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  1. 1. MODULE 2
  2. 2. Introduction • Desire - is just a wish on the part of the consumer to possess a commodity. • Want - If the desire to possess a commodity is backed by the purchasing power and the consumer is also willing to buy that commodity, it becomes want. • Demand – refers to consumer's desire to purchase goods and services and willingness to pay a specific price for them over a period of time. Quantity backed by purchasing power
  3. 3. • According to Prof. Benham, • “The demand for anything at a given price is the amount of it which will be bought per unit of time at that price.” • Demand for a good is the amount of it that a consumer will purchase at a various prices during a period of time.
  4. 4. Determinants of Demand • i) Price of the commodity in question • ii) Prices of other related commodities • iii) Income of the consumers, and • iv) Taste of the consumers.
  5. 5. Demand Function • Demand function refers to the rule that shows how the quantity demanded depends upon above factors. • A demand function can be shown as: Dx = f (Px, Py,Pz, M, T) where, Dx is quantity demanded of X commodity, Px is the price of X commodity, Py is the price of substitute commodity, Pz is price of a complement good, M stands for income, T is the taste of the consumer. Let us assume that the quantity demanded of a commodity X is D x, which depends only on its price P x, while other factors are constant. It can be mathematically represented as: Dx = f (Px)
  6. 6. LAW OF DEMAND MEANING • The inverse relationship between the quantity of a commodity and its price, given all other factors that influence the demand remain constant, is called ‘law of demand’. DEFINITION • According to Samuelson: “ Law of demand states that people will buy more at lower prices and buy less at higher prices, if other things remains the same( ceteris paribus).
  7. 7. ASSUMPTIONS OF THE LAW • According to Stigler and Boulding, the law of demand based on the following assumptions: 1. There should be no change in the income of consumers. 2. There should be no change in the taste and preferences of the consumer. 3. There should be no change in the prices of related goods. 4. There should be no change in the size of population. 5. Consumer is a rational consumer. 6. There should be no expectation of rise or fall in price of related goods in future. 7. There should be perfect competition in the market.
  8. 8. Demand Schedule • Demand Schedule - It shows the relationship between price and quantities demanded at different Demand Schedule
  9. 9. Demand curve • Demand curve is a graphical presentation of demand schedule. • The demand curve is a graph that depicts the connection between price and quantity demanded by consumers. The graph shows how the price of a commodity or service varies as the quantity demanded rises. • Once plotted, the demand curve slopes downward, from left to right. As prices increase, consumers demand less of a good or service.
  10. 10. Why does a Demand Curve Slope Downwards? • Substitution Effect • Income Effect • Price Effect • Psychological effect • Law of diminishing marginal utility • New consumer
  11. 11. Exceptions to the law of demand 1. Prestigious goods: Veblen effect---According to Veblen (American economist) some consumer measure the utility of commodity by its price, they consider greater the price of a commodity, the greater its utility. So in case of Veblen goods people buy more at higher prices just to show off their status .for example, diamonds are considered prestige goods in the society and for upper strata of a society the higher the price of diamond higher the prestige value for them. 2. Giffen goods—Sir Robert Giffen observed that in case of inferior goods with the fall in prices people buy less quantities of it, because they are ready to purchase some superior goods as with the fall in price their Real income increased. After the name of Sir Robert Giffen, such goods in whose case there is a direct relationship are called Giffen goods.
  12. 12. 3. Expectations—people will buy more even when there is increase in prices , if they expect that price may rise in near future. Similarly they will buy less even at lower prices if they expect that prices of commodities goes down in near future. So that is the reason of upward sloping of demand curve. 4. During war or emergency—during the period of war, people may start buying for hoarding or building stocks even at higher prices. But in case of depression, they will less even at lower prices. 5. Ignorance—some consumers think that more will be the price higher will be the quality. Or sometimes they purchases good at higher prices out of sheer ignorance
  14. 14. Change in demand
  15. 15. • CHANGE IN QUANTITY DEMANDED – When the demand for a commodity changes because of the change in its price, it is called ‘change in quantity demanded’. This change is called Movement along the demand curve. • CHANGE IN DEMAND – when the change in demand is due to the factors other than its price cause a change it is called ‘change in demand’. This change is called Shift of demand curve.
