use without a printer.
 Basically, the definition of joint demand is
when you need two goods to go together.
Composite Demand
 Composite Demand: When one product is
demanded for number of different uses, then
it Is called composite demand.
 For e.g., wool can be used in clothes,
carpets etc., steel can be used in the
manufacture of cars, machinery, etc.
Price Demand, Income
Demand, Cross Demand
 Price demand refers to the various
quantities of a product purchased by the
consumer at alternative prices.
 Income Demand:
 Income demand indicates the relationship
between income and the quantity of
commodity demanded.
 It relates to the various quantities of a
commodity or service that will be bought by
the consumer at various levels of income in
a given period of time, other things being
equal.
 Cross Demand:
 The change in the price of one affects the
demand of the other. This is known as
cross demand
 written as D = f (pr). Related goods are of
two types, substitutes and complementary.
In the case of substitute or competitive
goods, a rise in the price of one good A
raises the demand for the other good B, the
price of B remaining the same.
Elasticity of
demand
 Elasticity . . .

 … is a measure of how much buyers

and sellers respond to changes in market
conditions
 … allows us to analyze supply and
demand with greater precision.
Elasticity of demand

 Responsiveness of demand for a commodity

to changes in its determinants like price,
income, substitutes/complements and
promotion
 Elasticity of demand = %age change in
demand / %age change in determinants of
demand
Types of elasticity:

 1. Price elasticity of demand (PeD)

 2. Income elasticity of demand (YeD)
 3. Cross elasticity of demand (XeD)
 4. Advertising or promotional elasticity of
demand (AeD)
Importance of elasticity of demand

Read
Price Elasticity of Demand

Price elasticity of demand refers to the

degree of change in the demand for a
product with respect to change in the
given price, while keeping other
determinants of demand at constant.

It is a measure of how much the

quantity demanded of a good responds
to a change in the price of that good.
 The price elasticity of demand (ep) can be
expressed by the following formula:

Price Elasticity = Percentage Change in Qd of X

Of Demand(ed) Percentage Change in Price of X
Price Elasticity = ΔQ P
Of Demand *
ΔP Q

Price Elasticity = ΔQ P
Of Demand *
Q ΔP
 Example 1

Calculate the price elasticity of demand

for coffee.
Solution:
 P (original price) = Rs. 20
 Q (original demand) = 10 kgs
 P1 (new price) = Rs. 22
 Q1 (new demand) = 9 kg

Therefore, change in price of coffee is:

 ∆P = P1 -P
 ∆P = 22 – 20
 ∆P = 2

 Similarly, change in quantity demanded for coffee is:

 ∆Q = Q1 – Q
 ∆Q = 9 – 10
 ∆Q = -1
Price elasticity of demand for coffee is:

ep = ∆Q/∆P * P/Q
ep = 1/2 * 20/10
ep = 1

Therefore, price elasticity of demand for

coffee is 1.

(Note: Negative sign should be ignored)

Example 2
 Calculate the price elasticity of demand
of an ABC product, whose demand
schedule is given in Table-2:
 Solution:
 P (original price) = 60
 Q (original demand) = 100
 P1 (new price) = 70
 Q1 (new demand) = 90

 Therefore, change in price is:

 ∆P = P1 – P
 ∆P = 70 – 60
 ∆P = 10

 Similarly, change in quantity demanded is:

 ∆Q = Q1 – Q
 ∆Q = 90 – 100
 Price elasticity for demand for the
product is:
 ep = ∆Q/∆P * P/Q
 ep = 10/10 * 60/100
 ep = 0.6
 Therefore, price elasticity of demand for the
product is 0.6.
Degrees of Price Elasticity
of Demand
 5 Degrees of Price Elasticity
of Demand

 Different commodities have different price

elasticity’s. Some commodities have more
elastic demand while others have relative
elastic demand.
 Basically, the price elasticity of demand
ranges from zero to infinity. It can be equal
to zero, less than one, greater than one and
equal to unity.
 1. Perfectly Elastic Demand (EP = ∞)
 2. Perfectly Inelastic Demand (EP = 0)
 3. Relatively Elastic Demand (EP> 1)
 4. Relatively Inelastic Demand (Ep< 1 )
 5. Unitary Elastic Demand ( Ep = 1)
1. Perfectly Elastic Demand:

