Demand and Demand Curve

What is Demand and Demand Curve? | What is Demand Function? |Derivation of Demand Curve | What is Law of Demand? 

Introduction

Till now in the Microeconomics series, we discussed in detail regarding the theory of consumer behavior i.e., how the consumer behaves in terms of making economic decisions in face of scarce resources here, limited income. We even discussed the Budget Set and Budget Line. And finally we saw the derivation of the optimal choice of the consumer.

In this session we will discuss in detail about demand and demand curve. We will also discuss about the Law of Demand.

Demand

While making decision about optimal choice, the consumer takes into consideration several factors or we can say, there are several factors which affect the decision making of the consumer. Among them are the taste and preferences of the consumer which decide the level of utility the consumer can get from a particular good, service or commodity. The other factor is the prices of those goods and services which are based on market conditions. Finally, the income of the consumer plays a very important role in deciding the budget set and budget line of the consumer. So to say, the taste and preferences decides the willingness of consumer to buy a particular good or commodity, And, the income of the consumer decides the ability of the consumer to buy a particular good or commodity i.e., affordability.

The willingness, decided by taste and preferences and ability, decided by income, of a consumer to buy a particular quantity of a good or commodity at the given market prices, is called Demand for that good or commodity.

Change in any of the above factors results in change in the demand of that particular good or commodity. So now it becomes important to study the effect on demand of changes in each of these factors or variables (factors are variables as they keep on changing as per time) individually keeping the others constant. The effect on demand here means the change in the amount of quantity demanded by the consumer.

Demand Curve

One of the major variable or factor which directly affects the demand for a particular good or commodity is the Price of that good. When the prices of the substitute goods, taste and preferences of the consumer and the level of income of the consumer remains constant or unchanged, the demand for a good i.e., the amount of good that consumer chooses to be optimum, now becomes entirely dependent on the price of that good.

Substitute good is a good which can work as a replacement for a particular good as it can provide the similar level of utility or satisfaction.

Demand Function

The relation between the demand for a particular good and price of that good is called the Demand Function. Keeping all remaining factors unchanged, the consumer’s demand function for a particular good depicts the amount of that good that the consumer demands at different prices of that good. The consumer’s demand function in simple terms shows demand of a good as a function of its price which means price is the deciding factor for that good’s demand. Meaning the price will decide the demand for that good. The Demand function can be written as

X = f(P) – based on mathematical function y = f(x)

where X is the amount or quantity of good demanded and P is the price of that good.

So price is the independent variable and quantity demanded is the dependent variable.

The graphical representation of the Demand Function of a good for a consumer is called the Demand Curve. Thus the demand curve depicts the relationship between demand for a particular good and the price of that good. The graphical representation shows the amount of good that the consumer is willing and able to buy i.e., demanding at various price levels.

In graphical representation, the price which is the independent variable is shown on vertical axis and the quantity demanded which is the dependent variable is shown on horizontal axis.

Derivation of Demand Curve

Let us consider a situation where there are two goods available to consumer in a bundle which are Apples and Bananas. Let the quantity of Apples be X1 and of bananas be X2 and the market prices of Apples be P1 and of bananas be P2. The income of the consumer is M.

Graph A shows the consumption bundles showing the optimal choice of the consumer i.e., consumption equilibrium. There are three equilibrium bundles or optimal bundles represented by F, G and H on three indifference curves at their point of tangencies with the budget line.

Graph B shows the demand curve for Apples showing the quantity demanded at different price levels.

When the price of Apples – X1, decreases from P1 (A) to P1 (B), with price of banana and income M remaining constant, the consumption equilibrium i.e., optimal bundle shifts from (F) to (G) i.e., to the higher indifference curve from IDC 1 to IDC 2 due to the expansion in budget set, as the consumer is now able to buy more apples, thus working as per monotonic preferences phenomenon. And with this it can be seen that the quantity of apples increased in the optimal bundle. And in graph B, the points P1 (B) and X1 (B) shows the second point on the demand curve at K. As the price of the apple decreases further from P1 (B) to P1 (C), the consumption bundle further shifts to higher indifference curve on IDC – 3 from G to H, showing further increase in quantity of apples in the optimal bundle. The same results in the third point on the demand curve at L made by P1 (C) and X1 (C). Hence, a decrease in prices of apples results in increased consumption of apple by consumers as they try to maximize the utility, making the demand curve negatively sloped.

Here in the above scenario, the negative slope of the demand curve is explained from the perspective of price fluctuation. But the negative slope can also be result of secondary effects of other phenomenon namely substitution effect and income effect which gets triggered thanks to the price fluctuations. As price of apples decreases, the consumer increases consumption of apples to maximize utility thus resulting in increased demand of apples. At the same time, with income level being constant at M, a decrease in price of apples results in increased purchasing power of the consumer which in turn again increases demand for apples as well as bananas. So price change triggers two more effects which transcends into a downward sloping demand curve.

Law of Demand

The negative relation between demand for a particular good or commodity and its price, with other factors being equal or constant, is referred to as Law of Demand. This in simple terms explains the phenomenon, that when price of a good or commodity increases, the demand for the same falls and when the price of a good or commodity decreases, the demand for the same increases, with other factors remaining the same.

Conclusion

In this session, we discussed in detail regarding the concept of Demand, the graphical representation of the same in form of Demand Curve and lastly we discussed about the Law of Demand.