Theory of Demand: the law of demand, different types of

demand, determinants of demand, demand function, price

elasticity of demand.
The theory of demand is a fundamental concept in economics that explains how
consumers behave in the marketplace. It is based on the idea that consumers make
purchasing decisions based on their preferences and budget constraints.

The Law of Demand: The law of demand states that, all other things being equal, as
the price of a good or service increases, the quantity demanded of that good or
service will decrease, and vice versa. This means that there is an inverse relationship
between the price of a good and the quantity of that good that consumers are
willing and able to buy.

Sure, let's consider a hypothetical market for coffee where the demand for coffee is
given by:

Qd = 500 - 10P

Where Qd is the quantity demanded and P is the price of coffee.

To illustrate the law of demand, let's consider two different price levels: $5 and $7. At
a price of $5, the quantity demanded is:

Qd = 500 - 10(5) = 450

Now, let's assume that the price of coffee increases to $7. Using the same demand
function, the new quantity demanded would be:

Qd = 500 - 10(7) = 430

This means that the quantity demanded has decreased from 450 to 430 as the price
has increased from $5 to $7. This example illustrates the inverse relationship between
price and quantity demanded, which is the fundamental principle behind the law of
demand.

As the price of coffee increases, the quantity demanded decreases, (all else being
equal). Conversely, as the price of coffee decreases, the quantity demanded
increases.

Different Types of Demand:

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1. Individual demand - refers to the quantity of a good or service that an individual
consumer is willing and able to buy at different prices over a given period of time.
2. Market demand - refers to the total quantity of a good or service that all consumers
in a market are willing and able to buy at different prices over a given period of time.

Different types of demand include:

1. Normal demand: This is the typical relationship between price and quantity
demanded, where an increase in price leads to a decrease in quantity demanded.
2. Inferior demand: This occurs when a lower-quality product becomes more in demand
as its price decreases.
3. Giffen demand: This is a rare situation where an increase in price leads to an increase
in quantity demanded due to an inferior good being necessary for survival and
having no substitutes.

Determinants of Demand: The determinants of demand are the factors that influence
the quantity of a good or service that consumers are willing and able to buy at
different prices. The major determinants of demand include:

1. Consumer income
2. Prices of related goods (substitutes and complements)
3. Consumer tastes and preferences
4. Consumer expectations about future prices and income
5. Population size and demographics
6. Government policies and regulations

The determinants of demand include:

1. Consumer income: An increase in income leads to an increase in demand for normal

goods, while a decrease in income leads to an increase in demand for inferior goods.
2. Prices of related goods: The price of substitute goods, which can be used in place of
the good, and the price of complementary goods, which are used together with the
good, affect demand.
3. Consumer tastes and preferences: Changes in consumer preferences for a good can
lead to changes in demand.
4. Advertising and promotion: The level of advertising and promotion for a good can
influence consumer demand.
5. Population: The size and demographics of the population can affect demand for
certain goods and services.

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 Demand Function: A demand function is an equation that shows the relationship
between the quantity of a good or service demanded and the factors that affect
demand, such as price, income, and other determinants. It is usually written as Qd =
f(P, Y, Pr, T, A, G), where Qd is the quantity demanded, P is the price of the good, Y is
consumer income, Pr is the price of related goods, T is consumer tastes and
preferences, A is consumer expectations about future prices and income, and G is
government policies and regulations.

Price Elasticity of Demand: Price elasticity of demand is a measure of the

responsiveness of the quantity demanded of a good or service to a change in its
price. It is calculated as the percentage change in quantity demanded divided by the
percentage change in price. The price elasticity of demand can be classified into
three categories:

1. Elastic demand: When the percentage change in quantity demanded is greater than
the percentage change in price, elasticity is greater than 1.
2. Inelastic demand: When the percentage change in quantity demanded is less than
the percentage change in price, elasticity is less than 1.
3. Unitary elastic demand: When the percentage change in quantity demanded is equal
to the percentage change in price, elasticity is equal to 1.

