Types of Demands Based on Elasticity:

Inelastic Demand:

• When consumers buy about the same amount of commodity whether the price drops or falls, then the demand is called inelastic demand. If the commodity is the necessity of the life of the consumer, the consumer purchase the commodity irrespective of the cost.
• For example, the demand for petrol for a cab driver is inelastic. He has to buy the petrol irrespective of the higher price because he is earning his living by driving a cab. In turn, when the price of petrol drops he doesn’t by petrol more than his requirement.
• Elasticity quotient is less than one.
• The demand curve is steep.
• Price and total revenue moves in the same direction.

Elastic Demand:

• When the price or other factors have a big effect on the quantity of the commodity consumers want to buy., then the demand is called elastic demand. If the price of the commodity goes down just a little, the consumer buys a lot more. If prices of commodity rise just a bit, they stop buying as much and wait for the prices to return to normal.
• For example demand for luxury and comfort good.
• In presence of elastic demand, consumers do a lot of comparison shopping.
• Elasticity quotient is more than one.
• The demand curve is shallow.
• Price and total revenue moves in the opposite direction.

Unitary Demand:

• When the quantity demanded changes the same rate as the price, then the demand is called unitary demand or unit demand.
• Elasticity quotient is one.
• In practice, there is no product that has a unitary elasticity of demand.

Types Of Elasticity of Demand:

• In economics, we consider the following five types of elasticity demands. viz. price elasticity, income elasticity, cross elasticity, promotional elasticity and substitution elasticity.

Price Elasticity:

• It explains the responsiveness of the demand for a product to change in its price.
• Elasticity quotient of price or coefficient of price elasticity is defined as the ratio of the percentage change in the quantity of the commodity demanded the corresponding change in the price of the commodity. Mathematically

• If demand rises by 60% by fall in price by 20%, then

E_P=(60%)/(-20%)= – 3

• In General,

Where, D = Original demand, ΔD = Change in demand

P = Original price, ΔP = Change in price.

• Based on the numeric values of elasticity quotient for price or coefficient of price elasticity, the price elasticity is classified into three types.

Perfectly Elastic Demand:

• In this case, a very small change in price leads to an infinite change in demand. The demand curve is horizontal i.e. parallel to the x-axis.
• Elasticity quotient is infinity (∞).

Perfectly Inelastic Demand:

• In this case any change in the price of the commodity, the quantity demanded remains perfectly constant.
• Elasticity quotient is zero (0).
• For example, the demand for petrol for a car owner is inelastic. He has to buy the petrol irrespective of the higher price because commuting by car is his necessity. In turn, when the price of petrol drops he doesn’t by petrol more than his requirement.
• If the price is too high corrective action may be taken by him like to live closer to the workplace, buying more fuel efficient car, carpooling, Use of an alternate mode of transport, etc.

Relatively Elastic Demand:

• In this case, for the small change in the price of a commodity leads to a proportional change in the quantity demanded.
• Elasticity quotient is greater than 1.

Relatively Inelastic Demand:

• In this case, a huge change in price leads to a less than proportional change in demand.
• Elasticity quotient is less than 1.

Unitary Elastic Demand:

• In this case, there is a proportionate change in price which leads to an equal proportional change in demand.
• Elasticity quotient is equal to 1.

Determinants of Price Elasticity of Demand:

Nature of Commodity: 

• The commodities or goods can be categorized as luxury, convenience, necessary goods. The demand for the necessities (food and clothing) is inelastic as their need cannot be postponed.
• The demand for comfort or convenience goods (e.g. TV, fridge) is elastic. The change in their price causes a change in demand.
• While the demand for luxury goods like diamonds, gems, etc. is highly elastic because a small change in its price the demand changes significantly. But, however, the demand for luxury goods is said to be inelastic, because consumers are ready to buy these commodities even at a high price, due to their social appeal.

