CHAPTER TWO
DEMAND ANALYSIS
Demand for a Commodity
Economists give a social meaning of the concept of demand which is as follows:
“Demand means effective desire or want for a commodity, which is backed by the ability (i.e., money or purchasing power) and willingness to
pay for it.”
That is one should have the desire and capacity to buy a commodity and should be willing to pay its price to constitute effective demand for that
commodity. For example—A pauper’s wish for a motor car will not constitute its potential market demand, as he has no ability to pay for it.
Demand in economics, means effective demand for a commodity.
It requires three conditions on the part of a consumer:
I. Desire for a commodity
II. Capacity to buy it i.e., ability to pay, and
III. Willingness to pay its price.
In Short:
Demand = Desire + Ability to pay (i.e., money or purchasing power) + will to spend.
Demand is not an absolute term. It is a relative concept. Demand for a commodity should always have a reference to price and time. For
instance—An economists would say that the demand for apples by a household, at a price of Kshs. 30 per kg. is 10 kg per week. Thus,
economists always mention the amount of demand or a commodity with reference to a particular price and at a specified time period, such as per
day, per week, per month or per year.
Thus, we can say that demand is a function of price (P), income (Y), prices of related goods (pr) and tastes (t) and is expressed as D = f (P, Y, pr,
t). When income, prices of related goods and tastes are given, the demand function is D = f (P). It shows the quantities of a commodity,
purchased at given prices as per Marshallian analysis, the other determinants of demand are taken as given and constant.
Elements of Demand:
There are five elements of demand:
i. Desire for a commodity.
ii. There must be means or ability to purchase it.
iii. There should be willingness to purchase the commodity.
iv. The commodity be purchased at a given price.
v. And under a given time.
Direct or Derived Demand and Individual and Market Demand:
The demand for a commodity refers to the amount of it which will be bought per unit of time at a particular price. Demand for a commodity may
be viewed as ex-ante; i.e., intended demand or ex-post i.e., what is already purchased. The former states The Potential Demand’ while the latter
refers to the actual amount purchased.
In a broad sense, the concept of demand has two aspects:
i. Direct Demand, and
ii. Derived Demand.
Consumer’s demand is a direct demand as it directly gives satisfaction to the consumer. Consumption goods have direct demand. Producer’s
demand for factor-inputs is a derived demand as it is derived from the demand for the final output. All capital goods have derived demand. For
instance—The demand for a house for dwelling purpose is a direct demand, while the demands for bricks, cement or wood, mason, carpenter,
architect etc. that are required to build the house are derived demands.
Further, consumer demand for a product may be viewed at two levels:
i. Individual demand, and
ii. Market demand.
Individual demand:
Refers to the demand for a commodity from an individual. That quality of a commodity a consumer would buy at a given price during a given
period of time is his individual demand for that particular commodity.
Market demand:
For a product on the other-hand refers to the total demand of all the individual buyers taken together. How much in quantity the consumers in
general would buy at a given price during a given period of time constitutes the total market demand for the product.
Market demand is the sum of individual demands. It is derived by aggregating all individual buyers’ demands in the market. This demand is more
important from the seller’s point of view. Sales depend on the market demand. Business policy and planning are based on the market demand.
Prices are determined on the basis of market and not of just an individual demand for the product.
Kinds of Demand:
There are three kinds of demand:
i. Price demand,
ii. Income demand, and
iii. Cross demand.
1. Price Demand:
Price demand is that demand which refers to the various quantities of a commodity or service that a consumer would purchase at a given time in a
market at various hypothetical prices. In this it is always assumed that other things such as consumer’s income, his tastes and prices of related
goods remain unchanged.
This type of demand has been classified under three heads:
i. Individual Demand:
Individual demand is the demand of an individual consumer.
ii. Industry Demand:
It is the aggregate demand of all the consumers combined for the commodity.
ECONOMICS COURSE NOTES: CHAPTER 2 – DEMAND ANALYSIS PREPARED BY MR. ANTONY AMBIA Page 1
, iii. Firm’s Demand or Individual Seller’s Demand:
This is the total demand for the product of an individual firm at various prices.
