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CAUSES AND EXCEPTIONS OF LAW OF DEMAND Presented by: SHIPRA GOSAIN NIDHI

LAW OF DEMAND

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Law of demand states that the amount demanded of a commodity and its price are inversely related, other things remaining constant. That is, if the income of the consumer, prices of the related goods, and tastes and preferences of the consumer remain unchanged, the consumers demand for the good will move opposite to the movement in the price of the good.

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Law of diminishing marginal utility: The law of diminishing marginal utility states that for every additional unit of a commodity consumed, the marginal utility derived from the consumption of that unit is falling. This is because the earlier unit has partly satisfied our want. For example, if you get the utility of 10 utils by consuming one bread and 4 utils by consuming 2 breads and 1 util by consuming three breads, then the marginal utility has fallen from 10, then 6 to 3. A rational consumer will definitely like to pay less for falling marginal utility as he consumes more and more. Income effect: Real income of a consumer is obtained by dividing his money income with the price of the commodity. If his money income remains constant, then the increase in the price of the goods will result in the fall in the purchasing power of the consumer which means that he will now be able to buy lesser quantity of the commodity. For example, if the income was Rs.100 and the price of a good was Rs.10, then he is able to buy 10 units of that good. But if the price increases to Rs.20, he is able to buy only 5 units of that good. Thus, there is an inverse relationship between price and demand.
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Substitution effect:The substitution effect is the effect that a change in the relative price of the substitute goods has on the demand for the commodity. When the price of a good falls, prices of its substitutes remain the same, it is obvious that the consumers shall now move from the consumption of that substitute to the original commodity. For example, if the prices of tea coffee remains constant and the prices of tea rises, the consumers will shift their consumption form tea to coffee. The sum total of the income effect and the substitution effect is together called the price effect. Increase in the number of the consumers: A fall in the price of the commodity leads to an increase in the demand for that commodity. At the same time, when the prices of the goods are high, only a few rich people can buy them. But when the prices fall, more consumers enter the market and increase the demand for the product as purchasing the product fall within their reach. Reverse happens in case of price rise. When the prices rise, some consumers are not able to buy the product and they leave the market. Ads a result, the demand for that commodity falls.
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Several uses of a commodity: There are some goods that can be put to a number of uses. Examples of such goods are electricity, milk etc. When the prices of such goods fall, the consumers start using them for less important purposes and hence, their demand increases. But when the prices of such goods rises, they are put to very important uses only and hence their demand falls.

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The law of demand does not apply in every case and situation. The circumstances when the law of demand becomes ineffective are known as exceptions of the law. Some of these important exceptions are as under. 1. Giffen goods: Some special varieties of inferior goods are termed as Giffen goods. Cheaper varieties of this category like bajra, cheaper vegetable like potato come under this category. Sir Robert Giffen or Ireland first observed that people used to spend more their income on inferior goods like potato and less of their income on meat. But potatoes constitute their staple food. When the price of potato increased, after purchasing potato they did not have so many surpluses to buy meat. So the rise in price of potato compelled people to buy more potato and thus raised the demand for potato. This is against the law of demand. This is also known as Giffen paradox. 2. Conspicuous Consumption: This exception to the law of demand is associated with the doctrine propounded by Thorsten Veblen. A few goods like diamonds etc are purchased by the rich and wealthy sections of the society. The prices of these goods are so high that they are beyond the reach of the common man. The higher the price of the diamond the higher the prestige value of it. So when price of these goods falls, the consumers think that the prestige value of these goods comes down. So quantity demanded of these goods falls with fall in their price. So the law of demand does not hold good here.

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3. Conspicuous necessities: Certain things become the necessities of modern life. So we have to purchase them despite their high price. The demand for T.V. sets, automobiles and refrigerators etc. has not gone down in spite of the increase in their price. These things have become the symbol of status. So they are purchased despite their rising price. These can be termed as U sector goods. 4. Ignorance: A consumers ignorance is another factor that at times induces him to purchase more of the commodity at a higher price. This is especially so when the consumer is haunted by the phobia that a high-priced commodity is better in quality than a lowpriced one. 5. Emergencies: Emergencies like war, famine etc. negate the operation of the law of demand. At such times, households behave in an abnormal way. Households accentuate scarcities and induce further price rises by making increased purchases even at higher prices during such periods. During depression, on the other hand, no fall in price is a sufficient inducement for consumers to demand more.
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6. Future changes in prices: Households also act speculators. When the prices are rising households tend to purchase large quantities of the commodity out of the apprehension that prices may still go up. When prices are expected to fall further, they wait to buy goods in future at still lower prices. So quantity demanded falls when prices are falling. 7. Change in fashion: A change in fashion and tastes affects the market for a commodity. When a broad toe shoe replaces a narrow toe, no amount of reduction in the price of the latter is sufficient to clear the stocks. Broad toe on the other hand, will have more customers even though its price may be going up. The law of demand becomes ineffective.