 Perfectly elastic demand is said to happen

when a little change in price leads to an
infinite change in quantity demanded.
 A small rise in price on the part of the seller
reduces the demand to zero.
 In such a case the shape of the demand
curve will be horizontal straight line as shown
in figure 1.
1.Perfectly Elastic Demand:

It shows that negligible change in price causes infinite

fall or rise in quantity demanded.
2. Perfectly Inelastic Demand:

 Perfectly inelastic demand is opposite to

perfectly elastic demand. Under the perfectly
inelastic demand, irrespective of any rise or
fall in price of a commodity, the quantity
demanded remains the same. The elasticity
of demand in this case will be equal to zero
(ed = 0).
 The demand curve DD is
a vertical straight line
parallel to the Y-axis. It
shows that the demand
remains constant
whatever may be the
change in price. For
example: even after the
increase in price
from OP to OP2 and fall
in price from OP to OP1,
the quantity demanded
remains at OM.
3. Unitary Elastic Demand:

 The demand is said to be unitary elastic

when a given proportionate change in the
price level brings about an equal
proportionate change in quantity
demanded. The numerical value of
unitary elastic demand is exactly one i.e.
Marshall calls it unit elastic.
3. Unitary Elastic Demand:

 The fall in price

from OP to OP1 has caused
equal proportionate
increase in demand
from OQ to OQ1 . Likewise,
when price increases, the
demand decreases in the
same proportion.
4. Relatively Elastic
Demand:

 Relatively elastic demand refers to a situation

in which a small change in price leads to a
big change in quantity demanded. In such a
case elasticity of demand is said to be more
than one (ed > 1). This has been shown in
figure 4.
4. Relatively Elastic Demand:

 If the price falls by 5% and

the demand rises by more
than 5% (say 10%), then it is
a case of elastic demand.
The demand for luxurious
goods such as car, television,
furniture, etc. is considered to
be Relatively elastic.
5. Relatively Inelastic
Demand:

 Under the relatively inelastic demand, a

given percentage change in price
produces a relatively less percentage
change in quantity demanded. In such a
case elasticity of demand is said to be
less than one (ed < 1). It has been shown
in figure 5.
 5. Relatively Inelastic
Demand:

 when the price falls by 10% and the demand

rises by less than 10% (say 5%), then it is the
case of inelastic demand. The demand for
goods of daily consumption such as rice, salt,
kerosene, etc. is said to be inelastic.
 Degrees of price elasticity of demand
 1. Perfectly elastic: A very small change in price leads to infinite
change in demand. Curve is horizontal to X axis. Numerical
coefficient is infinity.
 2. Perfectly inelastic: whatever is the change in price, demand
remains constant. Curve is horizontal to y axis. Numerical
coefficient is zero. (draw diagram)
 3. Relatively elastic: A slight change in price will lead to more
than proportionate change in demand. Curve slopes gradually
downwards from left to right. Numerical coefficient is > 1 (draw
diagram)
 4. Relatively inelastic: A large change in price leads to less than
proportionate change in demand. Curve slopes steeply
downwards from left to right. Numerical coefficient is < 1 (draw
diagram)
 5. Unitary elastic: Any change in price will bring about an equal
proportionate change in demand. The curve slopes evenly
downwards from left to right. The numerical coefficient of
unitary elastic demand is = 1.
Degrees of elasticity of demand

Degrees of elasticity
Number/numerical Description Terminology
measure of
elasticity

0 Q doesn’t change with Perfectly inelastic

price
<1 (but positive) Q changes by a smaller Inelastic
percentage than P

1 Q changes by exactly the Unitary elastic

same percentage as P

>1 Q changes by a larger elastic

percentage than P

Infinity Q changes infinitely for a Perfectly elastic

minute change in P
FACTORS INFLUENCING
ELASTICITY OF DEMAND
 Nature of commodity
 Availability of substitutes
 Number of uses
 Consumers income
 Proportion of expenditure
 Durability of the commodity
 Habit
 Complementary goods
 Time
 Possibility of postponement
Forecasting methods for PED

 There are mainly 3 methods to forecast Price

elasticity of demand (PED)

 1. Total outlay/Total expenditure method

 2. Point method
 3. Proportional method or Percentage method
or formula method
 4. ARC elasticity of demand
 Total outlay/Total expenditure

 This method measures change in TOTAL

EXPENDITURE due to change in price
 According to this method, elasticity of demand
can be measured by considering the change
in price and the subsequent change in the
total quantity of goods purchased and the total
amount of money spent on it.

