Demand AnalysisDemand Analysis

What is Demand?What is Demand?““Demand means effective desire or want for a commodity Demand means effective desire or want for a commodity

which is backed up by the ability (purchasing power) and which is backed up by the ability (purchasing power) and willingness to pay for it”. willingness to pay for it”.

Demand = Desire + Ability to pay + Willingness to Demand = Desire + Ability to pay + Willingness to spendspend

Demand is a relative concept – not absoluteDemand is a relative concept – not absolute

It is related to price , time and place.It is related to price , time and place.

““The demand for a commodity refers to the amount of it The demand for a commodity refers to the amount of it which will be bought per unit of time at a particular pricewhich will be bought per unit of time at a particular price

( in a particular market)”.( in a particular market)”.

Individual and Market demandIndividual and Market demand

Individual Demand Individual Demand : Individual demand for a product is : Individual demand for a product is the quantity of it a consumer would buy at a given price, the quantity of it a consumer would buy at a given price, during a given period of time.during a given period of time.

Market demandMarket demand : Market demand for a product is the : Market demand for a product is the total demand of all the buyers in the market taken total demand of all the buyers in the market taken together at a given price during a given period of time.together at a given price during a given period of time.

Demand Schedule: Demand Schedule: ‘ A tabular statement of price – ‘ A tabular statement of price – quantity (demanded) relationship at a given period of quantity (demanded) relationship at a given period of time’time’

Individual demand schedule Individual demand schedule

Market demand schedule. Market demand schedule.

Types of demandTypes of demand

Individual demand & Market demandIndividual demand & Market demand Demand for capital goods and demand for Demand for capital goods and demand for

consumer goodsconsumer goods Autonomous demand & Derived demandAutonomous demand & Derived demand

- Direct & indirect demand- Direct & indirect demand Demand for durable & non-durable goodsDemand for durable & non-durable goods

- Replacement demand in case of durable goods- Replacement demand in case of durable goods Short term demand & Long term demandShort term demand & Long term demand

Determinants of DemandDeterminants of Demand Price of the productPrice of the product Price of the related goodsPrice of the related goods Consumer’s income levelConsumer’s income level Distribution pattern of national incomeDistribution pattern of national income Consumer’s taste and preferencesConsumer’s taste and preferences Advertisement of the productAdvertisement of the product Consumer’s expectation about future price and supply positionConsumer’s expectation about future price and supply position Demonstration effect and Band-Wagon effectDemonstration effect and Band-Wagon effect Consumer credit facilityConsumer credit facility Demography and growth rate of populationDemography and growth rate of population General std. of living and spending habitsGeneral std. of living and spending habits Climatic and weather conditionsClimatic and weather conditions Customs Customs

Demand Function:Demand Function: It states the (functional/mathematical) It states the (functional/mathematical) relationship between the demand for the product ( dependent relationship between the demand for the product ( dependent variable) and its determinants ( independent variables). variable) and its determinants ( independent variables).

Law of demandLaw of demand

Statement of LawStatement of Law : “ Other things being equal, the higher the price of a : “ Other things being equal, the higher the price of a commodity, the smaller is the quantity demanded and lower the commodity, the smaller is the quantity demanded and lower the price, larger the quantity demanded”.price, larger the quantity demanded”.

Factors behind Law of demandFactors behind Law of demand Substitution effectSubstitution effect Income effectIncome effect Utility Maximising behaviourUtility Maximising behaviour

Exceptions to Law of demandExceptions to Law of demand Expectation regarding future pricesExpectation regarding future prices Giffen goodsGiffen goods Articles of snob appeal / Veblen effect Articles of snob appeal / Veblen effect Consumer’s psychological bias ( about quality and price Consumer’s psychological bias ( about quality and price

relationship)relationship)

Changes in quantity demanded & Changes Changes in quantity demanded & Changes in demandin demand

Changes in quantity demanded is related Changes in quantity demanded is related to law of demand i.e. due to changes in to law of demand i.e. due to changes in priceprice..

When with a fall in price more of a commodity is When with a fall in price more of a commodity is demanded, there is EXTENSION of demand & demanded, there is EXTENSION of demand & when with a rise in price less of a commodity is when with a rise in price less of a commodity is purchased, there is CONTRACTION of demand.purchased, there is CONTRACTION of demand.

Changes in demand is caused by changes Changes in demand is caused by changes in various other determinants of demand, in various other determinants of demand, the price remaining unchanged.the price remaining unchanged.