  16. 16. Extension and Contraction in Demand or Movement along demand curve. It happens when reason of change in demand is price only. Extension(expansion) - If a fall in the price causes the quantity demanded to rises, it is called extension in demand. Contraction - If with a rise in the price of a commodity, its quantity demand falls, we call it contraction in demand.
  17. 17. Extension of demand Price (per Unit) Quantity Demanded 5 14 4 16 3 18 2 20
  18. 18. Contraction in demand Price (per Unit) Quantity Demanded 2 20 3 28 4 16 5 14 Demand
  19. 19. Increase and decrease in demand curve or Shift of demand curve • When demand changes due to change in other factors instead of price like fashion, taste and preference. It is increase or decrease in demand. • Increase in demand - (a) same price , more demand (b)More price, same demand • Decrease in demand—Demand can be decrease in two ways (a) Same price ,less demand (b) Less price, same demand
  20. 20. Increase in Demand • Same price, more demand More price, same demand
  21. 21. Decrease in Demand • Same price, less demand • Less price, same demand
  22. 22. Factors for shift a demand curve • 1) A rise in income of the consumer can enable him to demand more of a commodity at a given price and a fall in income will generally force him to curtail his demand. • 2) A rightward shift in the demand curve can also take place because of increase in price of a substitute. Similarly, a leftward shift in the demand curve can be because of decrease in price of a substitute. • 3) If the consumer develops a taste for a commodity, he may demand more of it even if the price remains unchanged, shifting the demand curve to the right. On the other hand, a leftward shift in the demand curve can indicate that our consumer has started disliking the commodity.
  23. 23. SUPPLY • Supply refers to the quantity of a commodity that producers are willing to sell at different prices per unit of time. Features: 1) The supply of a commodity indicates the offered quantities. In fact, current supply can be different from current production, the difference is accounted for by the changes in the inventories or the stocks. 2) Like the demand, the supply is also with reference to the price at which that quantity is supplied. 3) The supply is a flow. It has a time unit attached therewith. The supply has to be per day/week or month.
  24. 24. Determinants of Supply 1) Price of the commodity supplied 2) The prices of factors of production or cost of production 3) Prices of other goods 4) The state of technology 5) Goals of the producer
  25. 25. THE LAW OF SUPPLY • A producer aims to maximise profits, the difference between total revenue and total cost. Profit = TR – TC TR = Total Revenue (quantity x price). TC = Total Cost (quantity x average cost) A higher price would mean more profits. The producer will supply more at a higher price. Similarly, a producer will supply smaller quantity at a lower price. This is a direct relationship between the price and the quantity supplied of a commodity and is called the ‘Law of Supply’. Thus, the supply function is: S = f (P)
  26. 26. Exceptions to the Law of Supply • Non-maximisation of profits • Factors other than price not remaining constant
  27. 27. Supply Schedule • A supply schedule shows quantities of a commodity that a seller is willing to supply, per unit of time, at each price, assuming other factors remaining constant.
  28. 28. The Supply Curve • Here price is plotted on the Y-axis and quantity supplied on X-axis. • The supply curve S is a smooth curve drawn through the five points a, b, c, d and e. This curve shows the quantity of pens offered for sale at each price. • The supply curve (just like a demand curve) can be linear straight line, or in the shape of an upward slopping curve convex downwards. • The supply curve has positive slope • A rise in price results in greater quantities in greater quantity supplied and lower price results in lower quantity supplied
  29. 29. • CHANGES IN QUANTITY SUPPLIED – There can be changes in the quantity offered for sale due to changes in the price of the commodity only, all other factors remaining constant. This is termed as change in quantity supplied and Movement along the supply curve • CHANGE IN SUPPLY – If supply of a commodity undergoes a change because of changes in factors other than the price of the commodity, we call this change in supply. It is shown by a shift in the position of the supply curve.