 Total Outlay = Price X Quantity Demanded

 There are three possibilities
 (i) If with a fall in price (demand increases) the total
expenditure increases or with a rise in price (demand
falls), the total expenditure falls, in that case the
elasticity of demand is greater than one i.e. ED > 1.
 (ii) If with a rise or fall in the price (demand falls or
rises respectively), the total expenditure remains the
same, the demand will be unitary elastic or ED = 1.
 iii) If with a fall in price (Demand rises), the total
expenditure also falls, and with a rise in price
(Demand falls) the total expenditure also rises, the
elasticity of demand is less than one (ED < 1).
 Total outlay/Total expenditure
Case Price Rs Qty demanded Total Elasticity of
expenditure demand

A 10 1000 10000 >1

9 2000 18000

8 3000 24000

B 10 900 9000 =1

9 1000 9000

8 1125 9000

C 10 1000 10000 <1

9 1050 9450

8 1000 8000
Graphical representation
of PED
.
 Problem 1:
 With the help of following data adopting total outlay
method find out PED and show graphic representation.

Case Price per unit Rs Quantity demanded in

units
A 60 1000
50 1500
40 2000
B 60 1000
50 1200
40 1500
C 60 1000
50 1100
40 1300
 Solution
Case Price/unit Rs Qty Total Nature of
demanded expenditure PED
in units Rs

A 60 1000 60000 >1

50 1500 75000
40 2000 80000
B 60 1000 60000 =1
50 1200 60000
40 1500 60000
C 60 1000 60000 <1
50 1100 55000
40 1300 52000
Question 2
Case Price/unit Rs Qty demanded in
units
A 18 650
15 750
12 850
B 18 650
15 780
12 975
C 18 650
15 828
12 1050
Question 3
Case Price/unit Rs Qty demanded in
units
A 12 500
10 650
8 900
B 12 500
10 525
8 625
C 12 500
10 600
8 750
2. Point method/ Geometric Method
 In point method, elasticity of demand is measured at a given
point on a straight line demand curve.
 Point elasticity of demand takes the
elasticity of demand at a particular point
on a curve (or between two points).
 Formula for point elasticity of demand
is:
 PED =% Δ Q / Q
 ————-
%ΔP/P
 Point elasticity A to B
 Quantity increase from 200 to 300 =
100/200 = 50%
 Price falls from 4 to 3 = 1/4 = -25%
 Therefore PED = 50/ -25 = – 2.0
3. Ratio Methods of Measuring Elasticity
Ratio (or Percentage) Method
◦The most popular method used to measure elasticity
◦Elasticity of demand is expressed as the ratio of
proportionate change in quantity demanded and
proportionate change in the price of the commodity
◦It allows comparison of changes in two qualitatively different
variables
◦It helps in deciding how big a change in price or quantity is

Proportionate change in quantity demandedof commodity X

ep =
Proportionate change in price of commodity X

Q2 Q1 /Q1
ep= P2P1/ P1

 where Q1= original quantity demanded, Q2= new quantity

demanded, P1= original price level, P2= new price level
Problem
Price of A Quantity demanded of A

5 10

4 15

Here, DeltaP = 1, DeltaQ= 5

Initial P is 5 and
Initial Q is 10

Ep = (DeltaQ/DeltaP)* (P/Q)
= 5/1 * 5/10
= 2.5
Problems on price elasticity
Price Quantity
demanded
Initially 13 11
When P 15 11
increases

Calculate price elasticity of demand?

Problems on price
elasticity
Price Quantity
demanded
Initially 12 24
When P 14 20
increases

Calculate price elasticity of demand?

Problems on price
elasticity
Price Quantity
demanded
Initially 9 100
When P 9 150
increases

Calculate price elasticity of demand?

