DE M A N D A N A L Y S I S

MEANING OF DEMAND

• Demand is an economic principle referring to a consumer's desire to purchase

goods and services and willingness to pay a price for a specific good or service.

• Holding all other factors constant, an increase in the price of a good or service
will decrease the quantity demanded, and vice versa.
DEFINITION OF DEMAND
• Demand for a good is defined as the quantity of the good purchased
at a given price at given time.

• In words of Ferguson, “Demand refers to quantities of a commodity

that the consumers are able and willing to buy at each possible price
during a given period of time, other things being equal.”
DIFFERENT TYPES OF DEMAND.
• Complementary and Competing Demand: when two or more commodities are jointly
demanded at the same time to satisfy a particular want, it is called joint or complimentary
demand.(Demand for milk, sugar, tea for making tea). Goods that compete with each other
to satisfy any particular want are called substitutes they create competing demand.

• Composite demand: the demand for a commodity which can be put for several uses
(demand for electricity).

• Recurring and Replacement Demand: Consumable goods have recurring demand; durable
consumer goods are purchased to be used for a long time but they need replacement.
• Direct and derived demand : demand for a commodity which is for a
direct consumption is called direct demand.(Food, cloth). When the
commodity is demanded as s result of the demand of another
commodity, it is called derived demand.(Demand for tyres depends
on demand of vehicles).

• Industry demand and company demand : demand for the product of

particular company is company demand and total demand for the
products of particular industry which includes number of companies
is called industry demand.
FACTORS DETERMINING DEMAND
• ADVERTISING
• PRICE OF THE COMMODITY • CONSUMER’S EXPECTATION OF FUTURE INCOME AND
• PRICE OF RELATED GOODS PRICE

• INCOME OF THE BUYER • POPULATION

• GROWTH OF ECONOMY
• TASTES AND PREFERENCES OF THE BUYER
• CONSUMER CREDIT
LAW OF DEMAND

• The quantity of a commodity demanded in a given time period

increases as its price falls, ceteris paribus. (I.e. other things remaining
constant)
ASSUMPTIONS OF LAW OF DEMAND
LAW OF DEMAND IS BASED ON CERTAIN BASIC ASSUMPTIONS.
1) There is no change in consumer’s ‟taste and preference”.
2) Income should remain constant.
3) Prices of other goods should not change.
4) There should be no substitute for the commodity.
5) The commodity should not confer any distinction.
6) The demand for the commodity should be continuous.
7) People should not expect any change in the price of the commodity.
LINEAR DEMAND FUNCTION
• A demand equation or demand function expresses demand (q) (The number of
items demanded)as a function of the unit price (p) (the price per item)

• A demand function is said to be linear when the slope of the demand curve
remains constant throughout its length.

• The linear demand function has the form = D =a-bP

x x
• WHERE ‘a’ AND ‘b’ ARE CONSTANTS- ‘a’ IS INTERCEPT AND ‘b’ QUANTIFIES THE
RELATIONSHIP BETWEEN Dx AND Px.
PROBLEMS

• QD = 500 – 5P
• AT ZERO PRICE, DEMAND IS EQUAL TO 500 UNITS.
• (- ) SHOWS INVERSE RELATIONSHIP BETWEEN PRICE AND DEMAND .
• (5) IMPLIES THAT FOR EACH ONE RUPEES CHANGE IN PRICE
DEMAND CHANGES BY 5 UNITS.
•A PUBLISHING COMPANY PLANS TO PUBLISH A NEW BOOK. IT
COLLECTS SALES DATA FROM OTHER PUBLISHERS OF SIMILAR
BOOK. BY USING THE DATA IT DETERMINES A DEMAND FUNCTION
GIVEN AS Q=5000-5P.

• FIND OUT :
• NUMBER OF BOOKS SALEABLE AT A PRICE RS.200 PER BOOK.
• PRICE FOR SELLING 2500 COPIES OF THE BOOK.
• Assume a linear demand function of the form:
• QD = 100 - 8P
• Using this demand function, answer the following questions.
• Calculate the quantity demanded for prices from $0 - $10.
• Plot these figures to give the demand curve for the product.
• If the demand function changes to QD = 100 - 10p, draw up a new table to show the change in quantity demanded for prices from $0
- $10.

