POOJA JAIN’S

Theory of
Demand

SHORT NOTES
C HAPTER 1

Introduction

People demand goods and services in an economy to satisfy

their wants. All goods and services have wants satisfying
capacity which is known as “UTILITY”. Demand is one of the
most important decision making variables in present
economy. Under a liberalised and globalised economy
consumers and producers both have full freedom and varied
options. Every firm wants to devote their resources to fulfil
consumer demand. Therefore Demand reflects the size and
pattern of the market.
The survival and the growth of any business enterprise
depends upon the proper analysis of demand for its product in
the market.
S ECTION 1
Generally we say demand is the desire for a commodity. But in
Meaning of Demand the economics sense demand for goods and services means
willingness as well as ability of the consumer in procuring and
consuming the goods and service.

By definition, demand is the quantity of a commodity that is

consumer is ready to buy at a certain price and certain time.

So, demand includes following 5 factors:

YOU WILL LEARN :
1. Desire for a commodity.
1. Meaning of demand
2. Sufficient resources to fulfil that desire (ability to
2. Factors affecting demand pay).

3. Demand function 3. Willingness to spend those resources.

4. Demand schedule and Demand curve 4. Certain price.

5. Law of demand 5. Certain time.

If a consumer has desire for a commodity with his ability and

willingness to pay for it we will say that he is ready to buy.

Note: Demand is measured in terms of quantity. so its a

quantitative statement.

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S ECTION 2
Factors affecting
demand
Following are the factors that affect the demand for a
particular commodity also known as determinants of demand.
1. Price of the commodity: With increase in price demand
decreases. And when price decreases demand increases. So
there is an inverse relation between price and demand.
P↑→ D↓
P↓→D↑
2. Income of the consumer: Generally there is positive
relation between income and demand. When income
increases demand increases and vice versa. But this relation
depends upon the nature of the goods also.
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When income of the consumer increases he will buy more of
superior and less of inferior goods. So in case of superior
goods we will see a positive relation between income and
demand.
Superior goods: So in case of superior goods we will see a
positive relation between income and demand.
Y↑→ D↑
Y↓→D↓
Inferior goods: In case of inferior goods there is negative
relation between income and demand.
Y↑→ D↓
Y↓→D↑
3. Price of related goods: Related goods are of two types
i.e. Substitute goods and Complimentary goods.
Substitute goods: These are the goods which can be used in
place of each other. For example Tea and coffee, CocaCola and
pepsi, Shirt and T-shirt etc. The change in price of one
commodity affects the demand of its substitute commodity.
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 Px ↑ → Dy ↑ This is represented by-

Px ↓ → Dy ↓ Dx = f(Px, Y, Pr, t,w, Pop........n)

Complimentary goods: these are the goods which are jointly Here,
demanded. For example Car and petrol, Pen and Paper etc.
Dx = Demand of x good
Px ↑ → Dy ↓
f = function
Px ↓ → Dy ↑
Px = Price of x good
4. Expectations regarding change in price in near Y = Income of the consumer
future: If gold prices are expected to rise in future people
will demand more gold today. If price of gold is expected to Pr = Price of related goods
decline in future people will postpone their spending on
t = Taste and preference
gold at present.
w = Weather and season
5. Other factors:
Pop= Population
1. Taste and preference of consumer

2. Weather and season

3. Size of population
Demand Schedule and demand curve

Demand Schedule; The demand schedule illustrates the

relationship between price and quantity demanded by using a
Demand Function
table of figures. The demand schedule generally consists of
Demand function is the mathematical representation which
two columns: one for the price of a product and one for the
shows the relationship between demand and factors affecting
quantity demanded at that price.
demand.
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 Demand Curve:

Individual Demand Schedule:

Refers to a tabular representation of quantity of products

demanded by an individual at different prices and time.

QUANTITY
PRICE
DEMANDED
Market Demand Schedule:
1 1
Market demand schedule refers to a tabular statement showing various
2 2 quantities of a commodity that all the consumers are willing to buy at
various levels of price, during a given period of time. It is the sum of all
3 3 individual demand schedules at each and every price

et us take the case of two individuals in the market. The analysis can be
4 4
extended to any number of buyers. The individual demand schedules
of both the individual buyers, ‘A’ and ‘B’ and the market demand
schedule is shown in the Table 1.2. Market demand has been found out
by adding the individual demands of ‘A’ and ‘B’ at corresponding
prices.
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Market demand curve:

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S ECTION 3 if other things remain the same Law of demand states that
there is always a negative relation between price and demand.
Law of demand If price increases demand decreases and if price decreases
demand increases. This law talks about how consumer
behaves in response to change in price.

P↑→ D↓

YOU WILL LEARN :
1. Law of demand
2. Assumptions of law of demand
3. Why law of demand operates?
4. Exceptions of law of demand
P↓→D↑
Assumptions of law of demand
This law is applicable in all situations only if other things i.e.
factors affecting demand (other then price) are constant.
Following are the assumptions of law of demand.
1. price of related good should remain constant.
2. Income of the consumer is constant.

3. No change in taste and preference

4. No change in weather and season

5. No change in size of population

6. no change in future expectation of change price.

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 Why law of demand operates?
2. Applicability of law of diminishing marginal utility:

1. Income effect:
MORE LESS LESS

HIGH LESS LESS GOODS UTILITY PRICE

REAL
PRICE INCOME DEMAND

LAW OF DEMAND
LAW OF DEMAND

LESS MORE HIGH

LESS HIGH LESS GOODS UTILITY PRICE
REAL
PRICE DEMAND
INCOME

3. Substitution effect: when price of a commodity increases

people start finding out its cheaper substitutes. So the
demand of its substitute increases and falls whose price has
been increased.

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4. entry of new consumers in the market: when price of a
commodity falls people who were not buying that good
because of its high price start entering into the market. so
demand of such goods rises after fall in their price.
Exceptions of law of demand
Giffen goods
Some special varieties of inferior goods are termed as giffen
goods. Cheaper varieties of goods like low priced rice, low
priced bread, etc. are some examples of Giffen goods.
This exception was pointed out by Robert Giffen who
observed that when the price of bread increased, the low paid
British workers purchased lesser quantity of bread, which is
against the law of demand. Thus, in case of Giffen goods,
there is indirect relationship between price and quantity
demanded.
Goods having prestige value
This exception is associated with the name of the economist,
T.Velben and his doctrine of conspicuous conception. Few
goods like diamond can be purchased only by rich people. The
prices of these goods are so high that they are beyond the
capacity of common people. The higher the price of the
diamond the higher the prestige value of it.
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In this case, a consumer will buy less of the diamonds at a low
price because with the fall in price, its prestige value goes
down.
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,
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 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. Similarly, people buy fashionable goods in
spite of price rise.

Basic necessities 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.

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