 4. ARC elasticity of demand
 When price changes are large OR when the price elasticity has
to be found between two prices, confusion arises as to which
price and quantity has to be taken as base.
 Figures will vary based on which price/quantity is taken as base.
 To avoid this confusion, average of the two prices and quantities
is taken as the base.
 Arc elasticity of demand = (DeltaQ/DeltaP)* (P1+P2)/(Q1+Q2)
 Where,
 P1 is original price
 P2 is new price
 Q1 is original quantity
 Q2 is new quantity
 DeltaP is change in price and
 DeltaQ is change in quantity
 Mid Point (Arc) Elasticity A to B
 Mid point of Q = (200+300) / 2 = 250
 Mid Point of P = (3+4) / 2 = 3.5
 Q % = (100/250) = 40%
 P % = 1/3.5 = 28.57
 PED = 40/-28.57 = – 1.4
2. Income elasticity of demand

  The income elasticity of demand is

defined as the rate of change in the
quantity demanded of a good due to
changes in the income of the consumer.
  It is the responsiveness of demand to the
change in income
Income elasticity of demand
It
measures the relationship between a change in
quantity demanded and a change in income.
The basic formula for calculating the of income
elasticity is:

Percentage change in demand

Percentage change in income

ey = ∆Q/∆Y * Y/Q
EXAMPE
The monthly income of an individual increases
from Rs. 6,000 (Y) to Rs. 12,000 (Y1). Now, his
demand for clothes increases from 30 units (Q)
to 60 units (Q1).

Solution:
ey = ∆Q/∆Y * Y/Q
∆Q = Q1 – Q = 60 – 30 = 30 units
∆Y = Y1 – Y = 12000 – 6000 = Rs. 6000
ey = 30/6000 * 6000/30 = 1 (equal to unity)
Income Elasticity
 Positive for a normal good
 Negative for an inferior good
Income Elasticity- Types of Goods
NORMAL GOODS
Normal goods have a positive income elasticity
of demand so as income rise more is demand at
each price level.
Normal goods are of two:-
 Normal Necessities and
 Normal Luxuries (both have a positive coefficient of
income elasticity).
Necessities have an income elasticity of demand
of between 0 and +1. Demand rises with income.
 Luxuries on the other hand are said to have an
income elasticity of demand more than +1.
(Demand rises more than proportionate to a
change in income).

 Ifthe income elasticity of good is greater than one,

it is called luxury.

INFERIOR GOODS
Inferior goods have a negative income elasticity
.Demand falls as income rises.
TYPES OF INCOME ELASTICITY

i. Positive Income Elasticity of

Demand:
a. Unitary Income Elasticity of Demand:
b. More than Unitary Income Elasticity of
Demand:
c. Less than Unitary Income Elasticity of
Demand:
ii. Negative Income Elasticity of
Demand:
iii. Zero Income Elasticity of Demand:
i. Positive Income Elasticity of Demand:

 Refers to a situation when the demand

for a product increases with increase in
consumer’s income and decreases with
decrease in consumer’s income. The
income elasticity of demand is positive
for normal goods.
It is explained with the help of Figure-12:

 In Figure-12, the slope of the curve is upward

from left to right, which indicates that the
increase in income causes increase in
demand and vice versa. Therefore, in such a
case, the elasticity of demand is positive.
a. Unitary Income Elasticity of Demand:
 Implies that positive income elasticity of
demand would be unitary when the
proportionate change in the quantity
demanded is equal to proportionate change in
income.
 For example, if income increases by 50% and
demand also rises by 50%, then the demand
would be called as unitary income elasticity of
demand.
 The numerical value of income elasticity of
demand is equal to one (ey = 1).
b. More than Unitary Income
Elasticity of Demand:
 Implies that positive income elasticity of
demand would be more than unitary when
the proportionate change in the quantity
demanded is more than proportionate
change in income.
 For example, if the income increases by
50% and demand rises by 100%.
 In such a case, the numerical value of
income elasticity of demand would be more
than one (ey>1). Ex: TV, Car
c. Less than Unitary Income Elasticity of
Demand:

 Implies that positive income elasticity of

demand would be less than unitary when
the proportionate change in, the quantity
demanded is less than proportionate change
in income.
 For example, if the income increases by
50% and demand increases only by 25%.
 In such a case, the numerical value of
income elasticity of demand would be less
than one (ey<1).
ii. Negative Income Elasticity of Demand

 Refers to a kind of income elasticity of

demand in which the demand for a product
decreases with increase in consumer’s
income. The income elasticity of demand is
negative for inferior goods, also known as
Giffen goods.
 For example, if the income of a consumer
increases, he would prefer to purchase
wheat instead of millet. In such a case, the
millet would be inferior to wheat for the
customer.
Negative income elasticity of demand is
shown with the help of Figure-13:

