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.
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