2. Income Demand:
This demand refers to the various quantities of goods which will be purchased by the consumer at various levels of income. In this, we start with
this assumption that the price of the commodity as well as the price of related goods and the tastes and desire of the consumers do not change.
The demand brings out the relationship between income and quantities demanded. This is helpful in preparing demand schedule.
3. Cross Demand:
In this demand the quantities of goods which will be purchased with reference to changes in the price not of this goods but of other related goods.
These goods are either substitutes or complementary goods. For example—A change in the price of tea will affect demands for coffee. Similarly,
if the price of horses will become cheap demand for carriages may increase.
Introduction to the Law of Demand:
The law of demand expresses a relationship between the quantity demanded and its price. It may be defined in Marshall’s words as “the amount
demanded increases with a fall in price, and diminishes with a rise in price”. Thus it expresses an inverse relation between price and demand.
The law refers to the direction in which quantity demanded changes with a change in price.
Prof. Alfred Marshall has defined it as “If other things remain the same, the amount demanded increases with a fall in and diminishes with a rise
in price.”
In this definition, the phrase, “other things remaining the same” is very important qualifying phrase of law. It is because the demand is not only a
function of price alone. Demand depends upon many things like population, income, taste, habit and distribution of income in the society etc.
Explanation of the Law of Demand:
This law simply states that as the price of a commodity increases demand reduces and vice-versa. Consumer wants to pay the price of a
commodity up to the extent of marginal utility. Therefore, an increase in the quantity of a commodity, its utility diminishes, slowly and consumer
likes to pay less price of that commodity.
In other-words, it can be said that if the price of a commodity reduces additional unit of goods can be purchased. Eminent economist like Prof.
Marshall has compared this law with a game of “See-Saw” in which he has stated that when one end of a plank of wood goes up the other end
goes down which can be seen from the diagram given below:
This Law of Demand can be expressed more clearly by an example, Suppose, the price of the mango is Re. 1 per mango, its demand is 12
mangoes. When the price is Rs. 2 then 10; Rs. 3 then 8; Rs. 4 then six and Rs. 5 then on 4 mangoes. From the following table demand of mangoes
can be studied clearly when there is increase and decrease in price.
Diagrammatic Representation of the Law of Demand:
The Law of Demand can be expressed by the following diagram:
In this diagram OX-axis indicate quantity of mango and OY-axis price. D-D 1 line in Demand Curve. From this diagram it is clear that “Demand
curve slopes downward towards the right.”
Assumptions of the Law of Demand:
These assumptions are:
a. There is no change in the tastes and preferences of the consumer;
b. The income of the consumer remains constant;
c. There is no change in customs;
d. The commodity to be used should not confer distinction on the consumer;
e. There should not be any substitutes of the commodity;
f. There should not be any change in the prices of other products;
g. There should not be any possibility of change in the price of the product being used;
ECONOMICS COURSE NOTES: CHAPTER 2 – DEMAND ANALYSIS PREPARED BY MR. ANTONY AMBIA Page 2
, h. There should not be any change in the quality of the product; and
i. The habits of the consumers should remain unchanged. Given these conditions, the law of demand operates. If there is change even in one
of these conditions, it will stop operating.
Given these assumptions, the law of demand is explained in terms of Table 3 and Figure 7.
The above table shows that when the price of say, orange, is Rs. 5 per unit, 100 units are demanded. If the price falls to Rs.4, the demand
increases to 200 units. Similarly, when the price declines to Re.1, the demand increases to 600 units. On the contrary, as the price increases from
Re. 1, the demand continues to decline from 600 units.
In the figure, point P of the demand curve DD1 shows demand for 100 units at the Rs. 5. As the price falls to Rs. 4, Rs. 3, Rs. 2 and Re. 1, the
demand rises to 200, 300, 400 and 600 units respectively. This is clear from points Q, R, S, and T. Thus, the demand curve DD1 shows increase in
demand of orange when its price falls. This indicates the inverse relation between price and demand.
Exceptions to the Law of Demand:
There are certain exceptions to the law of demand. It means that under certain circumstances, consumers buy more when the price of a
commodity rises and less when the price falls. In such case the demand curve slopes upward from left to right i.e. demand curve has a positive
slope as is shown in Fig. 7.5. Many causes can be attributed to an upward sloping demand curve.
