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Home Theory of Demand Law of Demand

Law of Demand:

 

Definition and Explanation of the Law:

 

We have stated earlier that demand for a commodity is related to price per unit of time. It is the experience of every consumer that when the prices of the commodities fall, they are tempted to purchase more. Commodities and when the prices rise, the quantity demanded decreases. There is, thus, inverse relationship between the price of the product and the quantity demanded. The economists have named this inverse relationship between demand and price as the law of demand.

 

Statement of the Law:

 

Some well known statements of the law of demand are as under:

 

According to Prof. Samuelson:

 

"The law of demand states that people will buy more at lower prices and buy less at higher prices, other things remaining the same".

 

E. Miller writes:

 

"Other things remaining the same, the quantity demanded of a commodity will be smaller at higher market prices and larger at lower market prices".

 

"Other things remaining  the same, the quantity demanded increases with every fall in the price and decreases with every rise in the price".

 

In simple we can say that when the price of a commodity rises, people buy less of that commodity and when the price falls, people buy more of it ceteris paribus (other things remaining the same). Or we can say that the quantity varies inversely with its price. There is no doubt that demand responds to price in the reverse direction but it has got no uniform relation between them. If the price of a commodity falls by 1%, it is not necessary that may also increase by 1%. The demand can increase by 1%, 2%, 10%, 15%,  as the situation demands. The functional relationship between demanded and the price of the commodity can be expressed in simple mathematical language as under:

 

Formula For Law of Demand:

 

Qdx = f (Px, M, Po, T,..........)

 

Here:

 

Qdx = A quantity demanded of commodity x.

 

f = A function of independent variables contained within the parenthesis.

 

Px = Price of commodity x.

 

Po = Price of the other commodities.

 

T = Taste of the household.

 

The bar on the top of M, Po, and T means that they are kept constant. The demand function can also be symbolized as under:

 

Qdx = f (Px) ceteris paribus

 

Ceteris Paribus. In economics, the term is used as a shorthand for indicating the effect of one economic variable on another, holding constant all other variables that may affect the second variable.

 

Schedule of Law of Demand:

 

The demand schedule of an individual for a commodity is a Iist or table of the different amounts of the commodity that are purchased the market at different prices per unit of time. An individual demand schedule for a good say shirts is presented in the table below:

Individual Demand Schedule for Shirts:

 

(In Dollars)

Price per shirt 100 80 60 40 20 10
Quantity demanded per year Qdx 5 7 10 15 20 30

 

According to this demand schedule, an individual buys 5 shirts at $100 per shirt and 30 shirts at $10 per shirt in a year.

 

Law of Demand Curve/Diagram:

 

Demand curve is a graphic representation of the demand schedule. According to Lipsey:

 

"This curve, which shows the relation between the price of a commodity and the amount of that commodity the consumer wishes to purchase is called demand curve".

 

It is a graphical representation of the demand schedule.

 

 

In the figure (4.1), the quantity. demanded of shirts in plotted on horizontal axis OX and "price is measured on vertical axis OY. Each price- quantity combination is plotted as a point on this graph. If we join the price quantity points a, b, c, d, e and f, we get the individual demand curve for shirts. The DD/ demand curve slopes downward from left to right. It has a negative slope showing that the two variables price and quantity work in opposite direction. When the price of a good rises, the quantity demanded decreases and when its price decreases, quantity demanded increases, ceteris paribus.

           

Assumptions of Law of Demand:

 

According to Prof. Stigler and Boulding:

 

There are three main assumptions of the Law:

        

(i) There should not be any change in the tastes of the consumers for goods (T).

 

(ii) The purchasing power of the typical consumer must remain constant (M).

 

(iii) The price of all other commodities should not vary (Po).