Existence of Substitutes: 

• The substitutes are the goods which can be used in place of one another. Thus the commodity and its substitutes are economically interchangeable. The goods like tea and coffee which have close substitutes are said to have elastic demand because the consumer can switch between the two.
• Toothpaste, soaps have many substitutes hence the demand for them is elastic. Onion, ginger, garlic, and salt have no substitutes, hence their demand is inelastic. People tend to buy them even at higher prices.

Several (Multiple) Uses of Commodity: 

• Single-use goods are those which can be used for only one purpose. (examples: fertilizers, seeds, pesticides, eatables, etc.). In such a case, the change in the price will affect the demand for commodity only in that use, and thus the demand for that commodity is said to be inelastic.
• Multiple-use goods are those which can be used for more than one purpose. (examples: electricity, coal, iron, steel, etc.). In this case, the change in their price will affect the demand for these commodities in its many uses. Thus, the demand for such products is said to be elastic.

Durability and Repairability of Commodity:

• Durable goods are those goods which can be used for a long period of time (for example furniture, utensils, etxc.). The demand for such goods is elastic.
• Repairable goods are those goods which can be repaired easily hence such goods can be used for a long period of time (examples: TV, Mixers, Washing machine). The demand for such goods is elastic.
• Perishable goods are those goods which degrade and become useless after some time. (examples: vegetables, milk, fruits, etc.) The demand for such goods is inelastic.

Level of Income of Consumer:

• For high-income consumers, the demand is said to be less elastic as the rise or fall in the price will not have much effect on the demand for the product.
• For low-income consumers, the demand is said to be elastic and rise and fall in the price have a significant effect on the quantity demanded.

Postponing the Use of Commodity:

• If the demand for a particular product cannot be postponed then, the demand is said to be inelastic.
• The basic necessities like food, clothing cannot be postponed. On the other hand, the items whose demand can be postponed. Hence these demands are inelastic. The demands which can be postponed are elastic demands. (example: furniture, TV, etc.). Such demands can be postponed until the time its prices fall.

Range of Prices or Proportion of Expenditure on a Commodity:

• Goods like imported cars, high-end mobiles, refrigerators, LED TVs are costly in nature. While goods like pins, matchbox, pencils are low priced. In both cases, a small change in price does not have an effect on demand. Thus demands for such products is inelastic.
• For moderately or normally cost goods the demand is elastic.

Habits:

• When people are habituated to use of the commodities (examples: tobacco, cigarette, alcoholic beverages), they do not care for price changes over a certain range. Thus the demand is inelastic.
• If the people are not habituated, then they go for a substitute and the demand becomes elastic.

Period of Time:

• In a short interval of time the consumptions habits, traditions, customs do not change significantly. The demands for such commodities are inelastic. For a long period of time, these demands tend to be elastic.

Knowledge of Consumer:

• For ignorant consumer demand would be inelastic while for the knowledgable consumer the demand is elastic.

Existence of Complementary Goods:

• The goods or services whose demands are so interlinked that an increase in the price of one of the products results in a fall in the demand of the other product, such goods and services are called complementary of each other. (examples: pen and ink, petrol and car, shoes and socks, etc.). In such cases demand tend to be inelastic. If a good has no complement, its demand is elastic.

Peak and Off-peak Demand:

• The demand is price inelastic at peak times and more elastic at off-peak times – this is particularly the case for transport services. Example price of movie tickets is more or advertising rates are more at a prime time while they are less at a slack time. In prime slots people are ready to pay a higher price, Thus the demand is inelastic at peak hours. for other time slots, it is elastic.

Frequency of Purchase:

• If the frequency of purchase is high (generally necessities) then the demand tends to be inelastic. If the frequency of purchase is low, the demand is elastic.

Measurement of Price Elasticity of Demand:

Total Expenditure Method:

• In this method, total expenditure (price outlay) before and after the variation in price is compared. The value of the coefficient of elasticity is calculated by dividing total consumption (price outlay) at a price by total consumption (price outlay) at a previous price.