  30. 30. Movement along the supply curve • A change in the price of good results in a change in the quantity supplied which will result in the movement along the supply curve • The change in quantity supplied can be of two types, • 1) When the price of a commodity falls and its quantity supplied falls. It is termed as ‘contraction of supply’. • 2) When the price of a commodity rises and its quantity supplied rises, provided the law of supply applies, it is termed as “extension of supply”.
  31. 31. Shift of the supply curve • A decrease in supply: When the quantity of a commodity supplied declines, at the same price it is referred to as a ‘decrease in supply’. It implies a leftward shift of the supply curve. • An increase in supply: When the quantity of a commodity supplied increases, at the same price, it is known as an increase in supply. This is shown by a rightward shift in the supply curve.
  32. 32. Why the Supply Curve Shifts? • Change in the prices of other commodities • Change in the prices of factors of production • Change in technology • Change or expectation of change in other factors
  33. 33. ELASTICITY
  34. 34. MEANING OF ELASTICITY • The elasticity of a variable X with respect to some other variable Y shows responsiveness or sensitivity of X to changes in Y. • The elasticity of X with respect to Y is defined as the ratio of per cent change in X to per cent change in Y. • Symbolically: • We can also write it as: • So the elasticity of demand with respect to a change in their price will be: • Where Q represents quantity of and P represents their price.
  35. 35. Elasticity of Demand • ZERO ELASTICITY A change in price has no impact on the quantity demanded. Such a commodity is, sometimes, called an absolute necessity.
  36. 36. • Infinite Elasticity of Demand A very small fall in price can lead to an extremely large increase in quantity demanded.
  37. 37. Concept of Elasticity of Demand • Law of demand tells that a fall in price will lead to an increase in quantity demanded and vice versa • In addition to the direction of the change in quantity demanded, managers are more interested in finding the magnitude of the change or the degree of responsiveness of consumers to a change in any determinants or variable • To measure this, they use the concept of elasticity of demand. Elasticity of demand measures how much the quantity demanded changes with a given change in a particular determent of demand ( i.e. price of the item, change in consumers’ income, or change in price of related product and advertisement etc.).
  38. 38. 1. Price Elasticity of Demand • The Price Elasticity of Demand is the ratio with which demand for a product will contract or expand with rise or fall in its prices. It is calculated as follow;
  39. 39. The price elasticity of demand falls into three categories: 1. Elastic demand 2. Unit elastic demand 3. Inelastic demand There are two extreme cases: 4. Perfectly elastic demand 5. Perfectly inelastic demand
  40. 40. Methods of Measuring Price Elasticity of Demand 1. Total Expenditure Method 2. Proportionate Method 3. Point Elasticity Method 4. Arc Elasticity Method 5. Revenue Method
  41. 41. 1. Total Outlay Method • Total outlay method of measuring price elasticity of demand was introduced by Dr. Alfred Marshall. According to this method, the price elasticity of a product is measured on the basis of the total amount of money spent (total expenditure) by consumers on the consumption of that product. • In this method, the total expenditure of consumers on the consumption of a particular product before change in the price is compared with the total expenditure of consumers after change in the price of that product. The total expenditure after a given change in the price may be same as the earlier amount, increase, or decrease. • Total Outlay = Price X Quantity Demanded
  42. 42. • This can be expressed with the help of a Chart.