In certain cases, the demand curve slopes up from left to right, i.e., it has a positive slope. Under certain circumstances, consumers buy more
when the price of a commodity rises, and less when price falls, as shown by the D curve in Figure 8. Many causes are attributed to an upward
sloping demand curve.
a. War:
If shortage is feared in anticipation of war, people may start buying for building stocks or for hoarding even when the price rises.
b. Depression:
During a depression, the prices of commodities are very low and the demand for them is also less. This is because of the lack of
purchasing power with consumers.
c. Giffen Paradox:
If a commodity happens to be a necessity of life like wheat and its price goes up, consumers are forced to curtail the consumption of
more expensive foods like meat and fish, and wheat being still the cheapest food they will consume more of it. The Marshallian
example is applicable to developed economies.
In the case of an underdeveloped economy, with the fall in the price of an inferior commodity like maize, consumers will start
consuming more of the superior commodity like wheat. As a result, the demand for maize will fall. This is what Marshall called the
Giffen Paradox which makes the demand curve to have a positive slope.
d. Demonstration Effect:
If consumers are affected by the principle of conspicuous consumption or demonstration effect, they will like to buy more of those
commodities which confer distinction on the possessor, when their prices rise. On the other hand, with the fall in the prices of such
articles, their demand falls, as is the case with diamonds.
e. Necessities of Life:
Normally, the law of demand does not apply on necessities of life such as food, cloth etc. Even the price of these goods increases, the
consumer does not reduce their demand. Rather, he purchases them even the prices of these goods increase often by reducing the
demand for comfortable goods. This is also a reason that the demand curve slopes upwards to the right.
f. Ignorance:
Sometimes consumers are fascinated with the high priced goods from the idea of getting a superior quality. However, this may not be
always true. Superior/deceptive packing and high price deceive the people. This can be called as ‘Ignorance effect’.
ECONOMICS COURSE NOTES: CHAPTER 2 – DEMAND ANALYSIS PREPARED BY MR. ANTONY AMBIA Page 3
DEMAND ANALYSIS
Demand for a Commodity
Economists give a social meaning of the concept of demand which is as follows:
“Demand means effective desire or want for a commodity, which is backed by the ability (i.e., money or purchasing power) and willingness to
pay for it.”
That is one should have the desire and capacity to buy a commodity and should be willing to pay its price to constitute effective demand for that
commodity. For example—A pauper’s wish for a motor car will not constitute its potential market demand, as he has no ability to pay for it.
Demand in economics, means effective demand for a commodity.
It requires three conditions on the part of a consumer:
I. Desire for a commodity
II. Capacity to buy it i.e., ability to pay, and
III. Willingness to pay its price.
In Short:
Demand = Desire + Ability to pay (i.e., money or purchasing power) + will to spend.
Demand is not an absolute term. It is a relative concept. Demand for a commodity should always have a reference to price and time. For
instance—An economists would say that the demand for apples by a household, at a price of Kshs. 30 per kg. is 10 kg per week. Thus,
economists always mention the amount of demand or a commodity with reference to a particular price and at a specified time period, such as per
day, per week, per month or per year.
Thus, we can say that demand is a function of price (P), income (Y), prices of related goods (pr) and tastes (t) and is expressed as D = f (P, Y, pr,
t). When income, prices of related goods and tastes are given, the demand function is D = f (P). It shows the quantities of a commodity,
purchased at given prices as per Marshallian analysis, the other determinants of demand are taken as given and constant.
Elements of Demand:
There are five elements of demand:
i. Desire for a commodity.
ii. There must be means or ability to purchase it.
iii. There should be willingness to purchase the commodity.
iv. The commodity be purchased at a given price.
v. And under a given time.
Direct or Derived Demand and Individual and Market Demand:
The demand for a commodity refers to the amount of it which will be bought per unit of time at a particular price. Demand for a commodity may
be viewed as ex-ante; i.e., intended demand or ex-post i.e., what is already purchased. The former states The Potential Demand’ while the latter
refers to the actual amount purchased.
In a broad sense, the concept of demand has two aspects:
i. Direct Demand, and
ii. Derived Demand.
