Page 1 THEORY OF DEMAND P. Bharathi

Page 2 What is Demand? The willingness to buy a good or service at all pricesThe willingness to buy a good or service at all prices What is the law of Demand?What is the law of Demand? If nothing else changes, the quantity demanded of aIf nothing else changes, the quantity demanded of a good or service is greater at lower prices than higher. good or service is greater at lower prices than higher.

Page 3 Determinants of Demand Prices of other goods ( substitute or complementary)Prices of other goods ( substitute or complementary) Outlook (consumer expectation of future income and prices)Outlook (consumer expectation of future income and prices) Income (normal goods versus inferior goods)Income (normal goods versus inferior goods) Number of potential customers (pop. of market)Number of potential customers (pop. of market) Tastes (or fashions)Tastes (or fashions)

Page 4 Reasons for inverse relation between Reasons for inverse relation between price & demand price & demand 1.Income Effect –current buyers buy more. 2. Substitution Effect– new buyers now purchase. 3. Diminishing Marginal Utility - because buyers of successive units receive less marginal utility, of successive units receive less marginal utility, they will buy more only when the price is lowered. they will buy more only when the price is lowered.

Page 5 Rs …a specified time period …other things remaining constant PQDQD Price decreases; QD increases Consumers “willingness to buy” Rs.5 Rs. 4 Rs. 3 Rs. 2 Rs. 1 D Quantity Demanded

Page 6 GRAPHING DEMAND P Q o Rs54321P QDQDQDQD$ Price of Corn Quantity of Corn CORN

Page 7 55 P Q o Rs.54321P QDQDQDQDRs Price of Corn Quantity of Corn CORN GRAPHING DEMAND

Page 8 35 P Q o Rs.54321P QDQDQDQDRs Price of Corn Quantity of Corn CORN GRAPHING DEMAND

Page 9 P Q o Rs.54321P QDQDQDQDRs Price of Corn Quantity of Corn CORN GRAPHING DEMAND

Page 10 P Q o Rs P QDQDQDQDRs Price of Corn Quantity of Corn CORN GRAPHING DEMAND

Page 11 P Q o Rs.54321P QDQDQDQDRs D Price of Corn Quantity of Corn CORN GRAPHING DEMAND

Page 12 specifiedtime period … a specified time period …other things remaining constant Price decreases; QD increases Rs.5 Rs. 4 Rs. 3 Rs. 2 Rs. 1 D Quantity Demanded

Page 13 “C” Rs.3 Rs.3 Rs Rs From “individual” demand to “market” demand [Total] “A”“B” D D D D = And, what if the price of this product drops from Rs.3 to Rs.2? Individual Demand and Market Demand Rs.2 40 Rs.2 45 Rs.2 30 Rs “Market Demand”

Page 14 QD 2 QD 1 Price QD Inverse relationshi p Rs.10 D Change in QD 1. Price change 2. Movement [up/down the demand curve] [up/down the demand curve] 3. Point to point [along the curve] Rs.8

Page 15 “Demand Shifters” 1.Taste 2.Income 3.Market Size 4.Expectations of consumers about future price, Income, availability of good 5.Prices of related goods

Page 16 Complement [ inverse ] Butter D1D1D1D1 D2D2D2D2 P Substitute [ Direct ] Coffee D1D1D1D1 D2D2D2D2 P Bread P1P1P1P1 QD 1 QD 2 P2P2P2P2 D “Demand Shifters”

Page 17 P D3D3D3D3 D1D1D1D1 D3D3D3D3 QD 3 QD 1 QD 2 “Demand Shifters”

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Page 19 ELASTICITY OF DEMAND “ The degree of responsiveness of change in demand to a change in price ” Importance of Elasticity of demand: Determination of price under monopoly,Determination of price under monopoly, Determination of price under discriminating monopolyDetermination of price under discriminating monopoly Determination of price of product mix,Determination of price of product mix, Determination of price of public utilities,Determination of price of public utilities, Determination of international trade policyDetermination of international trade policy

Page 20 Type of elasticity of demand: Income elasticity of Demand: The degree of responsiveness of change in demand to a change in income Type of Income Elasticity of Demand: –Zero –Negative –Positive Price Elasticity of Demand: Price Elasticity of Demand: The degree of responsiveness of change in demand to a change in price The degree of responsiveness of change in demand to a change in price Methods of Measuring Price Elasticity: »Total outlay or expenditure method »Point Method »Arc Method

Page 21 Cross Elasticity of Demand: The degree of responsiveness of change in demand for good ‘B’ to a change inprice of good ‘A’ The degree of responsiveness of change in demand for good ‘B’ to a change inprice of good ‘A’ Type of Cross elasticity of demand: –Zero, –Negative, –Positive: a) >1 (b) 1 (b) <1, (c) =1 –Infinitive

Page 22 Factors governing the elasticity of demand: Number and closeness of substitutesNumber and closeness of substitutes Significance of commodity in budgetsSignificance of commodity in budgets Degree of necessity of goodsDegree of necessity of goods Habits and temperaments of consumerHabits and temperaments of consumer Number of the use of commodityNumber of the use of commodity Period of time for demandPeriod of time for demand

Page 23 Factors influencing demand: –Number of consumers –Price level –Availability of substitutes –Distribution of wealth –Taste –Fashion –Possibility of change in price –Climate –Advertisement

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