The price elasticity of demand measures the responsiveness of the quantity

demanded to changes in the price of the good. It is calculated as:

Price elasticity of demand = percentage change in quantity demanded / percentage

change in price

Let's say that the initial price of smartphones is $100, and the quantity demanded is
300 units. If the price increases to $120, the quantity demanded falls to 260 units.
The percentage change in quantity demanded is:

(260 - 300) / 300 x 100% = -13.33%

The percentage change in price is:

(120 - 100) / 100 x 100% = 20%

So, the price elasticity of demand is:

-13.33% / 20% = -0.67

This means that the demand for smartphones is inelastic, which means that a change
in price leads to a relatively smaller change in quantity demanded.

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 In conclusion, the theory of demand explains the law of demand and the different
types of demand, and the determinants of demand include consumer income, prices
of related goods, consumer tastes and preferences, advertising and promotion, and
population. The demand function is an equation that shows the relationship between
the quantity demanded and the factors that affect demand. The price elasticity of
demand measures the responsiveness of the quantity demanded to changes in the
price of the good.

Theory of Supply: determinants of supply, supply function .

The theory of supply is a fundamental concept in economics that explains how
producers behave in the marketplace. It is based on the idea that producers make
production decisions based on their costs and revenue expectations.

Determinants of Supply: The determinants of supply are the factors that influence the
quantity of a good or service that producers are willing and able to sell at different
prices. The major determinants of supply include:

1. Production costs: The cost of producing a good or service, including the cost of
inputs such as labor, capital, and raw materials.
2. Technology: The level of technology used in production, which can affect the
efficiency of production and reduce costs.
3. Resource availability: The availability of natural resources, such as land, minerals, and
water, which are necessary for production.
4. Prices of related goods: The prices of goods that are substitutes or complements in
production, which can affect the costs of production.
5. Producer expectations: The expectations of producers regarding future prices and
demand for their products, which can influence their willingness to invest in
production.
6. Taxes and subsidies: Taxes imposed on production or subsidies provided to
producers can affect their costs of production.

Supply Function: A supply function is an equation that shows the relationship

between the quantity of a good or service supplied and the factors that affect supply,
such as price, production costs, and other determinants. It is usually written as Qs =
f(P, Pc, Ps, Pr, T, E), where Qs is the quantity supplied, P is the price of the good, Pc is
the price of inputs used in production, Ps is the price of related goods, Pr is producer
expectations, T is taxes and subsidies, and E is the level of technology used in
production.

In summary, the theory of supply explains how producers make production decisions
based on their costs and revenue expectations, and the determinants of supply are
the factors that influence the quantity of a good or service that producers are willing

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 and able to sell at different prices. A supply function is an equation that shows the
relationship between the quantity of a good or service supplied and the factors that
affect supply.

Market mechanism: Equilibrium, basic comparative static

analysis
The market mechanism is the process by which the forces of supply and demand
determine prices and quantities in a market. In a competitive market, prices and
quantities are determined by the interaction of buyers and sellers, with no individual
or group having the power to set prices.

Equilibrium: Equilibrium in a market occurs when the quantity demanded of a good

or service equals the quantity supplied at a particular price. At the equilibrium price,
buyers are willing and able to buy the same amount of the good that sellers are
willing and able to sell. The equilibrium price and quantity can be graphically
represented on a supply and demand curve, where the point of intersection
represents the equilibrium.

Basic Comparative Static Analysis: Comparative static analysis is a method of

analyzing how changes in one or more variables affect the equilibrium price and
quantity of a good or service. We can use the following steps for basic comparative
static analysis:

1. Identify the initial equilibrium price and quantity.

2. Determine the direction of the change in the variable(s) that affect the market.
3. Determine the direction of the change in either the demand or supply curve.
4. Shift the curve(s) accordingly and find the new equilibrium point.
5. Compare the new equilibrium price and quantity with the initial equilibrium.