Consumer’s demand is a direct demand as it directly gives satisfaction to the consumer. Consumption goods have direct demand. Producer’s
demand for factor-inputs is a derived demand as it is derived from the demand for the final output. All capital goods have derived demand. For
instance—The demand for a house for dwelling purpose is a direct demand, while the demands for bricks, cement or wood, mason, carpenter,
architect etc. that are required to build the house are derived demands.
Further, consumer demand for a product may be viewed at two levels:
i. Individual demand, and
ii. Market demand.
Individual demand:
Refers to the demand for a commodity from an individual. That quality of a commodity a consumer would buy at a given price during a given
period of time is his individual demand for that particular commodity.
Market demand:
For a product on the other-hand refers to the total demand of all the individual buyers taken together. How much in quantity the consumers in
general would buy at a given price during a given period of time constitutes the total market demand for the product.
Market demand is the sum of individual demands. It is derived by aggregating all individual buyers’ demands in the market. This demand is more
important from the seller’s point of view. Sales depend on the market demand. Business policy and planning are based on the market demand.
Prices are determined on the basis of market and not of just an individual demand for the product.
Kinds of Demand:
There are three kinds of demand:
i. Price demand,
ii. Income demand, and
iii. Cross demand.
1. Price Demand:
Price demand is that demand which refers to the various quantities of a commodity or service that a consumer would purchase at a given time in a
market at various hypothetical prices. In this it is always assumed that other things such as consumer’s income, his tastes and prices of related
goods remain unchanged.
This type of demand has been classified under three heads:
i. Individual Demand:
Individual demand is the demand of an individual consumer.
ii. Industry Demand:
It is the aggregate demand of all the consumers combined for the commodity.
ECONOMICS COURSE NOTES: CHAPTER 2 – DEMAND ANALYSIS PREPARED BY MR. ANTONY AMBIA Page 1
, iii. Firm’s Demand or Individual Seller’s Demand:
This is the total demand for the product of an individual firm at various prices.
2. Income Demand:
This demand refers to the various quantities of goods which will be purchased by the consumer at various levels of income. In this, we start with
this assumption that the price of the commodity as well as the price of related goods and the tastes and desire of the consumers do not change.
The demand brings out the relationship between income and quantities demanded. This is helpful in preparing demand schedule.
3. Cross Demand:
In this demand the quantities of goods which will be purchased with reference to changes in the price not of this goods but of other related goods.
These goods are either substitutes or complementary goods. For example—A change in the price of tea will affect demands for coffee. Similarly,
if the price of horses will become cheap demand for carriages may increase.
Introduction to the Law of Demand:
The law of demand expresses a relationship between the quantity demanded and its price. It may be defined in Marshall’s words as “the amount
demanded increases with a fall in price, and diminishes with a rise in price”. Thus it expresses an inverse relation between price and demand.
The law refers to the direction in which quantity demanded changes with a change in price.
Prof. Alfred Marshall has defined it as “If other things remain the same, the amount demanded increases with a fall in and diminishes with a rise
in price.”
In this definition, the phrase, “other things remaining the same” is very important qualifying phrase of law. It is because the demand is not only a
function of price alone. Demand depends upon many things like population, income, taste, habit and distribution of income in the society etc.
Explanation of the Law of Demand:
This law simply states that as the price of a commodity increases demand reduces and vice-versa. Consumer wants to pay the price of a
commodity up to the extent of marginal utility. Therefore, an increase in the quantity of a commodity, its utility diminishes, slowly and consumer
likes to pay less price of that commodity.
In other-words, it can be said that if the price of a commodity reduces additional unit of goods can be purchased. Eminent economist like Prof.
Marshall has compared this law with a game of “See-Saw” in which he has stated that when one end of a plank of wood goes up the other end
goes down which can be seen from the diagram given below:
This Law of Demand can be expressed more clearly by an example, Suppose, the price of the mango is Re. 1 per mango, its demand is 12
mangoes. When the price is Rs. 2 then 10; Rs. 3 then 8; Rs. 4 then six and Rs. 5 then on 4 mangoes. From the following table demand of mangoes
can be studied clearly when there is increase and decrease in price.
