Demand is a schedule which shows the various amounts of a product consumers are willing and able to purchase at each price.

Law of Demand - all else constant, as price falls, the quantity demanded rises. Similarly, as price increases, the corresponding quantity demanded falls. This relationship leads to the downward sloping demand curve.

Rationale:

1.) Common sense and simple observation seems to substantiate this assertion

2.) Consumption is subject to diminishing marginal utility - consuming successive units of a particular product yields less and less extra satisfaction. For example; after the first hamburger getting a second hamburger is less appealing because the person is not as hungry.

3.) The income effect - a decline in the price increases the purchasing power of a buyer's money, enabling him or her to buy more of the product than before.

4.) The substitution effect - at a lower price, buyers have the incentive to substitute the cheaper good for similar goods which are now relatively more expensive. For example, at a lower price, beef is relatively more attractive and is substituted for pork, mutton, chicken, etc.

Determinants of Demand

The determinants of demand are also known as demand shifters. They result in the leftward (decrease) or rightward (increase) shifts in the demand curve.

1.) tastes or preferences of consumers

• an increased taste in a product increases its demand
• a decreased taste in a product decreases its demand

2.) number of consumers in the market

• more consumers increases a products demand
• fewer consumers decreases a products demand

3.) the money incomes of consumers

Superior goods or normal goods

• As income increases, a superior good's demand increases
• As income decreases, a superior good's demand decreases
• Superior goods are most common goods
  

Inferior Goods

• As income increases, an inferior good's demand decreases
• As income decreases, an inferior good's demand increases

4.) prices of related goods

Substitute Goods

• As price of A increases, demand for B increases
• As price of A decreases, demand for B decreases
• Example: Nike's and Reeboks

Complementary Goods

• As price of A increases, demand for B decreases
• As price of B decreases, demand for A increases
• Example: computers and computer games; gasoline and motor oil

Independent Goods

• As price of good A changes, demand for good B does not change

5.) consumer expectations about the future prices and incomes

• if consumers expect a price increase in near future, demand increases
• if consumers expect a price decrease in the near future, demand decreases

Terminology Clarification

• "change in quantity demanded" - designates the movement from one point to another point - from one price-quantity combination to another - on a fixed demand curve
• "change in demand" - a shift in the entire demand curve either to the right (an increase in demand) or to the left (a decrease in demand).

Price Determination

We always want to produce at the most economical quantity-price combination.  Graphically, the intersection of the supply curve and the demand curve for the product will indicate the equilibrium point - where there is neither a shortage nor a surplus.

• A surplus occurs when there is too much supply and not enough demand at a particular price

• A shortage occurs when there is too much demand and not enough supply at a particular price.

Eventually, the market will shift toward equilibrium.  The ability of the competitive forces of supply and demand to establish a price where selling and buying decisions are synchronized or coordinated is called the rationing function of prices.

Changing Supply and Demand Curves

Demand Curve

• All else constant, a decrease in demand causes a decrease in equilibrium price and quantity demanded.

• All else constant, an increase in demand causes an increase in equilibrium price and quantity demanded.

Supply Curve

• All else constant, a decrease in supply causes an increase in equilibrium price and a decrease in equilibrium quantity supplied.

• All else constant, an increase in supply causes a decrease in equilibrium price and an increase in equilibrium quantity supplied.

Complex Cases

Subscribe to our newsletter!  Enter your email address here:

Get Stock Quote: Enter Symbol(s) Symbol Lookup My Portfolio Our Privacy Vow

Like our intro movie?  Download the Short Run's screen saver.