GSEB Std 11 Economics Chapter 3 Demand and Elasticity of Demand

Chapter 3: Demand and Elasticity of Demand

Meaning of demand:
An individual wants to have many things during his lifetime. In fact, everyday he is dreaming or
planning about things he wants to use, consume or enjoy. In ordinary sense the term ‘desire’ is
taken as synonym to ‘demand’ but in economics mere desire is not demand because an individual
cannot fulfill all his desires at a time. For example a man wants to own TV, fridge, car, house,
furniture and many more but he cannot buy all of it at same time due to constraint of resources (i.e.
money). So in economics, demand means effective demand which fulfills all of the following
criteria:
 Desire for the commodity
 Willingness to pay the price
 Ability to pay its price
So we can say that demand for the commodity implies a desire backed by ability and willingness to
pay. For example if a poor man desires to own a car and is willing to pay its price also but it will
not be his demand because he is not able to pay the money to buy it. Also if a man has the ability to
pay but if he does not want the goods it will not be his demand. For example vegetarians will not
have demand for non-vegetarian food.
It is the combination of all the above three characteristics that makes demand for a commodity. For
example, if a student wants to purchase a book, it will be his demand if he is able to pay its price
and also willing to purchase the book.
Demand in words of Bober can be defined as, “ By demand we mean the various quantities of
a given commodity or service which consumers would buy in one market in a given period of
time at various prices, or at various income, or at various prices of related goods.”

Determinants of Demand:
Demand for a commodity is influenced by many factors. These factors are known as determinants
of demand, because they determine the quantity of a commodity demanded at a particular time.
The main determinants of demand are as follows:

1. Price of the commodity: Generally, if the price of a commodity decreases, its demand
increases and if price increases, its demand will contract. It means an inverse relationship
between price and demand.
2. Income: The household’s demand for a commodity is influenced by the size of its income. In
most cases, the larger the income, the greater will be the demand. The increased income leads
to increase in purchasing power. So demand and income are directly related. Usually the
change in income brings more change on goods of comforts and luxury and less on essentials.
Income effect works negatively on inferior quality goods.
3. Distribution of income: The pattern of demand for goods also depends on distribution of
income. If the distribution is made in favor of rich people, the demand of luxury goods
increases and if it is in favor of poor people, there is more demand for primary or necessary
goods in market.
4. Taste and Preference of Consumers: Taste and preferences of the people can have a
powerful influence on the level of demand for a commodity. If a particular commodity comes
into fashion, it will be demanded in larger quantity even if its price is high. Conversely, if a
commodity goes out of fashion, its demand will decline in spite of fall in price.
5. Prices of related commodities: Related commodities can be substitute or complementary. If
there is a change in the price of these goods they will have an effect on the demand of a
commodity. For example, if prices of Coca-cola decreases, though the prices of Pepsi is
stable, its demand decreases (substitutes). On the other hand if the prices of a car is stable but
if the price of petrol increases, demand for cars will decrease (complementary).

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GSEB Std 11 Economics Chapter 3 Demand and Elasticity of Demand

6. Size of population: Total demand for a commodity depends upon the number of its
consumers. The larger the number of consumers, the larger will be the demand for that
commodity. The number of consumers for a commodity depends upon the size of population.
7. Expectations about future price: Demand for a commodity will depend upon people’s
expectations about its future price. If there is any expectation or rumor about increase in price
in future, the demand of a commodity increases in the present e.g. demand for TV will
increase in spite of its high price at present, if people expect a further increase in price.
Conversely, demand for the same will decrease in spite of its low price at present if people
expect a further fall in its price.
8. Expectation about future income: If consumers expect a rise in their income in near future
they will start spending more at present and thereby the demand for goods increases. And if
they expect a decrease in future income their demand and spending will also decrease.
9. Advertisement: A lot of money is being spent by businessmen on advertising their products
because it helps bringing the demand level up in the market. Advertisement is the source
through businessmen can generate awareness of the product and can induce people to at least
try the product.

Price of the commodity

Distribution of income Prices of related commodities

Income Determinants of Demand Size of population

Future price and income Advertisement Taste and

Preference of
Individual Demand and Market Demand:
A consumer purchases a commodity at different prices in the market, it is considered as individual
demand or family demand.
Individual demand has no place in economics, as it studies the total of all individual demands, i.e.
market demand. Market demand is a sum total of individual demands. In economic analysis only
total demand is taken into account.
Following table shows calculation of market demand from individual demands:
Price (Rs.) Individual demand Total demand of
Wheat (Kg.)
A B C D
15 2 2 4 2 10
13 5 6 10 4 25
11 9 12 14 5 40
9 12 15 20 8 55

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GSEB Std 11 Economics Chapter 3 Demand and Elasticity of Demand

The above schedule presents that higher the price, quantity demanded is less and at low price
consumer purchases more. One very important economic theory, that is law of demand hidden in
the above schedule.