  43. 43. 2. Proportionate Method • This method is also associated with the name of Dr. Marshall. According to this method, “price elasticity of demand is the ratio of percentage change in the amount demanded to the percentage change in price of the commodity.” • It is also known as the Percentage Method, Flux Method, Ratio Method, and Arithmetic Method
  44. 44. 3. Point Method • the price elasticity of demand varies at different points in the given demand curve. Therefore, it is measured separately at different points in the given demand curve. • The formula for calculating price elasticity of demand through point method is as follows: • e = ∆Q/∆P * P/Q
  45. 45. • Linear Demand Curve: Involves the determination of elasticity at any point on a straight line. • Non-Linear Demand Curve: Involves determining the point elasticity of demand at any given point by drawing a tangent. The tangent drawn on a non-linear curve touches the curve at a point where the elasticity of demand needs to be determined. The tangent separates the demand curve into two halves. The price elasticity of demand can be determined by dividing the lower half of the demand curve with the upper half of the demand curve.
  46. 46. 4. Arc Elasticity Method • While point elasticity measures the price elasticity of demand at a point on the demand curve, arc elasticity method measures the price elasticity of demand between any two points on the demand curve.
  47. 47. 5. Revenue Method • Elasticity of demand can be measured with the help of average revenue and marginal revenue. Therefore, sale proceeds that a firm obtains by selling its products are called its revenue. However, when total revenue is divided by the number of units sold, we get average revenue. • On the contrary, when addition is made to the total revenue by the sale of one more unit of the commodity is called marginal revenue. Therefore, the formula to measure elasticity of demand can be written as, • EA = A/ A-M • Where Ed represents elasticity of demand, • A = average revenue and • M = marginal revenue.
  48. 48. Determinants of Price Elasticity of Demand 1. The availability of close substitutes 2. The importance of the product's cost in one's budget 3. Number of uses of the good 4. Income of consumer 5. How high the price of the good is 6. Nature of the good 7. The period of time under consideration 8. Joint Demand 9. Time elapsed since a price change
  49. 49. 2. Income Elasticity of Demand • Income elasticity of demand measures the percentage change in a buyer's purchase of a product as a result of a percentage change in her/his income. So income elasticity of demand is
  50. 50. Characteristics • Ey > 1, QD and income are directly related. This is a normal good and it is income elastic. • 0< Ey< 1, QD and income are directly related. This is a normal good and it is income inelastic. • Ey < 0, QD and income are inversely related. This is an inferior good • Ey approaches 0, QD stays the same as income changes, indicating a necessity.
  51. 51. 3. Cross Price Elasticity of Demand • In the case of a product that has a substitute (like oranges and apples), the price change of one product affects the demand for the other. Cross price elasticity of demand measures this effect. So Cross elasticity of demand is; • for substitute goods • for complementary goods
  52. 52. Limitations of the Concepts of Elasticity of Demand • Irrelevant and Unreliable Data • Unrealistic Assumption
  54. 54. Meaning of Elasticity of Supply : • The elasticity of supply is the responsiveness of quantity supplied of a product to changes in one of the variables on which supply depends. According to basic economic theory, the supply of a commodity increases with a rise in price and decreases with a fall in price. Definition: According to Bilas, • “Elasticity of Supply is defined as the percentage change in quantity supplied divided by percentage change in price.”
  55. 55. • It can be calculated by using the following formula: • ES = % change in quantity supplied/% change in price • Symbolically, • ES = ∆Q/Q ÷ ∆P/P = ∆Q/∆P × P/Q
  56. 56. Degrees of elasticity of supply 1.Perfectly elastic 2.Perfectly inelastic 3.Unitary elastic 4.Relatively elastic 5.Relatively inelastic
  57. 57. Perfectly Elastic Supply • The supply is said to be perfectly elastic when a small rise in price would result in supply to become infinite, while a small fall in price would result in a fall in supply to zero. It is also known as infinite elasticity. • This is shown by a straight line supply curve parallel to the horizontal axis. • For Example, • Suppose the price of a commodity is Rs.10 and its Supply is 50 units. As the price increases to Rs.15, its supply increases to infinity.