• Observations:
  • When the new outlay is greater than the original outlay, then the coefficient of elasticity of demand E > 1.
  • When the new outlay is less than the original outlay, then the coefficient of elasticity of demand E< 1.
  • When the new outlay is equal to the original outlay, then the coefficient of elasticity of demand E = 1.
  • When total expenditure increases with the fall in price and decreases with the rise in price, then the price elasticity of demand is greater than 1.
  • When total expenditure decreases with the fall in price and increases with the rise in price, then the price elasticity of demand is less than 1.
  • When total expenditure remains the same irrespective of the rise or fall in price, then the price elasticity of demand is equal to 1.
• Graphical Representation:

Point Method:

• Professor Marshall advocated this method. Point elasticity of demand refers to the price elasticity of demand (Ed) at any point of the demand curve and it is different at different points on a demand curve. The quantities D = Original demand, ΔD = Change in demand, P = Original price, and ΔP = Change in price at a point are found from demand curve. The price elasticity of demand is calculated using the following formula.

• The point P is located at which unitary elastic demand exists such that the value of the elasticity coefficient is 1. The curve if it is linear is allowed to cut x-axis (say at N) and y-axis (say at M). Then point P divides segment MN into two parts upper segment PM and lower segment PN. The ratio of the length of the lower segment PN to the length of the upper segment PM gives the coefficient of price elasticity of demand.
• If the demand curve is not linear, we draw a tangent to the curve too cut x-axis (say at N) and y-axis (say at M). Then point P divides segment MN into two parts upper segment PM and lower segment PN. The ratio of the length of the lower segment PN to the length of the upper segment PM gives the coefficient of price elasticity of demand.

• It is to be noted that in this method the demand function is continuous and hence marginal changes can be measured. i.e. E is measured only when changes in price and quantity demanded are small.

Arc Method:

• This method is used to find the elasticity of demand E when a large change in the price and quantity demanded. Elasticity obtained by this method is called an average elasticity of demand.

• Two points on the curve are marked. The values of quantity demanded and the corresponding price at these two points is noted. The elasticity of demand is found by the following formula.

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Assumptions of the law

• There is no change in the income of consumers.
• There is no change in the quality of the product.
• There is no substitute for the commodity in the market.
• The prices of related commodities (complements)  remain the same.
• There is no change in customs, tastes, habits, and preference of consumers.
• The size of the population and their disposable income remain the same.
• The climate and weather conditions are the same.
• The tax rates and other fiscal measures remain the same.
• Government policy towards the product remains the same.

Explanation of the Law of Demand (Negative Slope of Demand Curve):

Price effect:

• When there is an increase in the price of a commodity, the consumers reduce the consumption of such commodity. The result is that there is the decrease in demand for that commodity. Hence the demand curve slopes downward.
• The demand curve slopes downward due to negative price effect.

Income effect:

• if the income of the consumer does not change due to the fall in the price of the commodity, the purchasing power of the consumer increases. Thus the real income of consumer rises due to the fall in prices. Hence the consumer consumes more of the commodity. The change in the optimal quantity of a commodity when the purchasing power changes consequent upon a change in the price of the commodity is called the income effect.
• The demand curve slopes downward due to positive income effect.

Substitute Effect:

• When the price of a commodity falls, the prices of substitutes remaining the same, the consumer can buy more of the commodity and vice versa. The commodity is used as the substitute for other uses. The demand curve slopes downward due to the substitution effect.

Marginal utility Effect:

• When a consumer buys more units of a commodity, the marginal utility of such commodity continues to decrease.

Poverty Effect:

• Due to the lower price of the commodity, it comes into reach of poor people and they start consuming it (which they were doing before), hence the demand increases.The demand curve slopes due to the consumption by poor people.

Multiple Uses Effect:

• If there are multiple uses of the same commodity, then when prices of such goods increase these goods are put into important uses only. If the price falls, the commodity is used in many alternate uses, thus the demand increases.

