Managerial Economics

Managerial
Economics
DEMAND
Meaning of Demand
Ordinarily, by demand is meant the desire or want for something. In
economics, however demand means much more than that, it is effective
demand i.e. the amount buyers are willing to purchase at a given price
and over a given period of time. From managerial economics point of
view, thus, the demand may be looked upon as follows: -
Demand is the desire or want backed up by money. Demand means

effective desire or want for a commodity, which is backed up by the
ability (i.e. money or purchasing power) and willingness to pay for it.
Demand = Desire + Ability to pay +Willingness to spend
+
Law of Demand
When the Price of any Product

increases then its demand will fall .
When its price decreases then its

demand will increase in the Market.
Example of Law of Demand
There is a company XYZ ltd. which is selling only one type of goods in
the market. Following is the demand schedule of the company
showing how much quantity will be demanded of that product at a
special price during that day. Explain the relationship between the
price and quantity demanded when all the assumptions of the law of
demand holds.
Price per
$100 $250 $500 $750 $1,000
Unit ($)
Quantity
Demande 50 35 25 17 10
d
According to the law of demand in economics, when the price of any product increases,
its demand will fall, and when its price decreases, its demand will increase in the
market. In the present case, we can see that when the prices per unit of the quantity of
the product sold by company XYZ increase from $ 100 to $ 250, then the quantity
demanded product decreases from 50 units to 35 units. When the prices per unit of the
quantity of the product sold by company XYZ increase from $ 250 to $ 5000, then the
quantity demanded of the product decreases from 35 units to 25 units and so on.
This shows that commodity prices and their demand are inversely related. Thus, with the
increase in the price per unit of the quantity, the demand for its quantity is decreasing,
so this is an example of the concept of the law of demand.
Prof.Alfred Marshal. The elasticity (or Responsiveness) of demand in a market
is large or small according to the amount demanded increases much or little
for a given rise in price.
Percentage change in demand

Elasticity of Demand =
Percentage change in a price of the commodity
Types of Elasticity of Demand
On the basis of different factors affecting the quantity demanded for a

product, elasticity of demand is categorized into mainly three categories
• Price Elasticity of Demand (PED)
• Cross Elasticity of Demand (XED)
• Income Elasticity of Demand (YED)
1. Price Elasticity of Demand (PED)
Any change in the price of a commodity, whether it’s a decrease or increase,

affects the quantity demanded for a product. For example, when there is a
rise in the prices of ceiling fans, the quantity demanded goes down.
This measure of responsiveness of quantity demanded when there is a

change in price is termed as the Price Elasticity of Demand (PED).
The mathematical formula given to calculate the Price Elasticity of Demand

is:
PED = % Change in Quantity Demanded % / Change in Price
The result obtained from this formula determines the intensity of the effect of
price change on the quantity demanded for a commodity.
Degrees of Price Elasticity:

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.
The figure 1 shows that at the ruling price OP, the demand is infinite. A
slight rise in price will contract the demand to zero. A slight fall in price
will attract more consumers but the elasticity of demand will remain
infinite (ed=∞). But in real world, the cases of perfectly elastic demand
are exceedingly rare and are not of any practical interest.
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).
In diagram 2 DD shows the perfectly inelastic demand. At price OP, the quantity
demanded is OQ. Now, the price falls to OP1, from OP, the demand remains the
same. Similarly, if the price rises to OP2 the demand still remains the same. But
just as we do not see the example of perfectly elastic demand in the real world,
in the same fashion, it is difficult to come across the cases of perfectly inelastic
demand because even the demand for, bare essentials of life does show some
degree of responsiveness to change in price.
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.
In figure 3, DD demand curve represents unitary elastic demand. This demand

curve is called rectangular hyperbola. When price is OP, the quantity demanded is
OQ\. Now price falls to OP1 the quantity demanded increases to OQ2. The area
OQ\RP = area OP\SQ2 in the fig. denotes that in all cases price elasticity of demand
is equal to one.
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.
In fig. 4, DD is the demand curve which indicates that when price is OP the
quantity demanded is OQ1. Now the price falls from OP to OP1, the quantity
demanded increases from OQ1 to OQ2 i.e. quantity demanded changes more
than change in price.’
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.
2. Cross Elasticity of Demand (XED)
In a market where there is an oligopoly, multiple players compete. Thus, the

quantity demanded for a product does not only depend on itself but rather,
there is an effect even when prices of other goods change.
Cross Elasticity of Demand, also represented as XED, is an economic

concept that measures the sensitiveness of quantity demanded of one
good (X) when there is a change in the price of another good (Y), and that’s
why it is also referred to as Cross-Price Elasticity of Demand.
The formula given to calculate the Cross Elasticity of Demand is given as:
XED = (% Change in Quantity Demanded for one good (X)%) / (Change in

Price of another Good (Y)
3. Income Elasticity of Demand (YED)
The income levels of consumers play an important role in the

quantity demanded for a product. This can be understood by looking
at the difference in goods sold in the rural markets versus the goods
sold in metro cities.
The Income Elasticity of Demand, also represented by YED, refers to

the sensitivity of quantity demanded for a certain good to a change
in real income (the income earned by an individual after accounting
for inflation) of the consumers who buy this good, keeping all other
things constant.
The formula given to calculate the Income Elasticity of Demand is
given as:
YED = % Change in Quantity Demanded% / Change in Income

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Managerial

Demand is the desire or want backed up by money. Demand means

When the Price of any Product

When its price decreases then its

Percentage change in demand

Types of Elasticity of Demand

On the basis of different factors affecting the quantity demanded for a

Any change in the price of a commodity, whether it’s a decrease or increase,

This measure of responsiveness of quantity demanded when there is a

The mathematical formula given to calculate the Price Elasticity of Demand

Degrees of Price Elasticity:

Perfectly elastic demand is said to happen when a little change

2. Perfectly Inelastic Demand

In figure 3, DD demand curve represents unitary elastic demand. This demand

Relatively elastic demand refers to a situation in which a small change

Under the relatively inelastic demand, a given percentage change

In a market where there is an oligopoly, multiple players compete. Thus, the

Cross Elasticity of Demand, also represented as XED, is an economic

XED = (% Change in Quantity Demanded for one good (X)%) / (Change in

The income levels of consumers play an important role in the

The Income Elasticity of Demand, also represented by YED, refers to

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