DEMAND ANALYSIS

Definitions
“Demand for a commodity refers to the quantity of the commodity which an
individual household is willing to purchase per unit of time at a particular
price.”

Demand is backed by the desire to pay and willingness to pay.

“ At a particular time demand is the amount purchased at a particular price”

Shearman
“The demand for anything at anything at a given price is the amount of it
which will be bought per unit of time at that price.”
Benham

Demand may arise from an individual, a household or a market

 DEMAND ANALYSIS
• Demand Analysis involves analysing and determining the
relationship between demand and price under the various
constraints of variables, specially economic and socio-economic
variables.

• Price and demand are inversely proportional.

• Factors creating Demand

• Desire foe a commodity
• Desire should be meaningful
• Desire should be backed by the need to possess that commodity
• Willingness to pay.
• Enough purchasing power.
LAW OF DEMAND

• The amount demanded of a commodity and its price are

inversely related, other things remaining constant ( i.e. if
the income of the consumer prices of the related goods
and tastes & preferences of the consumer remains
unchanged ), the demand will move opposite to the
movement of the price.

Price

(Rs.)

0
Quantity
 EXCEPTIONS OF LAW OF DEMAND

• Giffen’s Goods
• Change in Tastes and preferences
• Trade Cycles
• Change in Expectations
• Conspicuous consumption
 TYPES OF DEMAND
CONSUMER / INDIVIDUAL DEMAND

Affected by following factors:

• Income Of The Individual
• Price Level Of The Commodity
• Price Of Substitutes And Complimentary Goods
• Tastes & Preferences
• Social Conventions

INDUSTRY / MARKET DEMAND

Is the quantity demanded by aggregate of consumers at different prices.
It is the sum of all individual demands.
 Figures For Consumer And Industry/Market
Demand

• Price
• D1
• 15

10 Price
DM

• D1
• 0 10 14

• Quantity 15
• CONSUMER 1
10
P DM

D2
15 0
20 32 Quantity

10
D2
FACTORS AFFECTING DEMAND

• CHANGE IN INCOME
• CHANGE IN PRICE
• CHANGE IN POPULATION
• CHANGE IN SEASON’CHANGE IN FASHION
• DIFFERENT TASTES AND PREFERENCES
• DISCOVERY OF CHEAP SUBSTITUTES
• CHANGE IN WEALTH DISTRIBUTION
• TECHNOLOGICAL ADVANCES
• ADVERTISEMENT
• INFLATION

DURABLE GOODS & NON-DURABLE GOODS

 ELASTICITY OF DEMAND
• It is a measure of responsiveness in the quantity demanded for given change in price.

• ELASTIC DEMAND
Demand is said to be elastic when there is a larger change in the quantity demanded in comparison to an assigned proportionate change in Price.

OR

Elasticity is the ratio of the % change in the quantity demanded to the % change in Price \determinant under consideration.

% change in quantity demanded of good X

ELASTICITY OF DEMAND = ---------------------------------------------------------------------
% change in determinant Z

Z may be
i) Current price of the commodity ( Px)
ii) Current Price of related good ( Pr)
iii) Current Income
iv) The expected price of the commodity (Epx)

• INELASTIC DEMAND
– Demand is said to be inelastic when there is a lesser proportionate change in the quantity demanded in comparison to an assigned proportionate
change in Price.
 PRICE ELASTICITY OF DEMAND
• Price Elasticity of demand is equal to proportionate change in demand
divided by proportionate change in price.

• When, % change in price exceeds the % decrease in quantity demanded

( QD ) total revenue will increase and vice versa.

• % increase in price is less than the % decrease in quantity demanded, total

revenue will fall.
Similarily, if % increase in Price is greater than decrease in quantity
demanded : total revenue increases.

• If % increase in price is less than the % decrease in QD- total revenue falls.
• QD = F(P) Quantity demanded is a function of price.