• Plot the new demand curve.

• If the demand function now changes to QD = 120 - 10p, draw up a new table to show the change in the values for quantity demanded
for prices from $0 - $10.

• Plot this new demand curve.

• Explain two reasons for:
• The change in the demand function from QD = 100 - 8P to QD = 100 - 10P
• The change in the demand function from QD = 100 - 10P to QD = 120 - 10P
DEMAND SCHEDULE
• A table showing the quantities
of a good that a consumer is
willing and able to buy at the
prevailing price in a given time
period.
DEMAND CURVE

• A curve indicating the total quantity of a product that all consumers

are willing and able to purchase at the prevailing price level, holding
the prices of related goods, income and other variables as constant.
DEMAND FUNCTION
QD X = F (PX, PR, Y, T, EY, EP, ADV….)
WHERE,

• QD X = QUANTITY DEMANDED OF GOOD ‘X’

• PX = THE PRICE OF GOOD X
• PR = THE PRICE OF A RELATED GOOD
• Y = INCOME LEVEL OF THE CONSUMER
• T = TASTE AND PREFERENCE OF THE CONSUMERS
• EY = EXPECTED INCOME
• EP = EXPECTED PRICE
• ADV = ADVERTISEMENT COST
CASE

• THEDEMAND FOR BEER IN JAPAN IS GIVEN BY THE FOLLOWING

EQUATION: QD = 700 − 2P − PN + 0.1I, WHERE P IS THE PRICE OF BEER,
PN IS THE PRICE OF NUTS, AND I IS AVERAGE CONSUMER INCOME.
A) WHAT HAPPENS TO THE DEMAND FOR BEER WHEN THE PRICE OF NUTS GOES UP? ARE
BEER AND NUTS DEMAND SUBSTITUTES OR DEMAND COMPLEMENTS?

• THE SIGN IN FRONT OF THE PRINCE OF NUTS, P N , IS NEGATIVE. THIS

MEANS WHEN THE PRICE OF NUTS GOES UP, THE BEER QUANTITY
DEMANDED FALLS FOR ALL LEVELS OF PRICE (DEMAND SHIFTS LEFT).
BEER AND NUTS ARE DEMAND COMPLEMENTS.
 B) WHAT HAPPENS TO THE DEMAND FOR BEER WHEN AVERAGE CONSUMER INCOME
RISES?

• THE SIGN IN FRONT OF INCOME, I, IS POSITIVE. THIS MEANS WHEN

INCOME RISES, QUANTITY DEMANDED INCREASES FOR ALL LEVELS
OF PRICE (DEMAND SHIFTS RIGHTWARD).
 C) GRAPH THE DEMAND CURVE FOR BEER WHEN PN = 100 AND I = 10, 000

• QD= 700 − 2P − 100 + 0.1*10,000 = 1,600 – 2P

⇒ P = 800

• ⇒ Q = 1600
D

• SO WHEN Q OR Q IS ZERO P=800, WHEN P=0,

D

QD OR Q IS 1600.
 THE MOST IMPORTANT REASONS FOR THE INVERSE RELATIONSHIP
BETWEEN PRICE AND QUANTITY DEMANDED ARE EXPLAINED BELOW

• When more and more units of a commodity are consumed, satisfaction

derived from successive units of the commodity goes on diminishing.

• Buyer can buy more quantity of a commodity when its price falls and less
of it when its price rises leading to the downward slope of the demand
curve.

• When price of a commodity falls, it becomes relatively cheaper than its

substitutes(although price of substitutes remains the same).
EXTENSION AND CONTRACTION OF DEMAND.
• Demand may change due to various factors. The change in demand
due to change in price only, where other factors remaining constant,
it is called extension and contraction of demand.

• A change in demand solely due to change in price is called extension

and contraction. When the quantity demanded of a commodity rises
due to a fall in price, it is called extension of demand. On the other
hand, when the quantity demanded falls due to a rise in price, it is
called contraction of demand. It can be understand from the
following diagram.
• When the price of commodity is OP, quantity
demanded is OQ. If the price falls to P2, quantity
demanded increases to OQ2.

• When price rises to p1, demand decreases from

oq to oq1. In demand curve, the area a to c is
extension of demand and the area a to b is
contraction of demand.