When more of a commodity is bought than before When more of a commodity is bought than before at any given price there is INCREASE in demand & at any given price there is INCREASE in demand & when less of a commodity is bought than before when less of a commodity is bought than before at any given price there is DECREASE in demand.at any given price there is DECREASE in demand.

Elasticity of demandElasticity of demand Elasticity of demand is the degree of Elasticity of demand is the degree of

responsiveness of demand to the changes in its responsiveness of demand to the changes in its determinants.determinants.

(A) (A) PRICE ELASTICITY O DEMANDPRICE ELASTICITY O DEMAND The extent of response of demand for a extent of response of demand for a

commodity to the changes in its price, other commodity to the changes in its price, other determinants of demand remaining constant determinants of demand remaining constant is called price elasticity of demand. is called price elasticity of demand.

eep = p = Proportional changes in quantity demandedProportional changes in quantity demanded

Proportional changes in priceProportional changes in price

eep = Q /Q P /Pp = Q /Q P /P

eep = Q / Q p = Q / Q XX P / P / PP

eep = Q / P p = Q / P X X P / QP / Q

Types of price elasticity of demandTypes of price elasticity of demand1.1. Perfectly elastic demandPerfectly elastic demand2.2. Perfectly inelastic demandPerfectly inelastic demand3.3. Relatively elastic demandRelatively elastic demand4.4. Relatively inelastic demandRelatively inelastic demand5.5. Unitary elastic demandUnitary elastic demand

Determinants of price elasticity of demandDeterminants of price elasticity of demand - Nature of commodity - Uses of commodity - Nature of commodity - Uses of commodity - Availability of substitutes - Durability of - Availability of substitutes - Durability of

commoditycommodity- Possibility of postponement - Income level of - Possibility of postponement - Income level of

consumersconsumers- Price range of the product - Complementary - Price range of the product - Complementary

relationshiprelationship- Knowledge level of consumers - Frequency of - Knowledge level of consumers - Frequency of

purchasepurchase- Proportion of expenditure on the product - Time period - Proportion of expenditure on the product - Time period

Practical applicationPractical application- Pricing decisions - Factor rewarding Pricing decisions - Factor rewarding

- Terms of trade - Foreign exchange Terms of trade - Foreign exchange

rates rates - Tax rates - Public utilities Tax rates - Public utilities

(B)(B) INCOME ELASTICITY OF DEMANDINCOME ELASTICITY OF DEMAND The degree of responsiveness of demand for a

commodity to the changes in the consumers’ income is known as income elasticity of demand

ey = Q / Y X Y / Q

Types of income elasticityTypes of income elasticity

1. Unitary income elasticity 2.Income elasticity 1. Unitary income elasticity 2.Income elasticity grater than onegrater than one

3. Income elasticity less than one 4.Zero income 3. Income elasticity less than one 4.Zero income elasticity elasticity

5. Negative income elasticity5. Negative income elasticity

Practical applicationPractical application

- Growth rate of firm - Demand forecasting Growth rate of firm - Demand forecasting - Production planning - Marketing plan Production planning - Marketing plan

(C) (C) CROSS ELASTICITY OF DEMANDCROSS ELASTICITY OF DEMAND

The degree of responsiveness of demand for a The degree of responsiveness of demand for a commodity to a given change in the price of some commodity to a given change in the price of some other related commodity is known as cross other related commodity is known as cross elasticity of demand.elasticity of demand.

eexy = xy = Proportional change in demand for XProportional change in demand for X

Proportional change in the price of YProportional change in the price of Y

eexy = Qx Py xy = Qx Py XX Py Qx Py Qx

(D) (D) ADVERTISING / PROMOTIONAL ELASTICITY OF ADVERTISING / PROMOTIONAL ELASTICITY OF DEMANDDEMAND

The degree of responsiveness of demand for a The degree of responsiveness of demand for a commodity tocommodity to

given change in the advertising or promotional given change in the advertising or promotional expenses isexpenses is

known as cross elasticity of demand.known as cross elasticity of demand. eea= a= Proportional change in demand for XProportional change in demand for X

Proportional change in the advertisementProportional change in the advertisement

expenditureexpenditure

eea = Qx ad.exp a = Qx ad.exp XX ad.exp Qx ad.exp Qx

(E)(E) SUBSTITUTION SUBSTITUTION ELASTICITY OF DEMANDELASTICITY OF DEMAND The degree of responsiveness of demand ratio between The degree of responsiveness of demand ratio between

X & YX & Y to a given change in their price ratio is known as to a given change in their price ratio is known as

substitution substitution elasticity of demand.elasticity of demand.

