PRINCIPLES OF DEMAND
In order to know how a market economy works and how resources are allocated in an economic system, it is very important to understand what determines the demand and supply of goods and services.
Demand may be defined as the quantity of goods a consumer is willing and ready to buy at a given price over a given period of time. It is also defined as the ability and willingness to buy specific quantities of goods or services at alternative prices, over a given period of time.
When a consumer’s demand is backed up by the necessary ability and willingness to pay, it is said to be effective demand. But if the consumer does not have the means (money) to buy the goods, it means he merely wants or desires the goods.
Law of Demand
The law of demand states that the higher the price, the lower the quantity of goods that will be demanded, or the lower the price, the higher the quantity of goods that will be demanded.
This law simply explains that when the price of yam, for example, is high in the market, very few quantities of it will be demanded by the consumer and vice versa.
All things being equal, this law will hold under the following assumptions:
- That there will be no change in taste and preference of the consumer.
- That the consumer’s income remains constant.
- That no very close substitutes of the commodity exists.
- That the habits of consumer remain unchanged.
- That there is no change in the quality of product.
Demand schedule is a table showing the relationship between the price and quantity of that commodity demanded. This table below obeys the law of demand.
Demand curve is a graph showing the relationship between price and quantity of that commodity demanded. The curve is derived from demand schedule.
Reasons why Demand Curve slopes Downward
Demand curve slopes downward because the higher the price, the lower the quantity of goods demanded or the lower the price, the higher the quantity of goods demanded.
Factors Affecting Demand
Factors which affect the demand for any good include the following:
- Price: The higher the price of any good, the lower the quantity that will be demanded.
- The Price of Other Commodities: This applies to commodities that have close substitutes. If the price of such commodity is high, the consumer may demand for the close substitute.
- Income of the Consumer: The higher the income of a consumer, the higher the quantity of commodities that will be demanded.
- Changes in Taste of Consumer: If consumers change their taste for a particular commodity, the demand for that commodity will also change.
- Population: Increase in population will lead to high demand for commodities.
- Periods of Festivals: People demand for more of specific commodities during certain festivals.
- Expectation of Changes in Prices: If people expect that there will be high prices of goods in the future, demand will increase and vice versa.
- Taxation: An increase in taxation means a reduction in purchasing power which may result in decrease in the demand for certain goods.
Elasticity of Demand
Elasticity of demand is defined as the degree of responsiveness of demand to little changes in price.
Elasticity = Percentage change in demand / Percentage change in price
Price Elasticity of Demand
Price elasticity of demand refers to the degree of responsiveness of demand to little changes in prices of goods and services.
Types of price elasticity of demand
1) Elastic demand: Demand is said to be elastic if a small change in price leads to a greater change in the quantity of goods demanded. In this case, elasticity is greater than one or unitary, i.e. E=>1< infinity. This type of elasticity can also be described as fairly elastic demand.
2) Inelastic demand: Demand is said to be inelastic if a larger change in price leads to a small or slight change in the quantity of goods demanded. In this case elasticity is less than one but greater than zero, i.e. E=>0<1. This type of elasticity can also be described as fairly inelastic demand.
3) Unity or unitary elastic demand: Demand is said to be unitary when a change in price leads to an equal change in the quantity of goods demanded. In other words, a 5% change in price will lead to a 5% change in demand. In this situation elasticity is equal to one, i.e. E = 1.
4) Perfectly elastic demand or infinitely elastic demand
Demand is said to be perfectly elastic when a change in price brings about an infinite effect on the quantity of goods demanded. In other words, a slight increase in price can make consumers to stop the purchase of the commodity while a slight decrease in price will make consumers to purchase all the commodities. In this case elasticity is equal to infinity.
5) Perfectly inelastic demand or zero elastic demand: Demand is said to be perfectly inelastic if a change in price has no effect whatsoever on the quantity of goods demanded. In other words, the same quantity of goods is demanded irrespective of changes in price. In this case elasticity is equal to zero, i.e. E= 0.