DEMAND THEORY

Meaning of Demand
1.Ability backed up by willingness to pay for it.
2.Demand is always related to price and time. It
refers to the amount of it which will be bought per
unit of time at a particular price.
3. Demand may be viewed Ex-Ante or Ex-Post.
Ex-Ante i.e intended ------- Potential Demand Ex-
Post i.e. already purchased ------- actual Demand.
FACTORS INFLUENCING INDIVIDUAL &
MARKET DEMAND
 Individual Demand and Market Demand
 Individual Demand : The quantity of a product consumer would
buy at a given price over a given period of time is his individual
demand for that Particular product.
 Market Demand : To total demand of all the buyers taken
together. It is sum of the total individual demand.
 Determinants of Individual demand

 Price of the product

 Income

 Tastes, habits and preferences

 Consumer’s expectation

 Advertisement effect
FACTORS INFLUENCING MARKET DEMAND
 Price of the product
 Distribution of Income and wealth in the community

 Common habits and scale of preferences.

 General standard of living and spending habits

 No. of buyers and spending habits.

 Age structure and sex ratio

 Future expectations

 Level of taxation

 Inventions and tax structure.

 Fashions

 Inventions and innovation

 Climate

 Customs

 Advertisement and sales propaganda

 DEMAND FUNCTION
 D x = f(Px, Ps Pc Yd, T,A,N)

 Individual Demand Schedule Price Quantity

of X

80 2
Price80
70 4
70
60 6
60
50 10
50
40 16
40 D

0 1 2 3 4 5 6
 LAW OF DEMAND
 The law of demand expresses the inverse relationship
between the price and the quantity demanded of a
commodity, other things being equal, Or ceteris paribus.
 Assumptions

 No change in consumers income.

 No change in consumer's preference

 No change in fashion

 No change in price of related goods

 No change in size, age composition and sex ratio

 No change in distribution of income and wealth

 No change in Government policy

 No change in weather conditions.

DEMAND SCHEDULE AND DEMAND
CURVE
 Same as the earlier diagram.
 Exceptions to the law of demand (upward demand
curve).
 In rare cases when price falls , demand also falls and
with rise in price demand also rises. This paradoxical
situation which contrary to the law of demand. This
demand curve is sloping upward.
D
p
p’

Q Q’
EXCEPTIONS TO THE LAW OF DEMAND
(UPWARD DEMAND CURVE).
 Veblen Effect - Thorstein Veblen(1857-1929)
Doctrine of conspicuous consumption – prestige or status
goods more is demanded when price is high. Snob appeal

o Giffen’s Paradox - Robert Giffen (1837-1910) When price

falls of a commodity they buy less of it and prefer superior
good. Eg rice, wheat of inferior quality will be replaced
with superior quality.

o Speculation
o Consumer’s Illusion or bias.
CHANGE IN QUANTITY VERSES CHANGE IN
DEMAND
 Change in quantity relates to law of demand. It refers to
changes in quantity on account of the change in price. ----
Expansion and contraction in demand.
 Change in demand refers to changes in demand caused by
the changes in various other determinants of demand other
than price ----- Increase and Decrease in Demand.
ELASTICITY OF DEMAND
 Types of elasticity of Demand
Price Elasticity of Demand - Proportional change in
quantity demanded / - Proportional change in price.
Income Elasticity of Demand -- % change in quantity
demanded / % change in Income.
Cross Elasticity of Demand -- % change in quantity
demanded of X / % change in price of Y.
 MEASUREMENT OF PRICE ELASTICITY
 Percentage or ratio method
 Total outlay or Total revenue method

 Point method or Geometric Method.

 Percentage or ratio method

∆ Q/Q * P / ∆P
Total outlay or Quantity
Price Total revenue
Dd. method
Total Outlay Nature of els.
`5 100 500 Unit elastic e=1
` 4 125 500

`5 100 500 More than unit els. E

>1
`4 140 560
`5 100 500 Less than unit els.
E <1
`4 120 480
ARC METHOD
 In point elasticity of demand is relevant only if the change in
the price is very minute. But change in the price is not too
small, so that we have to measure the elasticity over a
substantial range of a demand curve.
 Elasticity measured over a range of the demand curve is ARC
Elasticity

A
B

Ep = (-) ∆Q/Q*100/ ∆P/P*100

ELASTICITY OF DEMAND IN DECISION MAKING
PROCESS.
 Business Decisions
 Economic policies of Government – Paradox of poverty
amidst plenty
 Determination of Public Utilities

 Taxation policy

 Determination of Factor pricing

 International trade