• As result of change in price of a commodity, the

consumer moves along the same demand curve.
 SHIFT IN DEMAND (INCREASE OR DECREASE IN
DEMAND)
• When the demand changes due to changes in other factors, like taste and
preferences, income, price of related goods etc... , It is called shift in demand. Due
to changes in other factors, if the consumers buy more goods, it is called increase in
demand or upward shift. On the other hand, if the consumers buy fewer goods due
to change in other factors, it is called downward shift or decrease in demand.

• Shift in demand cannot be shown in same demand curve. The increase and decrease
in demand (upward shift and downward shift) can be expressed by the following
diagram.
• DD is the original demand curve.
Demand curve shift upward due to
change in income, taste & preferences
etc of consumer, where price
remaining the same. In the above
diagram demand curve D1- D1 is
showing upward shift or increase in
demand and D2-D2 shows downward
shift or decrease in demand.
COMPARISON BETWEEN EXTENSION/CONTRACTION AND SHIFT IN
DEMAND
EXTENSION/CONTRACTION OF SHIFT IN DEMAND
DEMAND
• Demand is varying due to changes in other
• Demand is varying due to changes in factors
price.
• Price of commodity remain the same
• Other factors like taste, preferences,
• Consumer may moves to higher or lower
income etc... Remaining the same.
demand curve
• Consumer moves along the same demand
curve
EXTENSION AND CONTRACTION OF DEMAND CURVE
 WHY DOES DEMAND CURVE SLOPES
DOWNWARD?
•LAW OF DIMINISHING MARGINAL UTILITY
•SUBSTITUTION EFFECT
•INCOME EFFECT
•ARRIVAL OF NEW CONSUMERS
•DIFFERENT USES
•PSYCHOLOGY OF PEOPLE.
LAW OF DIMINISHING MARGINAL UTILITY

• As the consumer buys more and more of the commodity, the marginal utility of
the additional units falls. Therefore the consumer is willing to pay only lower
prices for additional units. If the price is higher, he will restrict its consumption.
• The law of diminishing marginal utility directly relates to the concept of
diminishing prices. As the utility of a product decreases as its consumption
increases, consumers are willing to pay smaller amounts for more of the
product.
SUBSTITUTION EFFECT
• An effect caused by a rise in price that induces a consumer (whose income has
remained the same) to buy more of a relatively lower-priced good and less of a
higher-priced one.

• Substitution effect is always negative for the seller: consumers always switch
from spending on higher-priced goods to lower-priced ones as they attempt to
maintain their living standard in face of rising prices. Substitution effect is not
confined only to consumer goods, but manifests in other areas as well such as
demand for labor and capital.

• When the price of tea falls, it becomes cheaper. Therefore the consumer will
substitute this commodity for coffee. This leads to an increase in demand for
tea.
INCOME EFFECT
• Like most of us, you go to work, do your job, and collect your paycheck. However,
one month, you notice that your paycheck is significantly bigger than usual; you've
been given a raise! Now that your income has increased, are you going to buy more
goods or services? This is what we call income effect, or how changes in income
affect the amount of goods or services consumers will demand or purchase.
According to the principle of income effect, if an individual gets a raise in income, he
will also demand an increased amount of goods and services. However, if an
individual's income decreases, then so will his demand for goods and services.

• Price also plays a role here. When the price of the commodity falls, the real income
of the consumer will increase. He will spend this increased income either to buy
additional quantity of the same commodity or other commodity.
DIFFERENT USES
• Some commodities have several uses. If the price of the commodity
is high, its use will be restricted only for important purpose.

• Some economists suggest that if a product has many uses and its
price falls down, the consumers shall continue to purchase more of
that product for other uses besides the basic one.

• It has been observed that when subsidy is offered on flour in

Pakistan, the consumers continue purchasing it their basic needs are
satisfied. They purchase it to replace a bit costlier fodder for animals.
PSYCHOLOGY OF PEOPLE.

