1.2.2

Demand

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The Relationship Between Price and Quantity Demanded

The demand curve illustrates the relationship between quantity demanded and price.

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Price and quantity demanded

  • Price is what the buyer pays for a specific good or service.
  • Quantity demanded is the total number of units purchased at that price.
  • The demand curve is downward sloping and shows the relationship between price and quantity.
    • This means that the higher the price is, the lower demand is.
  • The law of demand shows the inverse relationship between price and quantity, assuming all other variables are constant.
Illustrative background for Willingness and ability to payIllustrative background for Willingness and ability to pay ?? "content

Willingness and ability to pay

  • Willingness to pay - desire to pay based on tastes and preferences.
  • Ability to pay - factors in a person's income, and whether they can afford the good or service or not.
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Substitutes and complements

  • Substitute goods - an increase in the price of one good will increase the quantity demanded of the other good.
    • E.g Persil and Ariel washing pods.
  • Complement goods - an increase in the price of one good will cause a decrease in the quantity demanded of the other good.
  • E.g flights to Spain and suncream.
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Income and substitution effects

  • Two theories that explain the relationship between price and quantity are:
    • Income effect - when prices fall, consumers can afford a greater quantity of goods and services (assuming income is fixed). So demand for these goods and services increases.
    • Substitution effect - when the price of one good falls, consumers will buy more of the cheaper good or service and less of the more costly good or service. So demand for the cheaper good will increase; demand for the costlier good decreases.

Shifts in the Demand Curve

There are a number of factors that can cause the demand curve to shift.

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Change in demand

  • The demand curve will shift right when there is an increase in demand for the good at each price level.
    • E.g if a product were to suddenly become more popular, the demand curve would shift right.
  • The demand curve will shift left when there is a decrease in demand for the good at each price level.
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Change in income

  • The effect of a change in income depends on the type of good.
  • For a normal good, increased income will lead to an increase in quantity demanded.
    • E.g new cars.
  • For an inferior good, increased income may lead to a reduction in quantity demanded.
    • E.g rice (if more expensive products like meat can be afforded).
Illustrative background for Changes in prices cause a move along the curveIllustrative background for Changes in prices cause a move along the curve ?? "content

Changes in prices cause a move along the curve

  • Movements along the curve happen in response to a price change.
    • A rise in price will lead to a demand contraction.
    • A fall in price will lead to a demand expansion.

Diminishing Marginal Returns

Diminishing marginal returns is the concept that the more of something you add, the lower the impact of each additional unit, assuming all else is fixed.

Illustrative background for The law of diminishing marginal utilityIllustrative background for The law of diminishing marginal utility ?? "content

The law of diminishing marginal utility

  • Marginal utility is the extra benefit to an individual of consuming a good or service.
  • The law of diminishing marginal utility states that the more an individual consumes (ceteris paribus) the utility of the good/service decreases with every additional unit consumed.
Illustrative background for Example of diminishing marginal utilityIllustrative background for Example of diminishing marginal utility ?? "content

Example of diminishing marginal utility

  • Diminishing marginal utility.
  • The first slice of Domino's pizza is very satisfying, but the 100th may not be quite as enjoyable.
  • Your tastes can be satiated (you can have enough of something). Eventually, the marginal utility of another slice of pizza may be negative.
Illustrative background for The demand curveIllustrative background for The demand curve ?? "content

The demand curve

  • The law of diminishing marginal returns can explain why the demand curve slopes downwards. As the quantity purchased rises, the price that consumers are willing to pay falls.
  • Consumers may be willing to pay a lower price for a higher volume because they gain less utility (or satisfaction) from each extra unit.

Jump to other topics

1Introduction to Markets

2Market Failure

3The UK Macroeconomy

4The UK Economy - Policies

5Business Behaviour

6Market Structures

7A Global Perspective

8Finance & Inequality

9Examples of Global Policy

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