 Figure-13 shows that when income is Rs. 10, then the

demand for goods is 4 units. On the other hand, when the
income increases to Rs. 20, then the demand is 2 units. In
Figure-13, the slope of the curve is downward from left to
right, which indicates that the increase in income causes
decrease in demand and vice versa. Therefore, in such a
case, the elasticity of demand is negative.
 iii. Zero Income Elasticity of Demand:

 Refers to the income elasticity of demand

whose numerical value is zero. This is because
there is no effect of increase in consumer’s
income on the demand of product.
 The income elasticity of demand is zero (ey = 0)
in case of essential goods.
 For example, salt is demanded in same
quantity by a high income and a low income
individual.
Figure-14 shows the zero income
elasticity of demand:

 Figure-14 shows that when income increases from Rs. 10 to Rs.

20, then the demand for goods is remain same, 4 units. In Figure-
14, the slope of the curve is parallel to Y-axis (income side), which
indicates that the increase in income causes no effect in demand.
Therefore, in such a case, the elasticity of demand is zero.
Significance of Income
Elasticity of Demand:

 i. Helping in investment decisions:

 ii. Forecasting demand:
 iii. Categorizing goods:
Cross elasticity of demand
 Responsiveness or the sensitiveness of demand
to a given change in price of another commodity,
either complements or substitutes.
 XeD = %age change in demand of A
 %age change in price of B
 If for a 10% increase in price of petrol, the
decrease in demand for cars is 20%
 then XeD = 20%/10% = - 2
 Negative sign indicates complements while
positive sign indicates substitutes.
Types of Cross Elasticity of Demand:

 1. Positive:
 2. Negative
 3. Zero
1. Positive:

 When goods are substitute of each other then cross

elasticity of demand is positive. In other words, when an
increase in the price of Y leads to an increase in the
demand of X. For instance, with the increase in price of
tea, demand of coffee will increase.
2. Negative:

 In case of complementary goods, cross elasticity of demand is

negative. A proportionate increase in price of one commodity leads to
a proportionate fall in the demand of another commodity because
both are demanded jointly. In fig. 22 quantity has been measured on
OX-axis while price has been measured on OY-axis. When the price
of commodity increases from OP to OP1 quantity demanded falls
from OM to OM1. Thus, cross elasticity of demand is negative.
3. Zero:

 Cross elasticity of demand is zero when two

goods are not related to each other. For instance,
increase in price of car does not effect the
demand of cloth. Thus, cross elasticity of demand
is zero. It has been shown in fig. 23.
 Advertising or promotional
elasticity of demand
 Responsiveness or the sensitiveness of
demand to a given change in ad expenditure
of a commodity.
 AeD = %age change in demand
 %age change in ad expenditure

 eA = ∆S/∆A * A/S
Suppose the sales promotion expenditure of an
organization increases from Rs. 20,000 to Rs. 60,000.
Consequently, the sales of the organization increases
from 40,000 units to 60,000 units.

 Now, the advertisement elasticity would be

calculated as follows:
 ∆S = 60000-40000 = 20000 units
 ∆A = Rs. 60,000- Rs. 20,000 = Rs. 40,000
 eA = 20000/40000*20000/40000 =0.25 (less than one)
DEMAND FORECASTING
DEMAND FORECASTING

 An organization faces several internal

and external risks, such as high
competition, failure of technology, labor
unrest, inflation, recession, and change
in government laws.
 Therefore, most of the business
decisions of an organization are made
under the conditions of risk and
uncertainty.
Some of the popular definitions of
demand forecasting are as follows:

 According to Evan J. Douglas, “Demand

estimation (forecasting) may be defined as
a process of finding values for demand in
future time periods.”
Meaning:
Forecasting is defined as a study with scientific
prediction in regard to an event which may have future
demand for goods, services either at the micro level or
at the macro level.

Demand forecasting is a prediction or estimation of a

future situation, under given condition.