eess= = Proportional change in the ratio of demand for X & demand for YProportional change in the ratio of demand for X & demand for Y

Proportional change in the ratio of price of X & price of YProportional change in the ratio of price of X & price of Y

ees = s = (Qx / Qy)(Qx / Qy) (Px / Py) (Px / Py) (Qx / Qy) (Px / Py)(Qx / Qy) (Px / Py)

Measuring price elasticity of Measuring price elasticity of demanddemand

- Total Expenditure Method - Total Expenditure Method

- Point Method- Point Method

- Arc Method- Arc Method

Demand forecastingDemand forecasting Demand forecasting is predicting or Demand forecasting is predicting or

anticipating the future demand for a productanticipating the future demand for a product..

Micro level Micro level Industry level Industry level Macro level Macro level USES OF DEMAND FORECASTING DATAUSES OF DEMAND FORECASTING DATA

Short term demand forecastingShort term demand forecasting 1)1) Evolving production policyEvolving production policy

2)2) Determining price policyDetermining price policy

3)3) Evolving purchase policyEvolving purchase policy

4)4) Fixation of sales targetsFixation of sales targets

5)5) Short term financial policyShort term financial policy Long term demand forecastingLong term demand forecasting

1)1) Business planningBusiness planning

2)2) Man power planningMan power planning

3)3) Long term financial planningLong term financial planning

Individual Demand Individual Demand AnalysisAnalysis

Basis of Individual demandBasis of Individual demand UtilityUtility -- From the commodity point of viewFrom the commodity point of view - From Consumers’ point of view- From Consumers’ point of view

Approaches to Consumer Demand AnalysisApproaches to Consumer Demand Analysis

o Cardinal Utility approachCardinal Utility approach - - Total utilityTotal utility - Marginal utility- Marginal utility LAW OF DIMINISHING MARGINALUTILITYLAW OF DIMINISHING MARGINALUTILITY

Assumptions underlying cardinality approachAssumptions underlying cardinality approach

- Rationality- Rationality - Limited money income- Limited money income - maximisation of satisfaction- maximisation of satisfaction - Utility is cardinally measurable- Utility is cardinally measurable - Diminishing marginal utility- Diminishing marginal utility - Constant marginal utility of money- Constant marginal utility of money

Consumer’s equilibriumConsumer’s equilibrium - One commodity model- One commodity model - Multiple commodity model- Multiple commodity model – THE LAW OF EQUIMARGINAL – THE LAW OF EQUIMARGINAL UTILITYUTILITY

Ordinal Utility ApproachOrdinal Utility Approach

Assumptions underlying ordinal approachAssumptions underlying ordinal approach- RationalityRationality- Ordinal utilityOrdinal utility- Transitivity & consistency in choiceTransitivity & consistency in choice- NonsatietyNonsatiety- Diminishing marginal rate of substitutionDiminishing marginal rate of substitution

Marginal rate of substitutionMarginal rate of substitution - - MRS is the rate at which one commodity can be MRS is the rate at which one commodity can be substituted for another, the level of satisfaction remaining the same. substituted for another, the level of satisfaction remaining the same.

Diminishing MRSDiminishing MRS – – The quantity of a commodity that the quantity of a The quantity of a commodity that the quantity of a commodity that a consumer is willing to sacrifice for an additional unit of commodity that a consumer is willing to sacrifice for an additional unit of another goes on decreasing when he goes on substituting one commodity another goes on decreasing when he goes on substituting one commodity for another.for another.

Indifference CurveIndifference Curve - Indifference curve is a locus of points, each - Indifference curve is a locus of points, each

representing a different combination of two substitute goods, which yield representing a different combination of two substitute goods, which yield the same level of utility or satisfaction to the consumer.the same level of utility or satisfaction to the consumer.

Indifferent MapIndifferent Map

Properties of Indifference curveProperties of Indifference curve

- Indifference curves have a negative slopeIndifference curves have a negative slope- Indifference curves are convex to the originIndifference curves are convex to the origin- Indifference curves do not intersect with each otherIndifference curves do not intersect with each other- Indifference curves are not tangent to one anotherIndifference curves are not tangent to one another- Upper indifference curve always indicate a higher level of satisfactionUpper indifference curve always indicate a higher level of satisfaction

Budgetary constraint & Budgetary constraint & The Budget LineThe Budget Line

The limitedness of the income acts as a constraint on how high a The limitedness of the income acts as a constraint on how high a consumer can ride on his/her indifference map.consumer can ride on his/her indifference map.

Consumer’s EquilibriumConsumer’s Equilibrium