Exceptions to the Law of Demand:

Inferior Goods (Giffen’s paradox):

• The law of demand does not apply in case of inferior goods. When the price of an inferior commodity decreases and it is found that the demand for the commodity decrease and the savings are used to spend on the superior commodity.
• For example, the wheat and rice are superior food grains while maize is inferior food grain. The fall in the price of maize decreases the consumption of maize and increases the consumption of wheat and rice.

Demonstration Effect (Veblen’s Effect):

• The law of demand does not apply in case of luxurious goods like diamonds, jewellery, precious stones, world-famous paintings, things used by famous personalities, antiques, etc.  There is more demand when prices are high. The rich people like to demonstrate such items that only they have such commodities.
• These goods are not bought for the satisfaction but for their ‘snob appeal’ or ‘ostentation’. The prestige of owning such goods is important than satisfaction.

Fear of Shortage:

• When there is an anticipation of a shortage of the commodity in near future due to the possibility of war or natural calamity like famine, consumer start buying the commodity at the available price, even at higher price.

Fear of Future Rise in Price:

• When there is an anticipation of a rise in the price of the commodity consumer start buying the commodity at the available price, even at the higher price and start stocking up the commodity. This phenomenon is called hoarding. Actually, it increases the price of the commodity further.

Speculation:

• The speculators buy or sell the commodity with the hope that the price may rise or fall in a short period to maximize speculative profit. This is mainly observed in the stock market and commodity markets.

Ignorance of Consumers:

• The consumer usually judges the quality of a commodity from its price. A low priced commodity is considered as inferior and less quantity is purchased. A high priced commodity is treated as superior and more quantity is purchased. Thus low-quality product may be purchased at a higher price, and it is just due to ignorance. The law of demand is not applicable in such a case.

Emergencies:

• During emergency periods like war, famine, flood, cyclone, earthquake, accidents. etc.people by certain commodities even their prices are high.

Necessaries: 

• These are the items purchased by consumers whatever may be the price. A consumer buys these commodities (staples, food material, clothing) irrespective of their higher price.

Conspicuous Consumption:

• These are the commodities though their prices are increasing due to their special uses in modern life. Examples of such goods are high-end mobiles, motorcycles, cars etc.

Out of Trend or Fashion:

• As the commodity or the good is out of fashion, irrespective of low prices their sell is less. Example: 2G mobile phones without internet facilities.

Less Supply:

• There is a difference between the fear of shortage and less supply. Fear of shortage is an assumption while less supply is an actual condition. The law of demand does not work when there is less supply of the commodity. The people buy more of the commodity in spite of its high price.

Depression:

• The prices of commodities are low but there is no increase in demand due to the low purchasing power of people i.e. less disposable income.

Importance of the Law of Demand:

Price Determination:

• An economist can know the effect on demand due to increase or decrease in price and using the demand schedule and the law of demand he/she can determine the price of a commodity.

The policy of Tax on Commodities:

• The finance minister decides the policy using this law. The effect of the tax on different commodities is checked. The commodity must be taxed if its demand is relatively inelastic. A commodity cannot be taxed if its sales fall to a great extent.

Agricultural Prices:

• The law of demand helps to fix floor prices for agricultural commodities. When there are good crops, the prices come down. In the case of bad crops, the prices go up if demand remains the same.

Fiscal Policy of Central Bank:

• Government and central bank use the law of demand effectively to control inflation, deflation, and recession. During the expansion phase of the business cycle the central bank tries to reduce demand for all goods and services by raising the price of everything. It does this with contractionary monetary policy (It increases the lending rate). It increases interest rates on loans and mortgages. Thus in chain action price of everything increases. The inflation of 2 % per year is maintained.
• During a recession or the contraction phase of the business cycle, the central bank uses expansionary monetary phase (lowering of interest rates). Thus in chain action price of everything decreases.

Planning:

• An individual demand schedule is used in planning for individual goods and industries. The effect of the change in price on the demand of commodity at national and world level is studied. Using outcome planning is done.

