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• Supply and demand are the forces that make market economies work. • A market is a group of buyers and sellers of a particular good or service. • Modern microeconomics is about supply, demand, and market equilibrium.
MEANING OF DEMAND
• The demand for a commodity is the amount of it that a consumer will purchase or will be ready to take off from the market at various given prices at a given moment of time
MEANING OF DEMAND
People demand goods because they have utility or want satisfying power To create demand the good should have – utility, and the person should have the desire, willingness and ability to buy the good
• Quantity demanded is the amount of a good that buyers are willing and able to purchase. • Law of Demand
– The law of demand states that, other things equal, the quantity demanded of a good falls when the price of the good rises & vice-versa.
The Demand Schedule: The Relationship between Price and Quantity Demanded • Demand Schedule – The demand schedule is a table that shows the relationship between the price of the good and the quantity demanded. .
The demand schedule: The demand for potatoes (monthly) .
– A demand schedule or demand curve does not tell what the price is. . it only tells how much quantity will be purchased a various prices.The Demand Curve: The Relationship between Price and Quantity Demanded • Demand Curve – The demand curve is a graph of the relationship between the price of a good and the quantity demanded.
Point 100 Price (Rs per kg) E A B C D E Price Market demand (Rs per kg) (tonnes 000s) 20 40 60 80 100 700 500 350 200 100 D 80 C 60 B A 40 Demand 20 Quantity (tonnes: 000s) .
LAW OF DEMAND – As price of a good or service goes down the quantity consumers wish to buy will increase and when price goes up the quantity demanded decreases. other factors remaining constant – Inverse price demand relationship hence the downward slope of the demand curve .
LAW OF DEMAND – Why do buyers purchase a greater quantity at lower prices and vice-versa? • The substitution effect • The income effect The Substitution Effect – The change in the quantity demanded of a good that results because buyers switch to substitutes when the price of the good changes The Income effect – The change in the quantity demanded of a good that results because a change in the price of a good changes the buyer’s purchasing power(their real income) .
e.The Income Effect •Income effect is negative for inferior goods •In case price of an inferior good accounting for a considerable proportion of total consumption falls consumers’ real income increases: they become relatively richer •So they substitute superior good for the inferior ones i. reduce the consumption of inferior goods •So income effect on demand for inferior goods becomes negative .
income effect & substitution effect .CHIEF CHARACTERISTICS OF LAW OF DEMAND • Inverse relationship • Price .independent variable. demand dependent variable • Other things constant • Reasons underlying the law of demand.
DETERMINANTS OF DEMAND • Price of the commodity.negative or inverse relationship • Taste & preferences of the consumers • Money Income of the people • Change in the prices of related goods • Advertising & demand • Number of consumers in the market • Demonstration effect • Consumer expectations with regard to future prices • Income distribution .
pen & ink. bread & butter. tea & sugar . tea & coffee • Complements-when price of one & quantity demanded of the other move in the opposite direction e. rail & road transport.g.g.DETERMINANTS OF DEMAND Price of related commodities: • When change in price of the other commodity leaves the amount demanded of the commodity under consideration unchanged we say the two commodities are unrelated. otherwise they are related • Substitutes-when price of one & quantity demanded of the other move in same direction e. apples & pears.
vegetables. fruits etc after a certain level of income any further increase in income may leave amount demanded unchanged • Inferior goods.amount demanded decreases with increase in income increases with decrease in income .DETERMINANTS OF DEMAND Income of the household • The quantity demanded of a good & income of household move in the same direction • In case of goods like foods.
bajra. kerosene stove. bidis. salt.INCOME OF THE HOUSEHOLD •For income demand analysis goods & services can be grouped into four categories: •Essential consumer goods: food grains. antiques etc •Demand arises only beyond a certain level of income . costly cosmetics. luxury cars.g. cooking fuels. designer jewelry. travelling by bus etc •Demand decreases with the increase in income of the consumer •Normal goods: demand increases with increase in income •Prestige or luxury goods: consumed mostly by the rich e. minimum clothing & housing •Demand increases with increase in income only up to a certain limit •Inferior goods: e. oils.g.
• Graphically.Market Demand versus Individual Demand • Market demand refers to the sum of all individual demands for a particular good or service. individual demand curves are summed horizontally to obtain the market demand curve. .
.Change in quantity demanded & shift in demand • Change in Quantity Demanded – Movement along the demand curve. – Caused by a change in the price of the product.
A 1.Price of IceCream Cones Changes in Quantity Demanded B Rs2. 0 A tax that raises the price of ice-cream cones results in a movement along the demand curve.0 D 0 4 8 Quantity of Ice-Cream Cones .
Shifts in the Demand Curve • Consumer income • Prices of related goods • Tastes • Expectations • Number of buyers .
Figure 3 Shifts in the Demand Curve Price of Ice-Cream Cone Increase in demand Decrease in demand Demand curve. D1 Demand curve. D3 0 Quantity of Ice-Cream Cones . D2 Demand curve.