  58. 58. Perfectly Inelastic Supply • When the supply doesn’t change with the change in price(whether falling or rising), the supply is said to be perfectly inelastic. It means supply remains constant against any value of price in the market. This is represented by a straight line parallel to the vertical axis. • For example, • Suppose the price of a commodity is Rs 10, and supply is 200 units. As the price increases to Rs 20, the Supply remains constant at 200 units. It implies that the supply is perfectly inelastic.
  59. 59. Unitary Elastic Supply • When the change in the supply of a commodity is in the same ratio as the change in its price, it is known as unitary elastic supply. • For Example, • Suppose the price of a commodity is Rs.50 and the quantity supplied in a specific market is 200 units. As the price increases to Rs.55, its supply rises to 220 units. It implies the unitary elastic supply.
  60. 60. Elastic Supply • Relatively Elastic Supply occurs when the proportionate change in supply is greater than proportionate change in price. It means that there will be a greater change in supply due to a small change in price. It is also known as highly elastic supply and more than unitary elastic supply. • For Example, • Suppose the price of a commodity is Rs50 and quantity supplied is 200 units. As the price increases to Rs55, its supply increases to 250 units. It implies the supply to be relatively elastic. •
  61. 61. Inelastic Supply • The supply is said to be relatively inelastic when a proportionate change in quantity supplied is less than proportionate change in price. It means that greater change in price leads to a smaller change in quantity supplied. • For Example, • Suppose the price of a commodity is Rs50 and quantity supplied is 200 units. As the price increases to Rs70, its supply increases to 220 units. It implies the supply to be relatively inelastic.
  62. 62. Measurement of elasticity of supply • Following two methods of the measurement of elasticity of supply are discussed: (1) Percentage or Proportionate Method. (2) Geometric or Diagrammatic Method. •
  63. 63. .Proportionate or Percentage Method • According to this method, the elasticity of supply can be defined as the ratio between ‘percentage change in quantity supplied’ and ‘a percentage change in price’ of the commodity. • Es= Percentage change in quantity supplied/Percentage change in price
  64. 64. Geometric Method : • Geometrically, the elasticity of supply depends on the origin of the supply curve. Assuming the supply curve to be a straight line and positive sloped, the geometric method measures the elasticity of supply as follows:
  65. 65. Factors affecting of elasticity supply (1) Nature of the inputs used (2) Natural constraints (3) Risk taking (4) Nature of the commodity (5) Cost of production (6) Time factor (7) Technique of production
  66. 66. Demand Forecasting
  67. 67. MEANING • In Demand estimating manager attempts to quantify the links or relationship between the level of demand and the variables which are determinants to it and is generally used in designing pricing strategy of the firm. In demand estimation manager analyse the impact of future change in price on the quantity demanded. Firm can charge a price that the market will ready to wear to sell its product. Over estimation of demand may lead to an excessive price and lost sales whereas under estimates may lead to setting of low price resulting in reduced profits. In demand estimation data is collected for short period usually a year or less and analysed in relation to various variables to know the impact of each variables mainly the price on the demand behaviour of the customers. It is for a short period.
  68. 68. Features of Demand Forecasting • The main features of the demand forecasting are; 1. Demand Forecasting is a process to investigate and measure the forces that determine sales for existing and new products. 2. It is an estimation of most likely future demand for a product under given business conditions. 3. It is basically an educated and well thought out guesswork in terms of specific quantities 4. Demand Forecasting is done in an uncertain business environment. 5. Demand Forecasting is done for a specific period of time (i.e. the sufficient time required to take a decision and put it into action). 6. It is based on historical and present information and data. 7. It tells us only the approximate expected future demand for a product based on certain assumptions and cannot be 100% precise.
  69. 69. Demand Forecasting Process 1. Specifying the objective of Demand Forecasting 2. Determining the nature of goods 3. Determining the time perspective 4. Determining the level of forecasting 5. Selection of proper method or technique of forecasting 6. Data Collection and modification 7. Data analysis and estimations
  70. 70. Methods of Demand Forecasting