Chapter 3

Demand
The Law of Demand

 The law of demand holds that other things

equal (Cetris Paribus), as the price of a good
or service rises, its quantity demanded falls.

 The reverse is also true: as the price of a

good or service falls, its quantity
demanded increases.
Demand Curve & Demand
Schedule
Demand Schedule

The demand curve has a negative slope, for

general goods
Types of Demand
 Individual Demand
 Market Demand
 Joint Demand
 Composite Demand
 Autonomous Demand
 Regular Demand
 Irregular Demand
 Negative Demand
 Artificial Demand
 Unwholesome Demand
Elasticity – the concept

 The responsiveness of one variable to

changes in another
 When price rises, what happens
to demand?
Ans. Demand falls

 But!...How much does demand fall?

 If price rises by 10% - what happens to
demand?
We know demand will fall

 But… more than 10% or less than 10%?

Thus Elasticity measures the extent to

which demand will change
Types of Elasticity

3 basic types used:

 Price elasticity of demand

 Income elasticity of demand
 Cross elasticity
Price Elasticity
 Price Elasticity of Demand
 The responsiveness of demand to changes in

price i.e.
% Change in Quantity Demanded
% Change in Price

 When % change in demand

is greater than % change in price – elastic
demand
 When % change in demand is less than %
change in price – inelastic Demand
 When % change in demand
is equal to % change in price – Unit elastic
demand
Business Application of Price
Elasticity
 If demand is price elastic:
 Increasing price would reduce
Total Revenue (%Δ Qd > % Δ P)
 Reducing price would increase
Total Revenue (%Δ Qd > % Δ P)
Cont..

 If demand is price inelastic:

 Increasing price would increase Total
Revenue (%Δ Qd < % Δ P)
 Reducing price would reduce Total
Revenue (%Δ Qd < % Δ P)
Income Elasticity
 Income Elasticity of Demand
 The responsiveness of demand to changes in

income of the consumer i.e.

% Change in Quantity Demanded
% Change in Income

 When % change in demand

is greater than % change in income – elastic
demand
 When % change in demand is less than %
change in Income – inelastic Demand
 When % change in demand
is equal to % change in Income – Unit elastic
demand
 Normal Good – demand rises as income
rises and vice versa
 Inferior Good – demand falls as income
rises and vice versa

 A positive sign denotes a normal good

 A negative sign denotes an inferior good
Cross Elasticity

 The responsiveness of demand of one

good to changes in the price of a related
good – either substitute or a complement
% Change in Q of A
% Change in Price of B
 Goods which are complements:
 Cross Elasticity will have negative sign

(inverse relationship between the two)

 Goods which are substitutes:
 Cross Elasticity will have a positive sign

(positive relationship between the two)

Importance of Elasticity

 Relationship between changes

in price and total revenue
 Importance in determining
what goods to tax (tax revenue)
 Importance in analysing time lags in
production
 Influences the behaviour of a firm