.Shifts in the Demand Curve • Consumer Income – As income increases the demand for a normal good will increase. – As income increases the demand for an inferior good will decrease.
Price of IceCream Cone Consumer Income Normal Good An increase in income. 0 2.0 0 0.0 0 1...5 0 1. Increase in demand Rs3.5 0 0 1 D1 2 3 4 5 6 7 8 9 10 11 12 Quantity of IceCream Cones D2 .5 0 2.
0 2.5 0 2.5 0 1..Consumer Income Inferior Good Price of low quality rice Rs3.0 0 1. Decrease in demand D2 D1 2 3 4 5 6 7 8 9 10 11 12 Quantity of low quality rice .0 0 0..5 0 0 1 An increase in income.
Predicting and Explaining Changes in Prices and Quantities • Distinguishing Between – A change in the quantity demanded • A movement along the demand curve that occurs in response to a change in price – A change in demand • A shift of the entire demand curve .
Table: Variables That Influence Buyers Copyright©2004 South-Western .
g. bajra .Exceptions to the law of demand • • • • Expectations regarding future prices Status goods Giffen goods: named after Robert Giffen Giffen goods may be any inferior commodity much cheaper than its superior substitutes consumed by poor households as an essential consumer good • If price of such goods increases its demand increases instead of decreasing e.
elasticity is a measure of the sensitivity of one variable to another.ELASTICITYOF DEMAND • Generally. • It tells us the percentage change in one variable in response to a one percent change in another variable. .
it does not tell by how much the demand will change due to price change • This is provided by the concept of elasticity of demand • Elasticity of demand also called price elasticity of demand relates to the responsiveness of quantity demanded of a good to the change in its price .ELASTICITYOF DEMAND • Law of demand indicates only the direction of change in quantity demanded to a change in price .
ELASTICITYOF DEMAND • Price elasticity = percentage change in quantity demanded/percentage change in price • The percentage change in a variable is the absolute change in the variable divided by the original level of the variable. • Price elasticity change in quantity demanded/quantity demanded Change in price/price = .
2) If EP > 1. EP is negative.ELASTICITYOF DEMAND • So the price elasticity of demand is also: ∆ /Q Q P ∆ Q EP = = ∆ /P P Q ∆ P Interpreting Price Elasticity of Demand Values 1) Because of the inverse relationship between P and Q. We say the demand is price elastic. the percent change in quantity is greater than the percent change in price. .
the percent change in quantity is less than the percent change in price. We say the demand is unit elastic. the demand is perfectly or infinitely elastic . We say the demand is price inelastic. 5) If EP = 0. the demand is perfectly inelastic and does not respond to change in price 6) If EP = infinity. the percent change in quantity is equal to the percent change in price.ELASTICITYOF DEMAND 3) If EP < 1. 4) If EP = 1.
demand is price inelastic 4) Other determinants of price elasticity of demand: – – – – The position of the commodity in a consumer’s budget Number of uses of a commodity Complementarities between goods Time & elasticity .ELASTICITYOF DEMAND 3) The primary determinant of price elasticity of demand is the availability of substitutes.demand is price elastic Few substitutes. – – Many substitutes.
∞ Quantity .Price Elasticities of Demand Price Infinitely Elastic Demand P* D EP = .
Price Elasticities of Demand Price Completely Inelastic Demand EP = 0 Q* Quantity .
Unit elastic demand (PÎD = –1) P a 20 b 8 D O 40 100 Q .
Elastic demand P(Rs) 5 4 b a D 0 10 20 Q (millions of units per period of time) .
Inelastic demand c 8 P(Rs) 4 a D 0 15 20 Q (millions of units per period of time) .
Determinants of price elasticity of demand • The number & closeness of substitutes • The share of the commodity in the buyers’ budget • Nature of the commodity • Number of uses a commodity can be put to • Habit forming characteristics • Time period .
salt • Negative income elasticity. luxury goods have elasticity more than unity .Types of income elasticity • Zero income elasticity.g.g. low quality cereals • Positive income elasticity. biris . Such goods are called positive goods e.g. Most of the goods are in this category.increase in income leads to increase in demand.change in income has no effect on demand e.increase in income may lead to reduction in quantity demanded e.
Income Elasticity of Demand • Income elasticity of demand for a product X is • Ey = • change in demand of X/original demand Change in income/original income • Income elasticity is positive for normal goods but negative for inferior goods .
the cross elasticity of demand for coffee(Qc) with respect to price of tea(Pt): • Ec.t = change in Qc / original Qc change in Pt/ original Pt .Cross Elasticity of Demand • Cross elasticity is the measure of responsiveness of demand for a commodity to the changes in the price of its substitutes and complementary goods • Ec = proportionate change in demand for product A / proportionate change in price of product B • To take the example of tea and coffee.
• The same formula is used to measure the cross elasticity of demand for complementary goods • Demand for complementary goods has negative cross elasticity while for substitutes it is positive • Greater the cross elasticity. closer the substitutes • Higher the negative cross elasticity higher the degree of complementarity .Cross Elasticity of Demand….
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