REASONS FOR CHANGE IN DEMAND
- Change in the consumer’s level of income
When the consumer’s level of income increase, demand will also increase because of the increase in purchasing ability and when the level of income decrease, demand will decrease due to decrease in purchasing ability.
- Change in population size
When the population size increases, demand will also increase because of more consumers and the population decrease demand will also decrease due to less consumers.
- Change in the level of direct taxes
When the level of direct tax increase, demand will decrease due to the decrease of disposable personal income and when the level of direct taxes decrease, demand will increase due to the increase of disposable personal income.
- Expectation or Anticipations
Expectations also bring about a change in demand. If prices are expected to rise in future, the demand for goods will increase now in the present. Similarly, expectation of rising incomes will restrain current purchases and post pone purchases to a future favorable situation.
- Change in tastes, preferences and fashion.
When the tastes, preferences & fashion change in favor of certain goods, demand will increase and when the taste, preferences & fashion change against a certain good its demand will decrease.
- Change in price of the substitute.
If the price of the substitute increases, the demand of a good in question will increase and if price of the substitute decrease the demand of a good in question will decrease.
- Change in the price of the complement.
If the price of the complement increases, the demand of the good in question will decrease. However if the price of the complement decreases, the demand of the good in question will increase.
- Exceptions of the law of Demand.
There are some situations where the law of demand does not operate. This gives rise to abnormal demand curve (regressive).
Aggressive demand curve has a positive slope indicating that as the price increases quantity demand also increases and vice verse. A situation which is against the law of demand.
The exceptions of the law of demand are the following;-
- 9. Veblen goods or Article of ostentation
These are the luxurious goods which are demand to emphasize economic status for example expensive cars, expensive mobile phones etc for such goods as the price increase, quantity demand also increases.
- Giffen goods (inferior goods)
This can also be called inferior goods, example of such includes;- maize flour. For such goods when the price increases more is bought of them, but as the price fall less is demand of them for a low income earner when the price of beans increase, he will buy more of them by reducing his expenditure on meat.
- Fear of the future rise in price.
When the consumers expect the price of the commodity to increase now and then because of factors such as expected shortage they will tend to buy more of the commodity as the price increases
These are goods that are necessities of life, eg medicines, food, salt etc.
For such goods a minimum quantity has been purchased by the consumer irrespective of their price because of such a situation, the law of demand is operative to a certain extent.
- Ignorance of the consumer.
These are situations where consumers buy goods at a higher price because they are ignorant of lower price for the same goods in other market.
Under inter – related we examine the relationship between goods that are related in one way or another by looking at how change of one will affect demand of the other.
Types of Inter – related Demand
- Joint Demand (complementary demand)
This is the demand for two or more commodities which are jointly needed to satisfy a particular need
Example; Car and petrol, Increase in demand of one will result into increase in demand for another and decrease in demand of one will result to the decrease in demand for another and increase in the price of one will result to the decrease in demand for another.
Price of cars
- Competitive Demand
This refers to the demand for goods which are substitutes to one another. For example tea and coffee, Pepsi and coca cola, increase in demand for one will result into decrease in demand for another and vice verse and increase in price for one will result into the increase in demand for another and vice verse.
- Composite Demand
This refers to demand for a commodity which can be used for several purposes e.g. demand for electricity, demand for steel.
- Derived Demand
This refers to demand for a commodity which is used in the production of the other commodity. E.g. demand for factors of production is derived in demand because it is upon demand for goods that produces demand for factors of produce in order to produce other goods.
Elasticity of Demand
-Elasticity of Demand is the responsiveness of demand to change in price.
Types of Elasticity
There are basically three types of elasticity
- Price Elasticity of Demand
- Income Elasticity of Demand
- Cross Elasticity of Demand
- Price Elasticity of Demand
Is the responsiveness of demand to change in price level. It measures responsiveness of potential buyer to change in price.
Price elasticity can be measured by the help of the following formula:
Price elasticity is always negative
Interpretation of Price Elasticity of Demand.
- Perfectly in elasticity (P.E.D = 0)
This means that change in price has no effect of quantity demand.
- In elasticity (P.E.D < 1)
This means that a big change in price bring about a small change in demand
- Unitary (PED = 1)
This means that a change in price result into the equal change in demand
- Elastic (PED > 1)
This means that a small change in price result into a big change in demand
- Perfect Elastic (PED = ∞)
This means that price is not changing (fixed) but quantity demanded in changing.
FACTORS WHICH INFLUENCE PRICE ELASTICITY OF DEMAND.(PED)
PED can be elastic or inelastic depending on the following factors;-
Degree of availability of close substitutes
If a commodity has many close substitutes, its price elasticity of demand will be elastic as consumer can easily move over to other alternative. However on the other side, if commodities have few substitutes its demand will be inelastic.
- Proportion of income spent on a good
If the commodity takes a large percentage of someone’s income, its demand will be price elastic as increase in the price can easily be felt. However if a commodity takes a small percentage of someone’s income eg. Match box its demand will be price inelastic.
The level of Income
With the high level of income demand will be price inelastic since increase in the price can easily be absorbed. On the other hand with the lower level of income the demand will be low hence price is inelastic.
In the short run demand would be price inelastic as the answer will not be able to gain enough market information e.g. the prices of other completing goods. However in the long run demand would be price elastic as the consumer would have gain enough market information.eg. The price of substitutes.
The degree of necessity
If the commodity is a necessity its demand would be price inelastic as a person cannot easily do without them on the other hand, the luxurious goods have elastic demand.
For goods with addiction in their consumption eg. Cigarettes, alcohol, their demand is price inelastic, however those goods with no addiction use their demand is price elastic
Durability of a commodity.
Durable goods such as furniture have inelastic demand, since they can stand for a long period of time after has been bought on the other hand, on durable goods have elastic demand.
Importance or Practical application of P.E.D
- To the primary decision
P.E.D is important to business in pricing decision making in order to maximize total revenue (TR). Therefore it is on the basis of the price elasticity of demand of the commodity that is selling will decide whether to increase or reduce the price (P) in order to maximize total revenue as below
When PED is perfectly inelastic he should increase the price to earn revenue since demand will remain exactly the same.
When P.E.D is inelastic, the business should decrease the price in order to earn total revenue because at such high price, demand will remain almost the same.
When price elasticity of demand is unitary the business should leave the price the same. Since increase or decrease in the price will lead to the total revenue to be the same.