Diagrammatic Representation of the Law of Demand:
The Law of Demand can be expressed by the following diagram:
In this diagram OX-axis indicate quantity of mango and OY-axis price. D-D 1 line in Demand Curve. From this diagram it is clear that “Demand
curve slopes downward towards the right.”
Assumptions of the Law of Demand:
These assumptions are:
a. There is no change in the tastes and preferences of the consumer;
b. The income of the consumer remains constant;
c. There is no change in customs;
d. The commodity to be used should not confer distinction on the consumer;
e. There should not be any substitutes of the commodity;
f. There should not be any change in the prices of other products;
g. There should not be any possibility of change in the price of the product being used;
ECONOMICS COURSE NOTES: CHAPTER 2 – DEMAND ANALYSIS PREPARED BY MR. ANTONY AMBIA Page 2
, h. There should not be any change in the quality of the product; and
i. The habits of the consumers should remain unchanged. Given these conditions, the law of demand operates. If there is change even in one
of these conditions, it will stop operating.
Given these assumptions, the law of demand is explained in terms of Table 3 and Figure 7.
The above table shows that when the price of say, orange, is Rs. 5 per unit, 100 units are demanded. If the price falls to Rs.4, the demand
increases to 200 units. Similarly, when the price declines to Re.1, the demand increases to 600 units. On the contrary, as the price increases from
Re. 1, the demand continues to decline from 600 units.
In the figure, point P of the demand curve DD1 shows demand for 100 units at the Rs. 5. As the price falls to Rs. 4, Rs. 3, Rs. 2 and Re. 1, the
demand rises to 200, 300, 400 and 600 units respectively. This is clear from points Q, R, S, and T. Thus, the demand curve DD1 shows increase in
demand of orange when its price falls. This indicates the inverse relation between price and demand.
Exceptions to the Law of Demand:
There are certain exceptions to the law of demand. It means that under certain circumstances, consumers buy more when the price of a
commodity rises and less when the price falls. In such case the demand curve slopes upward from left to right i.e. demand curve has a positive
slope as is shown in Fig. 7.5. Many causes can be attributed to an upward sloping demand curve.
In certain cases, the demand curve slopes up from left to right, i.e., it has a positive slope. Under certain circumstances, consumers buy more
when the price of a commodity rises, and less when price falls, as shown by the D curve in Figure 8. Many causes are attributed to an upward
sloping demand curve.
a. War:
If shortage is feared in anticipation of war, people may start buying for building stocks or for hoarding even when the price rises.
b. Depression:
During a depression, the prices of commodities are very low and the demand for them is also less. This is because of the lack of
purchasing power with consumers.
c. Giffen Paradox:
If a commodity happens to be a necessity of life like wheat and its price goes up, consumers are forced to curtail the consumption of
more expensive foods like meat and fish, and wheat being still the cheapest food they will consume more of it. The Marshallian
example is applicable to developed economies.
In the case of an underdeveloped economy, with the fall in the price of an inferior commodity like maize, consumers will start
consuming more of the superior commodity like wheat. As a result, the demand for maize will fall. This is what Marshall called the
Giffen Paradox which makes the demand curve to have a positive slope.
d. Demonstration Effect:
If consumers are affected by the principle of conspicuous consumption or demonstration effect, they will like to buy more of those
commodities which confer distinction on the possessor, when their prices rise. On the other hand, with the fall in the prices of such
articles, their demand falls, as is the case with diamonds.
e. Necessities of Life:
Normally, the law of demand does not apply on necessities of life such as food, cloth etc. Even the price of these goods increases, the
consumer does not reduce their demand. Rather, he purchases them even the prices of these goods increase often by reducing the
demand for comfortable goods. This is also a reason that the demand curve slopes upwards to the right.
f. Ignorance:
Sometimes consumers are fascinated with the high priced goods from the idea of getting a superior quality. However, this may not be
always true. Superior/deceptive packing and high price deceive the people. This can be called as ‘Ignorance effect’.
ECONOMICS COURSE NOTES: CHAPTER 2 – DEMAND ANALYSIS PREPARED BY MR. ANTONY AMBIA Page 3