Proportionate change in Demand

• PRICE ELASTICITY Of DEMAND = ------------------------------------------------
(ep) Proportionate Change in Price

• dQ / OQ1 dQ OP1
eP = ------------------------------- = ----- x --------
dP/OP1 dP OQ1

Where,
dP = change in price

dQ = change in quantity

OQ1 = Original Demand

OP1 = Original Price

( P1Q
P1
1)
dP
P2

O
Q1 Q2

dQ
METHODS OF CALCULATION OF ELESTICITY
OF DEMAND
• POINT ELASTICITY OF DEMAND
• ARC ELASTICITY IF DEMAND
 TYPES OF ELASTICITY OF DEMAND
1. PERFECTLY INELASTIC DEMAND ( ZERO ELASTICITY )
Ep = 0
There is no effect of price on QD for
Essential Commodities
Products that enjoy monopoly

O QD Q
2. PERFECTLY ELASTIC DEMAND
Ep = Infinity( ∞ )

A smaller or no fall in price leads to an unlimited expansion in demand. Eg. Substitutes

O QD
3. HIGHLY ELASTIC DEMAND

A little change in price brings more than proportionate change in demand.

Eg. Luxury goods

ep > 1 ( more than 1 )

P
P2

P1

O
QD
4. HIGHLY INELASTIC DEMAND

ep < 1

A change in price leads to less than proportionate change in the quantity demanded for a product.
For eg. Salt, petrol etc.

ep < 1 ( less than 1 )

P
P2

P1

O
QD
5. UNIT ELASTICITY OF DEMAND

ep = 1

Proportionate change in price and demand.

Eg. Comforts / cellphones

ep = 1 ( equal to 1 )

P
P2

P1

O
QD
 FACTORS AFFECTING PRICE ELASTICITY OF DEMAND

• Nature Of Commodities
• Availability Of Substitutes
• Variety Of Uses Of Commodity
• Habit Forming Characteristics
• Income
• Share Of The Commodity In The Buyer’s Budget
• TIME PERIOD: Short Run/Long Run
• What May Not Affect In The Short Run May Have An
Impact In The Long Run.
 CROSS ELASTICITY OF DEMAND
• Cross elasticity of demand is defined as the ratio of the % change in demand or one good to the %
change in the price of some other good.
• Substitutes and complementary goods.

proportionate change in the demand of original product

• ecross = --------------------------------------
proportionate change in the price of substitute

proportionate change in the quantity demanded of product A

• ecross = --------------------------------------------
proportionate change in the price of the product B

• ∆ QA / QA ∆ QA PB
eCROSS = ------------------------------- = ----- x --------
∆PB / PB ∆PB QA
• ecross is Zero for products enjoying monopoly.
• Demand has positive elasticity for substitutes,
increase in price of one product will lead to
demand for another. Greater the value of
positive elasticity, closer is the substitute.

• For complementary products the value of cross

elasticity is negative. Increase in the price of a
product reduces the demand for the other
product. Higher the value of negative elasticity,
higher is the degree of complementary effect.
 INCOME ELASTICITY OF DEMAND
It is the relationship between change in income and change in demand. It is the proportionate
change in QD vs. proportionate change in income.
Thus,
%change in QD
EI = -----------------------------------
% change in income of consumer

Δ xa / xa Δ xa y

Q = --------------------- = ---------- x -----------

Δy/y Δy xa

Where, y = income level

xa = QD of a

Δ y = change in income

Δ xa = change in quantity demanded of a

TYPES
• Positive Income Elasticity Of Demand
• Negative Income Elasticity Of Demand
• Zero Income Elasticity Of Demand
1. UNITARY INCOME ELASTICITY OF DEMAND

• Ey = 1
• Change in quantity demanded is proportionate to
the change in income.
• Income demand curve is a 45° angle with the X
axis
D

Y
D

o y = income
Q
LOW INCOME ELASTICITY OF DEMAND

• Ey< 1
• Angle is less than 45°
• Common for Essential goods.

D
Y

D
o Q
y = income
3. HIGH INCOME ELASTICITY OF DEMAND

• Ey > 1
• Angle is more than 45°
• Common for luxury goods.

Y
D

D
o Q
y = income
4. ZERO INCOME ELASTICITY OF DEMAND
• The change in income will have no effect on
the quantity demanded.
• Ey = 0
• Demand curve is a straight vertical line.
• Common for essential commodities.

Y D

D y = income
o
 5. NEGATIVE INCOME ELASTICITY OF
DEMAND
• Inferior goods have negative income elasticity
of demand. It shows, less is bought at higher
incomes more is bought at lower incomes.
• Ey< 0

Y D

D y = income
o Q