Law of Demand:
The analysis of relationship between change in price and the consequential change in demand in
case of a particular commodity is known as law of demand. The relationship was highlighted by
French mathematician A.A Cournot, but it was Prof. Alfred Marshall who presented the price
demand relationship in a comprehensive way.

Assumptions:
i) The number of consumer remain constant.
ii) Consumer’s income remains constant.
iii) The prices of other commodities remain unchanged.
iv) Absence of expectation of future prices.
v) Consumer’s taste remains constant.
In short every factor affecting demand except price is kept constant. This is also called ‘ceteris
paribus’ (Other things remaining constant).

The Law:
“Other things remaining constant, at lower price quantity demanded is more than quantity
demanded at higher prices.” The quantity purchased by consumer at higher price is comparatively
less than the quantity purchased at lower price.

In simpler words, “Other things being equal, when the price of a commodity increases its
demand will decrease and when the price of a commodity decreases its demand will
increase.”

Demand schedule:
The law of demand as stated earlier can best be understood with the help of a demand schedule and
a demand curve which expresses numerically and through a diagram the functional relationship
between price and quantity of the commodity.
If we write down the different quantities that an individual would buy at different prices, we get
that individual’s demand schedule. Thus, a demand schedule is a table or collection of data which
shows the quantities of a commodity demanded at different prices in a given period of time.
The following is demand schedule of an imaginary consumer for oranges:
Price of orange Quantity demanded
(per unit in Rs.) (in units)
1 25
2 20
3 15
4 10
5 5
Demand Curve:
A demand curve is diagrammatical representation of relationship between price and demand of a
particular commodity. A demand curve shows all possible price – demand combinations available
to a consumer. It shows the quantities of a commodity which consumers or users would buy at
different prices per unit of time under the assumption of law of demand.
Following is the demand curve for the above demand schedule for oranges.
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GSEB Std 11 Economics Chapter 3 Demand and Elasticity of Demand

According to the law of demand, there is an inverse or negative relationship between a change in
the price of a commodity and the consequential change in the demand for that commodity. Thus,
demand varies in opposite direction than price of the good, though not necessarily in the same
proportion.

Why are price and demand inversely related?

Demand increases at lower price on account of the motivation of regular consumer to purchase
more and the eligibility of the consumers who are unable to purchase earlier. It gives rise to two
effects:
1) When price of a commodity decreases, the consumer is spending less amount of money on
the same goods, this gives him power to purchase some other goods with the remaining
money. This is substitution effect.
2) As price falls the real income (income measured in terms of goods and services) or
purchasing power of a consumer increases. This is called income effect.
In short we can write it as Price effect = income effect + substitution effect

Exceptions to law of demand:

The law of demand seems to be applicable to all situations concerning a consumer’s demand. But
there are certain exceptions:
1. Giffen goods: Sir Robert Giffen observed in the mid 19th century that when the price of bread
increased, the low paid workers in Britain spent more on it (since it was their staple food) and
they cut on meat. That is, they substituted bread for meat. This means that the demand for
bread increased when its price went up, which is obviously an exception to the law of
demand.
2. Changes in expectations: When prices are rising and if consumers expect a further rise in
the price of the goods, demand for the commodity will increase in spite of rise in the price of
the commodity.
3. Trade Cycle: In times of general economic prosperity, people buy more even when the price
goes up, since people’s incomes have gone up. Opposite is the case when there is general
depression in the economy.
4. Different brands/ goods with prestige value: It often happens that different brands of
commodities are priced differently. Some people conscious of their higher status buy more of
the higher priced brand than lower priced brand, because the former is considered as status
symbol. So when price of such goods decreases, high income group will decrease demand
for the product but the middle income group will increase the demand.
In fact, the law of demand affect the total demand, not the demand of particular group. So
this exception is also not acceptable as real exception.
5. Low priced goods: There are some low priced goods like salt, pin, match box etc. for which
consumer spends a small part of his total income, so change in price brings insignificant
change in total expenditure, the demand is not influenced by a change in price.
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GSEB Std 11 Economics Chapter 3 Demand and Elasticity of Demand

This exception is not strong enough to make demand curve positive, as it is seen very
insignificant.