• Psychologically people buy more of a commodity when its price

falls. In other word it can be termed as price effect.
EXCEPTIONS TO THE LAW OF DEMAND
• Inferior goods/ giffen Giffen goods are those, whose demand curve doesn’t conform to
“the first rule of demand”, i.e. price and quantity demanded of Giffen goods are inversely
related to each other, unlike other goods, where price and quantity demanded are positively
related. They are inferior goods without a substitute. These are named after the Scottish
statistician, Sir Robert Giffen. The classic example of Giffen goods is the example of
Bread, which the poor consumed more as its price rose. They are inferior goods, but these
are not normal inferior goods, whose demand falls as soon as the income increases. For
example, people would buy more iPhones than the Chinese made the phone when they feel
richer. Since the quantity demanded of the Giffen goods, increases with an increase in the
price of the goods, it leads to an upward sloping demand curve for the Giffen goods.

• The demand curve for Giffen goods is given below, the x-axis of the graph denotes the
quantity demanded of the goods and y-axis denotes the price of the goods. As the price of
good increases, the demand for the good also increases, leading to a rightward movement
in the demand line and hence the demand line, as shown in the curve is upward sloping.
VEBLEN EFFECT ON DEMAND
• Veblen Goods are a class of goods that do not strictly follow the law of demand, which states that
there exists an inverse relationship between the price of a good or service and the quantity
demanded of that good or service. Veblen goods violate the law of demand after prices have risen
above a certain level.

• The Veblen Effect is the positive impact of the price of a commodity on the quantity demanded of
that commodity. It is named after American economist and sociologist Thorstein Veblen, who
studied the phenomenon of conspicuous consumption in the late 19th century.
• Consider the demand curve shown above. As the price of
the commodity rises from P-A to P-B, the quantity
demanded of the commodity falls from A to B. As the
price of the commodity rises from P-B to P-C, the
quantity demanded of the commodity falls from B to C.
Between prices P-A and P-C, the law of demand holds,
and there exists an inverse relationship between the price
of a commodity and demand for that commodity.

• However, for prices beyond P-C, the Veblen Effect

dominates over the law of demand. As the price rises
from P-C to P-D, demand increases from C to D. For all
the prices above P-C, the law of demand does not hold,
and there exists a positive relationship between the price
of a commodity and demand for that commodity.
REASONS FOR THE VEBLEN EFFECT
1. Perception of quality
In Veblen’s analysis of conspicuous consumption, the economist noted that for certain luxury goods and services, a higher price was often
associated with the perception of higher quality. Therefore, a price increase was seen as evidence of the producer improving quality.
For example, the demand for a designer handbag rises with an increase in its price. The price increase is viewed by consumers as
evidence that the producer of the designer handbag has improved the quality of the handbag.
2. Positional goods
Veblen goods are often positional goods. The quantity demanded of a positional good depends on how the good is distributed in society.
Veblen goods often exhibit a negative positional effect, i.e., the quantity demanded of a Veblen good increases with a reduction in the
distribution of the good. It occurs because the utility gained by a consumer from holding such a good arises purely from the fact that few
other consumers hold it.
For example, the utility gained by a consumer from owning a diamond-encrusted handbag might arise primarily from the fact that few
other people in society can afford to own such an object. Thus, for this consumer, the diamond-encrusted handbag acts as a positional
good.
• Price expectation-when the consumer expects that the price of the commodity is going to fall in
the near future, they do not buy more even if the price is lower. On the other hand, when they
expect further rise in price of the commodity, they will buy more even if the price is higher. Both
of these conditions are against the law of demand.

• Fear of shortage-when people feel that a commodity is going to be scarce in the near future,
they buy more of it even if there is a current rise in price. For example: if the people feel that
there will be shortage of L.P.G. Gas in the near future, they will buy more of it, even if the price
is high.

• Change in income-the demand for goods and services is also affected by change in income of
the consumers. If the consumers’ income increases, they will demand more goods or services
even at a higher price. On the other hand, they will demand less quantity of goods or services
even at lower price if there is decrease in their income. It is against the law of demand.
• Change in fashion-the law of demand is not applicable when the goods are
considered to be out of fashion. If the commodity goes out of fashion, people do
not buy more even if the price falls. For example: people do not purchase old
fashioned shirts and pants nowadays even though they've become cheap. On the
other hand, people buy fashionable goods in spite of price rise.

• Basicnecessities of life-in case of basic necessities of life such as salt, rice,

medicine, etc. The law of demand is not applicable as the demand for such
necessary goods does not change with the rise or fall in price.