 

Example of Law of Demand:

 

If there is a change, in the above and other assumptions, the law may not hold true. For example, according to the law of demand, other things being equal quantity demanded increases with a fall in price and diminishes with rise to price. Now let us suppose that price of tea comes down from $40 per pound to $20 per pound. The demand for tea may not increase, because there has taken place a change in the taste of consumers or the price of coffee has fallen down as compared to tea or the purchasing power of the consumers has decreased, etc., etc. From this we find that demand responds to price inversely only, if other thing remains constant. Otherwise, the chances are that, the quantity demanded may not increase with a fall in price or vice-versa.

 

Demand, thus, is a negative relationship between price and quantity.

 

In the words of Bilas:

 

"Other things being equal, the quantity demanded per unit of time will be greater, lower the price, and smaller, higher the price".

 

Limitations/Exceptions of Law of Demand:

 

Though as a rule when the prices of normal goods rise, the demand them decreases but there may be a few cases where the law may not operate.

 

(i) Prestige goods: There are certain commodities like diamond, sports cars etc., which are purchased as a mark of distinction in society. If the price of these goods rise, the demand for them may increase instead of  falling. 

 

(ii) Price expectations: If people expect a further rise in the price particular commodity, they may buy more in spite of rise in price. The violation of the law in this case is only temporary.

(3) Ignorance of the consumer: If the consumer is ignorant about the rise in price of goods, he may buy more at a higher price.

 

(iv) Giffen goods: If the prices of basic goods, (potatoes, sugar, etc) on which the poor spend a large part of their incomes declines, the poor increase the demand for superior goods, hence when the price of Giffen good falls, its demand also falls. There is a positive price effect in case of Giffen goods.

 

Importance of Law of Demand:

 

(i) Determination of price. The study of law of demand is helpful for a trader to fix the price of a commodity. He knows how much demand will fall by increase in price to a particular level and how much it will rise by decrease in price of the commodity. The schedule of market demand can provide the information about total market demand at different prices. It helps the management in deciding whether how much increase or decrease in the price of commodity is desirable.


(ii) Importance to Finance Minister. The study of this law is of great advantage to the finance minister. If by raising the tax the price increases to such an extend than the demand is reduced considerably. And then it is of no use to raise the tax, because revenue will almost remain the same. The tax will be levied at a higher rate only on those goods whose demand is not likely to fall substantially with the increase in price.
 

(iii) Importance to the Farmers. Goods or bad crop affects the economic condition of the farmers. If a goods crop fails to increase the demand, the price of the crop will fall heavily. The farmer will have no advantage of the good crop and vice-versa.

 

Summing up we can say that the limitations or exceptions of the law of demand stated above do not falsify the general law. It must operate.

Relevant Articles:

Meanings of Demand
Law of Demand
Individual's and Market Demand for a Commodity
Movement Vs Shifts of Demand Curve
Non Price Factors or Shifts Factors Causing Changes in Demand
Slope of the Demand Curve
 

Principles and Theories of Micro Economics
Definition and Explanation of Economics
Theory of Consumer Behavior
Indifference Curve Analysis of Consumer's Equilibrium
Theory of Demand
Theory of Supply
Elasticity of Demand
Elasticity of Supply
Equilibrium of Demand and Supply
Economic Resources
Scale of Production
Laws of Returns
Production Function
Cost Analysis
Various Revenue Concepts
Price and output Determination Under Perfect Competition
Price and Output Determination Under Monopoly
Price and Output Determination Under Monopolistic/Imperfect Competition
Theory of Factor Pricing OR Theory of Distribution
Rent
Wages
Interest
Profits
Principles and Theories of Macro Economics
National Income and Its Measurement
Principles of Public Finance
Public Revenue and Taxation
National Debt and Income Determination
Fiscal Policy
Determinants of the Level of National Income and Employment
Determination of National Income
Theories of Employment
Theory of International Trade
Balance of Payments
Commercial Policy
Development and Planning Economics
Introduction to Development Economics
Features of Developing Countries
Economic Development and Economic Growth
Theories of Under Development
Theories of Economic Growth
Agriculture and Economic Development
Monetary Economics and Public Finance
History of Money

 

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