Change in demand:
Factors affecting demand can be classified into two categories:
1. Change in price (expansion and contraction of demand)
2. Change in factors other than price. (increase or decrease in demand)

A consumer’s demand supposed to increase/decrease due to change in price, is shown on the same
curve, but as price remains constant and quantity demanded increases or decreases due to other
factors, is explained by different demand curves.
Following discussion show this difference.
i) Change in price or Expansion and contraction of demand: Other factors remaining constant
whenever there is a change in demand due to change in its price the same will be called
expansion or contraction of demand.
Expansion means more demand at less price and contraction of demand means less demand at
higher price. In expansion of demand, demand curve moves from left to right downwards while
in contraction the same moves from right to left.
Following is the diagramme showing relationship between price and demand.

From the diagram we can say that when the price of the orange was Rs.3 demand for the
same was of 15 oranges but when the price increased from Rs.3 to Rs.4 demand decreased
from 15 units to 10 units. This is called ‘Contraction of Demand’. On the other hand when
the price decreased to Rs.2 demand for the orange increased to 20 units. This is called
‘Expansion of Demand’.
ii) Increase and Decrease in demand: A change in the quantity of a commodity not due to a
change in its price but due to a change in other factors like income, tastes, preferences,
fashion, population, price of related goods etc. is known as increase or decrease in demand.
In other words, increase in demand means that at the same price, the consumer purchases
more units of article than before. This may be due to a rise in his income or he may have
developed a taste or liking for the commodity or any other reason. Here there will be a shift
in the demand curve to the right of original demand curve. On the other hand, decrease in
demand means that at the same price, the consumer purchases less units of an article than
before. This may be due to a fall in his income or due to a change in fashion or any other
reason. Here there will be a shift in the demand curve to the left of the original demand
curve.
Price of orange Quantitydemanded
(per unit in Rs.) (in units)
3 20 Increase
3 15 Demand
3 10 Decrease

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GSEB Std 11 Economics Chapter 3 Demand and Elasticity of Demand

From the above diagrams we can say that when the price of the oranges remained same i.e.
Rs.3 there was a change in demand. So when the demand increased from 15 units to 20
units it is the increase in demand while the shift of demand from 15 units to 10 units is
decrease in demand.

Under the first situation demand curve remains constant, under second, the original demand curve
shifts either left or right.

Elasticity of demand:
The law of demand presents inverse relationship between price and demand but fails to explain the
proportion of change in demand caused by change in price (law of demand shows direction of
change but fails to show degree of change). There is a method called elasticity of demand to
measure such change.
Elasticity of demand is a ratio of percentage change in any factor and percentage change in
demand.

Elasticity of demand can be defined as, “ the degree of responsiveness (% change) of quantity
demanded of a commodity due to a change in any of the determinants in demand function, while
other determinants in the demand function are held constant.”

Price elasticity of demand:

1) Percentage method: Price elasticity of demand is measured by the ratio between
percentage change in the demand and percentage change in price.

Percentage (%) change in demand

Elasticity of demand =
Percentage (%) change in price

Answer for this formula will be negative because of downward slope of demand curve. For
easy analysis the answer is always presented in positive form.

The change in price of apple per unit and changes in its demand are as follows at a given
time. Let us find out the price elasticity of demand:

Particulars Price per unit Demand (unit)

Initial (old) 25 10
New (after change) 20 15
Change -5 +5
Percentage change -20% +50%

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GSEB Std 11 Economics Chapter 3 Demand and Elasticity of Demand

Applying the price in the formula of elasticity of demand

Elasticity = -50/-20 = 2.5

It can be found by the following formula:
Elasticity of demand = [change in demand/ change in price X initial price (old)/ initial
demand (old)]
= -[5/5 X 25/10] = 2.5

Following are the different kinds of price elasticity: Y

1. Elastic demand (Ed > 1): Where a reduction in price leads Price
to more than proportionate change in demand. Hence the
shape of the demand curve is flat. Such price trend is
generally seen for durable or non-perishable goods. Here D
the elasticity of demand is greater than one.
0 Demand X

2. Inelastic demand (Ed < 1): Where percentage change in Y

demand is less than the percentage change in price. Here the Price
elasticity of less than one. The shape of the demand curve is
steep. This elasticity is applicable to the goods that can be
stored or preserved for longer period. D

0 Demand X

Y
3. Unit elasticity of demand (Ed = 1): When percentage
Price
change in demand and percentage change in price are equal.
Demand is said to be equal to unity is called unit elasticity
of demand. Here the curve is rectangular hyperbola.
D

0 Demand X

Y
4. Infinite elasticity (Ed = ): When percentage change in
Price
demand is infinite without change in price. It is said infinite
elasticity of demand or perfect elasticity. This is the case of
perfect competition where a firm can sell the quantity it D
wants to sell at prevailing price but none at all at even a
slightly higher price. The shape of demand curve is
horizontal straight line. 0 Demand X

