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Demand

Demand



Basic definitions relating to demand:

Start with the law of demand.

The law of demand:


The quantity of a specific good or service that people are willing and able to purchase decreases as the price increases, and increases as the price decreases, as long as the price is the only thing that changes.



You may see the law of demand defined using slightly different words, but the meaning is the same. Implied in the definition is a specific time frame. The word "quantity" does not have much relevance unless a specific time frame is involved. However, just knowing that a time frame is involved, and not having to know what the specific time frame happens to be, will be sufficient for most kinds of analysis. So the time frame remains implied, and not repeatedly stated during the analysis. Also, it is important to note, before moving on, the fact that this definition states that price and quantity demanded move in opposite directions: when one increases, the other decreases. This is called a negative correlation.

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The law of demand requires an understanding of the definitions of two more terms: demand; and the quantity demanded.

Demand: The amount of a specific good or service that people are willing and able to purchase at every possible price.


Quantity demanded: The amount of a specific good or service that people are willing and able to purchase at one specific price.



These two definitions (demand, quantity demanded) form a distinction that is very important in the study of economics. This distinction also happens to be one that many students have trouble understanding. For this reason, I have included a more detailed description of this distinction below.

But first, a few more definitions of terms that are relevant to demand, and the distinction between demand and quantity demanded:

Factors of demand: Factors of demand are the price of the good in question, plus other things that determine the level of demand. You will find that an analysis of demand will require the price to be considered separately from the other things that determine demand. The “other things that determine demand” are called determinants of demand.

Determinants of demand: Consumer income; consumer tastes; the prices of complements; the prices of substitutes (you may find the prices of complements and substitutes lumped together in a category called “the prices of related goods”); consumer expectations; and the number of potential buyers. A more detailed definition of each determinant of demand follows:

Consumer income: The more income that people have, the higher the demand for goods and service in general. This means that for each specific normal good, income and demand are positively correlated: income and quantity demanded change in the same direction. An inferior good is the opposite of a normal good. An inferior good is one that people buy less of if their incomes increase. They choose to use the higher income on more expensive substitutes, and buy fewer of the inferior good. An inferior good is an exception to the law of demand that states that a negative correlation between price and quantity demanded exists.

Consumer tastes: When consumer tastes change, the demand for specific goods and services also changes. Styles come and go, fads come and go.

Prices of complements: Complements are two goods that consumers tend to purchase together. Since consumers purchase two items as if they were one (a package deal), if the price of one of the items changes, so will the price of the package deal, and the demand for the other item will change accordingly. If the price of one good increases, then the demand for its complement decreases, and vice versa (negative correlation).

Prices of substitutes: Substitutes are two goods that, in the eyes of consumers, can be substituted for each other. If they spend their income on one, they won't want to spend their income on the other. They may prefer one to the other, but if the price of one changes, it may influence which one they prefer at the different relative price. If the price of a good or service increases, the demand for its substitute increases, and vice versa (positive correlation).

Consumer expectations: If consumers believe that prices will change in the future, or their incomes will change in the future, it may affect how much of a given good or service they purchase now, instead of later.

Number of potential buyers: Since market demand is equal to the sum of all individual demands, the number of potential buyers will influence the total demand for a good or service.

Now, on to more definitions:

Demand schedule: A list of prices and their corresponding quantities demanded.

Demand curve: A graph of the demand schedule. Often a curve turns out to be a straight line, but in economics it is still referred to as a curve. By tradition, the demand curve is a graph with an origin of (0,0), quantity on the horizontal (X) axis, and price on the vertical (Y) axis.

Market demand curve: The sum of all individual demand curves in a given market.

Finally, a couple more definitions, along with the promised additional explanation of the distinction between demand and quantity demanded:

Change in demand: When one of the determinants of demand changes, demand changes. The entire demand schedule changes; the demand curve shifts. This means that the quantities demanded at every price change. This is shown by a shift in the demand curve. If demand increases, the demand curve shifts to the right (or up, depending on what terminology you use). If demand decreases, the demand curve shifts to the left (or down).

Change in the quantity demanded: If the price of the good or service in question (the good or service that is used to plot the demand curve) is the only thing that changes, then demand does not change. The demand curve does not change (or shift), but the price / quantity combination moves to a different point on the existing demand curve.




As stated above, many students have difficulty grasping the distinction between demand and quantity demanded. The first thing to do in trying to understand this is to look at the difference in the definitions of the two terms. Demand refers to every possible price; quantity demanded refers to a specific price. If the price changes, it is a change that is already covered by demand – because demand includes all prices. So a change in price will not change demand, it will only involve a movement along an existing demand curve. That would be called a change in the quantity demanded. In order for demand to change, there must be a change in a non-price factor of demand (one of the determinants of demand). In that case, the quantity demanded will change at every price, and the demand curve will shift as a result.

Another way to look at it – and this may be helpful to some students: if the change is plotted on an axis (price is plotted on the vertical axis), then the change is a change in the quantity demanded. If the change is not plotted on an axis (the determinants of demand are not listed on an axis), then the change is a change in demand.