Numerical Example: Let's consider a hypothetical market for coffee, where the
demand and supply curves are given by:

Demand: Qd = 150 - 3P Supply: Qs = 2P - 20

The initial equilibrium price and quantity can be found by setting Qd = Qs:

150 - 3P = 2P - 20 5P = 170 P = 34

Qd = 150 - 3(34) = 48 Qs = 2(34) - 20 = 48

So, the initial equilibrium price is $34, and the equilibrium quantity is 48 units.

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Now, suppose there is an increase in consumer income, which leads to an increase in
demand by 10 units. The new demand curve is given by:

New demand: Qd = 160 - 3P

The new equilibrium price and quantity can be found by setting the new Qd equal to
Qs:

160 - 3P = 2P - 20 5P = 180 P = 36

Qd = 160 - 3(36) = 52 Qs = 2(36) - 20 = 52

So, the new equilibrium price is $36, and the equilibrium quantity is 52 units. This
shows that an increase in consumer income leads to an increase in both the
equilibrium price and quantity.

In conclusion, the market mechanism determines the equilibrium price and quantity
of a good or service, and comparative static analysis is a method of analyzing how
changes in variables affect the equilibrium. By using numerical examples, we can see
how changes in variables such as income affect the equilibrium price and quantity.

EXAMPLE OF OPPORTUNITY COST

Sure, let's consider a hypothetical scenario where you have a part-time job that pays
you $15 per hour. You have been offered an opportunity to attend a three-hour
seminar on a topic that interests you, but the seminar will take place during the same
time that you are scheduled to work at your part-time job.

To calculate the opportunity cost of attending the seminar, you need to consider the
value of the next best alternative that you are giving up, which in this case is the
income that you would have earned if you had worked at your part-time job.

Assuming you were scheduled to work for three hours during the time of the
seminar, your earnings would have been:

$15/hour x 3 hours = $45

This means that the opportunity cost of attending the seminar is $45, which is the
income that you are giving up in order to attend the seminar.

If the seminar is free, then the opportunity cost of attending the seminar would still
be $45, since you would be giving up the opportunity to earn $45 by working at your

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part-time job during the same time period. However, if there is a cost associated with
attending the seminar, such as a registration fee or travel expenses, then you would
need to include these costs in your calculation of the opportunity cost.

In general, the opportunity cost of a decision is the value of the next best alternative
that is forgone as a result of that decision. By considering the opportunity cost of
different choices, you can make more informed decisions that take into account the
trade-offs involved.

EXAMPLE OF RATIONALITY COST

Rational choice theory is a framework for understanding human decision-making
based on the assumption that individuals make choices that maximize their expected
utility, given the available information and resources.

Let's consider a hypothetical example of rational choice in action. Suppose that you
are trying to decide whether to buy a new laptop or repair your old laptop. The cost
of a new laptop is $1,000, while the cost of repairing your old laptop is $300.

To make a rational choice, you would need to consider the benefits and costs of each
option. Suppose that you expect the new laptop to last for three years, while the
repaired laptop is expected to last for one year. You also expect to use the laptop for
an average of two hours per day.

The benefits of buying a new laptop would include having a more powerful and
reliable device that is likely to require less maintenance over the next three years. The
benefits of repairing your old laptop would include saving $700 and being able to
use the device for another year.

To estimate the expected benefits of each option, you would need to assign a value
to each potential outcome. For example, you might estimate that the value of using a
new laptop for two hours per day for three years is $5,000, while the value of using a
repaired laptop for two hours per day for one year is $1,000.

Similarly, you would need to estimate the expected costs of each option, including
the initial cost of buying a new laptop or repairing your old laptop, as well as any
ongoing maintenance or repair costs that you expect to incur.

Once you have estimated the expected benefits and costs of each option, you can
compare them to determine which option is likely to maximize your expected utility.
In this case, if the expected benefits of buying a new laptop outweigh the expected
costs, then it would be a rational choice to buy the new laptop. If the expected

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benefits of repairing your old laptop outweigh the expected costs, then it would be a
rational choice to repair your old laptop.

In general, the concept of rational choice involves making decisions based on a

systematic evaluation of the expected benefits and costs of different options, taking
into account individual preferences and constraints.