Demand is one of the most important factors in an economy. Demand influences how businesses sell their products to their consumers. Therefore economists need to understand what influences demand in the market, what drives demand and how long this effect lasts.
Some of the factors that drive demand in the market include income, population size, price, and weather. Food is a good example of a product that demand depends on a lot. Economists usually base their price on the cost of production and how much people are willing to pay for a product.
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What is Demand?
The term demand refers to the amount of a certain commodity that consumers are willing to buy and how much people are willing to pay for a product. Demand also refers to how much people will buy at different prices in the market. One of the reasons why you should study economics is to understand how the forces of demand influence the price of goods and services.
Types of Demand
As an economist student, you need to understand the different types of demand. Understanding this concept and the principles of economics will help you know how well a business or firm is doing and you will be able to offer good financial advice when you finally get employed. The different types of demand are:
1. Joint demand
The demand for related goods and services is referred to as joint demand. For example, the demand for cars and trucks is somewhat related. These goods are referred to as substitute goods. When the price of an automobile increases, people might opt for a car because it will be cheaper than a truck.
2. Direct and derived demand
Demand for a final good is known as direct demand, derived demand on the other hand is demand that results from the usage of others. For example, an increase in demand for cars will result in an increase in the demand for tyres, petroleum, etc.
3. Competitive demand
When a customer has a variety of alternative services or goods to pick from, there is competitive demand. For example, there are two food-producing companies, KFC and Mac Donald. If KFC increases the price of their food and Mac Donald does not. People can shift to Mac Donald resulting in an increase in demand.
4. Price demand
The amount a consumer is willing to spend on a product at a specific price is known as price demand. Business owners use this information to determine the price they are going to sell their products to their consumers.
5. Income demand
When a consumer’s income increases the demand for goods may increase. This is because the consumer will be able to purchase more goods. The consumer’s taste and preference may also increase as a result.
6. Composite demand
When a single product has many uses, composite demand occurs. For example, milk has many uses, it can be used to make yoghurt, cheese, butter, ice cream, etc. An increase in demand for one of these products leads to a decline in others. A price increase can result from this scarcity.
7. Short-run and long-run demand
People’s quick responses to price changes when factors are fixed are referred to as short-run demand. For example, if the demand for sugar decreases, the sugar company may experience a drastic loss. In the long run, the company may adjust to this situation by terminating some of its employees’ contracts.
What is the law of Demand?
The law of demand states that when the price of a good increases, the quantity demanded decreases, when prices are low the quantity demanded increases. This law is also known as the inverse relationship between price and quantity demanded.
The law of demand is derived from the downward slope of a demand curve. This shows that when the price increases, the demand for most goods also increases. However, there are exceptions to this rule and there are times when the demand doesn’t follow this same pattern of increasing and decreasing at different price levels.
The Demand Equation or Function
The demand equation is: P=F(X)
P represents the unit price
X represents the number of units of the commodity in question.
If P increases X decreases.
Determinants of Demand
The determinants of demand are the factors that affect the amount people are willing to buy at different prices in a certain period of time. These factors include:
1. The income of buyers
The first factor that affects demand is the income of buyers. If a buyer can afford to buy a good at a certain price, then he or she will buy more of it. For example, if you are on a budget and you have to have your car serviced right away, then you might not be willing to wait until you have more money in your wallet.
If people’s incomes increase and they can spend more money on cars, then demand for new cars will increase. However, if the economy is going downhill and people lose their jobs or cannot find work, their ability to purchase new cars will decrease as well.
2. The price of the good or service
Another factor that affects demand is the price of goods. If a good becomes more expensive when compared to other goods in its category (e.g., gasoline), then there will be less demand for it because it becomes too expensive for most people to afford to buy it at that period (e.g., when gas prices are high).
3. The prices of related goods or services
When the price of one good rises, demand for other goods and services that are related to it will fall; this is known as substitution. For example, if the price of apples increase, people may substitute more expensive fruits like oranges, which they consider healthier alternatives. When a good becomes more expensive, consumers have less incentive to buy it and will look elsewhere for their needs.
4. The preferences of consumers will drive demand
Consumers’ tastes or preferences will drive demand. If a consumer prefers one brand over another, then the market price of that product will determine its demand. For example, if consumers prefer Coca-Cola over Pepsi, then they are going to buy more Cola than Pepsi.
5. Consumer expectations on whether prices for the product will increase or decrease in the future
If consumers expect a decrease in the price of commodities in the future, the demand for the commodity will decrease.
What Factors Affect Elasticity of Demand
Elasticity is the degree or proportion by which a change in demand for a commodity will result in an equal change in the price. The following factors influence the elasticity of demand:
1. Availability of substitutes
The more available the substitute is, the larger the elasticity of demand. For example, if the price of coffee increases significantly and consumers can easily switch to tea, then there will be less of a change in demand for coffee and a delay in buying it.
2. If the good is a luxury or a necessity
If a product is a luxury or a necessity, then the elasticity of demand will be high since people are willing to pay more for that good. For example, people may not switch to substitutes for gold and diamonds since these are necessities.
3. The proportion of income spent on the good
The higher the proportion of income spent on goods, the elasticity of demand will be high. For example, if a family spends a large portion of their income on food bills in comparison to other goods and services, then they will spend more time thinking about when and where to buy food as opposed to non-food items where price increases have a much smaller effect on them (e.g., electronics).
4. How much time has elapsed since the price changes
If a product has been decreasing in price for a long time and people have become used to that change, then they will be less responsive to it. For example, if the prices of vegetables have gone down many times, people may not be responsive to it when increases take place.
A demand curve is a graphical representation of the relationship between the price of a good and its quantity demanded. The law of demand states that as the price of a good increases, the total quantity demanded decreases, and vice-versa. The determinants of demand include income, price of related goods or services, tastes or preferences, and consumer expectations about future prices. Elasticity measures how much the quantity demanded will change in response to changes in price. The more elastic a good is, the greater its responsiveness to changes in price.