5. Zero elasticity (Ed = 0): When percentage change in Y

demand is nil as compared to percentage change in price, P
D
r
demand is said to be zero and is called zero elasticity. i
Example includes salt, match box and other very low priced c
items. Here the shape of demand curve is vertical straight e
line.
0 Demand X

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GSEB Std 11 Economics Chapter 3 Demand and Elasticity of Demand

Following table summarizes all the price elasticity of demand:

Type Num Exp Description Shape of curve
Perfectly elastic  Infinite Horizontal
Perfectly inelastic 0 Zero Vertical
Unity elastic 1 One Rectangular hyperbola
Relatively elastic >1 More than 1 Flat
Relatively inelastic <1 Less than 1 Steep

ii) Total outlay method:

The change in total expenditure, due to change in price, is considered in this method. If a consumer
purchases 50 units of a commodity at a price of Rs. 10 per unit, the total outlay is Rs. 500 (10x50).

Total outlay = price x proportion of demand.

Total outlay of consumer before change in price and after change in price, is compared to know
elasticity of demand. As per law of demand, demand increases at falling price but the total
expenditure may not.

There are three kinds of demand elasticity:

1. Unit elastic demand (Ed = 1): The total outlay remains constant with a change in price. The
quantity demanded is unit elastic, called unit elasticity of demand.

Price (Rs.) Demand (Unit) Total Outlay (Rs.)

6 25 150
3 50 150

2. Relatively elastic demand (E > 1): With a rise in price, the total outlay falls or with fall in
price, the total outlay rises, the elasticity of demand is greater than unit.

Price (Rs.) Demand (Unit) Total Outlay (Rs.)

6 25 150
3 60 180

3. Relatively inelastic demand (Ed < 1): With a rise in price the total outlay also rises and
with a fall in price the total outlay falls. So demand is relatively inelastic.

Price (Rs.) Demand (Unit) Total Outlay (Rs.)

6 25 150
3 40 120
This method considers inverse relationship between price and demand, but the variation in
total outlay due to change in demand and supply, is based to represent the different kinds of
elasticity of demand.

iii) Geometric Method: Elasticity at a point on the demand curve is determined by this method.
The ratio of the lower segment of the curve below the given point to the upper segment of the
curve above the point is taken for this. It is called point elasticity.

Lower segment of demand curve below the given point

Point elasticity = -------------------------------------------------------------------
Upper segment of the demand curve above the point.

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GSEB Std 11 Economics Chapter 3 Demand and Elasticity of Demand

Following diagram shows all the elasticity of demand on a linear demand curve.

If the demand curve is non-linear, a tangent, from the point at which elasticity is to be measured, is
drawn to know the elasticity of demand.

In the adjoining diagram TT’ is the tangent drawn at

point A on the non-linear demand curve DD meeting X
axis at T and Y axis at T’. elasticity of demand at point
A = AT / AT’

Income elasticity of demand:

The income elasticity is a ratio of percentage or proportionate change in demand to the percentage
change in income.
Percentage (%) change in quantity demanded
Income elasticity of demand = -------------------------------------------------------
Percentage (%) change in income
Quantity demanded of a particular goods increases with an increase in income. In case of Giffen
goods people demand less with increasing income and increase the demand for other goods. If
price remains constant, the effect of percentage change in quantity demanded through percentage
change in income. There are three kinds of income elasticity.

1) Unitary income elasticity: When the percentage change in demand is equal to the
percentage change in income, the demand is unitary.
2) Income elasticity greater than unity: If the percentage change in quantity demanded is
greater than the percentage change in income, the income elasticity is greater than unity. It
is seen in case of luxurious goods.
3) Income elasticity less than unity: When the percentage change in demand is less than the
percentage change in income the income elasticity of demand is less than unity. It is seen in
primary goods.

Cross elasticity of demand:

When two goods are substitutes or complementary, a change in the price of one leads to a change
in the quantity of the other goods purchased. The ratio of the change is called cross elasticity of
demand.

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GSEB Std 11 Economics Chapter 3 Demand and Elasticity of Demand

Percentage change in demand for A

Cross elasticity of demand = ----------------------------------------------
Percentage change in price of B

If A and B are substitutes, the cross elasticity will be positive.

Percentage decrease in demand of Tea -3
e.g. ------------------------------------------------ = ----- = 1.5
Percentage decrease in price of Coffee -2

If A and B are complementary, the cross elasticity will be negative.

Percentage decrease in demand for petrol +3
e.g. --------------------------------------------------- = ----- = -1.5
Percentage decrease in price of Scooters -2

If A and B are neutral, the cross elasticity will be 0, because, change in price of one commodity
does not affect the demand for other.

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