Based on the statistics of the previous period

Objectives:

 Helping for continuous production

 Sales Forecasting
 Inventory Control
 Arrangement of finance
 Stability
 Economic Planning and policy making
Levels under Demand Forecasting

 Micro level
 Industry level
 Macro level
Based on Time

 Short term forecasting: <1 year

 Long term forecasting: 3-6 years
The objectives of demand forecasting are
divided into short and long-term objectives.
General Approach To Demand Forecasting

Specification of Objectives

Identification of Demand
Determinants

Choice of methods of forecasting

Interpretation
The Sources of Data Collection
For Demand Forecasting

 There are mainly two types of data

i. Primary Data:
ii. Secondary Data:
Statistical methods of
forecasting demand
Trend Projection Method:

 Definition: The Trend Projection

Method is the most classical method of
business forecasting, which is concerned
with the movement of variables through
time. This method requires a long time-
series data
Criteria of a good Forecasting Method:

 Accuracy
 Management must have confidence
and understanding)
 Cost effective
 Flexibility
 Simplicity
SUPPLY

 Supply of a commodity means quantity of the

commodity which is actually offered for sale at
a given price during some particular time.
 • The definition of supply is complete when it
has the following elements:
 (i) Quantity of a commodity offered for sale;
 (ii) Price of the commodity; and
 (iii) Time during which the quantity is offered.
FACTORS DETERMINING SUPPLY

 State of technology;
 Cost of production;
 Factors outside the economic sphere.
 Government policy.
Supply Function

 Sx=f( Px, Pf, O, T, t, s......)

 Sx: Supply of commodity x
 Px: price of x
 Pf: Prices of factor inputs
 O: Factors outside economic sphere
 T: Technology
 t: tax
 s: subsidies
THE LAW OF SUPPLY
‘Law of supply states that ceteris paribus, the
quantity of any commodity that firms will
produce and offer for sale rises with rise in
price and falls with fall in price.’

i.e. Higher the price, higher will be quantity

supplied and lower the price smaller will be quantity
supplied. ‘Other things remaining the same’ means
determinants other than own price such as
technology, goals of the firm, government policy,
price of related goods etc. should not change.
Assumption of law of supply

 Cost of production is unchanged

 No change in technique of production
 Fixed scale of production
 Government policies are unchanged
 No change in transport costs
 No speculation
SUPPLY SCHEDULE

 A supply schedule is a tabular statement

showing various quantities which
producers are willing to produce and sell
at various alternative prices during a
given period of time.
 A supply schedule may be individual
supply schedule or market supply
schedule.
Individual supply schedule

 It is the table which shows various

quantities of a commodity that an
individual producer or a firm would offer
for sale at different prices during a given
period.
 It is usually positively sloping from left to
right.
CHANGE IN QUANTITY SUPPLIED:
Expansion or Contraction of supply

 A movement along the supply curve is caused by

changes in the price of the good, other things
remaining constant. It is also called change in
quantity supplied of the commodity.
 Movement along the supply curve is of two types:
 1) Expansion of supply, and
 2) contraction of supply.
1) Expansion or Extraction of Supply:

 - When the quantity supplied rise due to

rise in the price, it is extension of supply
or increase in quantity supplied.
 - Here the supply curve moves upward.
 - It is due to increase in price.
2) Contraction of supply:

 - When the quantity supplied falls due to

a fall in its price, it is called contraction of
supply or decrease in quantity supplied.
 - In this case supply curve moves
downwards.
 - It is due to decrease in price.
CHANGE IN SUPPLY (SHIFT): Increase
or Decrease in Supply

 A shift in supply curve is caused by

changes in factors other than the price of
good.
 These factors are:
 a) Price of other commodities
 b) State of technology
 c) Cost of production
 d) Government policy
1) Increase in supply:
 -when supply of a commodity rises due to favorable
changes in factors other than price of the commodity, it
is called increase in supply.
 - Favorable changes imply:
 (i) Improvement in technique of production
 (ii) Fall in the price of related goods
 (iii) Fall in the cost of production
 (iv) Fall in taxes
2) Decrease in supply:
 -When supply of a commodity falls due to
unfavorable changes in factors other than its
price, it is called decrease in supply.
 -The causes of decrease in supply are:
 (i) Obsolete technique of production
 (ii) Increase in the prices of related goods
 (iii) Increase in the cost of production
 (iv) Rise in tax
Elasticity of Supply

Elasticity of supply measures the degree of

responsiveness of quantity supplied to a
change in own price of the commodity.

It is also defined as the percentage change in

quantity supplied divided by percentage
change in price.
It can be calculated by using the
following formula:

ES = % change in quantity supplied

% change in price

ES = ∆Q/∆P × P/Q
 Suppose, as a result of change in the price
of product X from Rs. 40 – Rs. 45per unit,
the total supply of X by the sellers is
increased from 1000 units to 1200 Units,
find out the elasticity of supply.
 Es = 200/1000 * 40/5

 Es = 1.6
End of Module 2