Changes or Shift in Demand:

• If demand changes due to change in price only, then the expansion or contraction of demand can be explained on the basis of one demand curve only.
• If the demand changes due to any other factor then there is either an increase or decrease in the demand. If the demand increases the new demand curve is shifts towards the right of the normal demand curve. It is called a forward shift. If the demand decreases the new demand curve is shifts towards the left of the normal demand curve. It is called a backward shift.

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• In any choice problem, there is a feasible set of alternatives. The alternatives which are available to the individual constitute this feasible set.
• The individual is assumed to be clear in her mind about her likes and dislikes (preferences) and has the capacity to compare any two alternatives (rational) in the feasible set using this capacity it can prepare the order of preferences starting from the best. The feasible set and the preference relation defined over the set of alternatives together constitute the basis of choice.

Demand:

• In economics the meaning of desire is different from desire, want, need, will or wish. In economics, the word demand has three constituent.

Demand = Desire to buy + Ability to pay + Willingness to play

If any of this condition is not satisfied, it is not a demand.

• Demand is an economic concept that describes a consumer’s desire, ability, and willingness to pay a price for a specific good or service. The demand depends on the prices of the goods, the consumer’s income, and his/her preferences.

Characteristics of Demand:

• It is backed by adequate purchasing power.
• It is always at some price.
• It is related to time
• It is always expressed in a specific quantity.

Demand Schedules:

• The demand schedule shows exactly how many units of a good or service will be bought at each price. They are further classified as

Individual Demand Schedule:

• It is a list of various amounts of a commodity that an individual consumer is willing to buy (and seller to sell) at different prices at a particular period of time.

• From the demand schedule, we can observe that the demand is inversely proportional to price. i.e. as the price decreases then the demand increases and when price increases the demand decreases.

Market Demand Schedule:

• When the demand schedules of all buyers are taken together, we get the aggregate or market demand schedule.

What is a Function?:

• Consider any two variables x and y. A function y = f (x) is a relation between the two variables x and y such that for each value of x,
  there is a unique value of the variable y. Thus f (x) is a rule which assigns a unique value y for each value of x.
• The value of y depends on the value of x, hence y is called the dependent variable and x is called the independent variable.
• A function y = f (x) is an increasing function if the value of y does not decrease with an increase in the value of x. It is a decreasing function if the value of y does not increase with the increase in the value of x.
• The relation between y and x can be shown graphically.  Usually, in a graph, the independent variable is plotted along the horizontal axis (x-axis) and the dependent variable is measured along the vertical axis (y-axis). However, in economics, often the opposite is done. For example, to plot the demand curve, the independent variable (price) is taken along the vertical axis (y-axis) and the dependent variable (quantity) along the horizontal axis (x-axis). 
• The graph of an increasing function is upward sloping or and the graph of a decreasing function is downward sloping.

Demand Function:

• The demand for a product or service is affected by the income of an individual, availability of other substitutes, the price of other substitutes, population, habit etc. Thus demand is a function of demand of commodity, price of commodity, price of the compliment, income of the consumer, tastes and preferences of consumers, impact of advertisement, price of the substitute, expected future price, expected income in future, wealth of consumer and other factors which may impact the demand (for e.g. weather conditions, inflation, deflation, standard of living, composition of population, culture, customs, fashions, styles, etc.).
• If the prices of other goods, the consumer’s income and his/her tastes and preferences remain unchanged, the amount of a good that the consumer optimally buys, becomes entirely dependent on its price. The relation between the consumer’s optimal choice of the quantity of a good and its price is very important and this the relation is called the demand function.

q = f(p)

Where q is demand (quantity) whose value depends on p the price.

q is the dependent variable while p is the independent variable.

Demand Curve:

• The demand curve is a graphical representation of how many units of a good or service will be bought at each possible price. It plots the relationship between quantity and price that’s been calculated on the demand schedule.
• The graphical representation of the demand function is called the demand curve.

• The negative slope of the demand curve shows that the quantity demanded goes on increasing with the increase as price falls and vice versa.

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