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Demand

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Demand

Is there a particular item in your mind that you would like to purchase, but are unable to afford at the moment? Would it be correct to call this ‘demand’? Contrary to what you might think, it turns out it isn’t correct. Economists use the term ‘demand’ only if it is backed by the capacity to pay for a good or service. Interested? Read on to find out more.

What is the definition of demand?

The most common use of the term ‘demand’ in theory refers to the households’ demand for the goods and services produced by firms. However, to call it ‘demand’, there is one more condition that needs to be satisfied: the demand needs to be ‘effective’. In other words, the consumer must not only be willing to buy a product or a service but also they must be able to pay for it.

Demand is the quantity of a good or service the consumer is willing and able to purchase at various price levels.

Market and individual demand

There is an important difference between the market and the individual demand. Whenever economists use the word ‘demand’, it means, in a majority of cases, ‘market demand’.

Market demand is the quantity that all the consumers in a particular market are willing and able to purchase at various price levels.

The market demand curve represents an aggregation of individuals’ preferences and therefore comprises a sum of all individual demand curves.

Individual demand refers to the quantity that a single consumer is willing and able to purchase at various price levels.

The law of demand

The law of demand states that as the price of a good falls, the quantity demanded increases as consumers are willing to buy more units of a good at a lower price. The reverse is also true. As the price of a good rises, the quantity demanded decreases as consumers are willing to buy fewer units of a good at a higher price.

There is an inverse relationship between the price and the demanded quantity of a good. Figure 1 below shows a movement along the demand curve for a price rise and a price fall.

Demand Movements along the demand curve StudySmarter OriginalsFigure 1. Movements along the demand curve, StudySmarter Originals

An increase in price from P1 to P2, leads to a decrease in the quantity demanded. Demand falls from Q1 to Q2. A decrease in price from P1 to P3, leads to an increase in the quantity demanded from Q1 to Q3.

The proportion in which the quantity demanded changes based on price changes depends on a number of different factors.

You can learn more about this in the Price Elasticity of Demand explanation.

Demand curves

The demand curve is a curve that shows how the quantity demanded of a good changes in relation to changes in the good’s price.

The demand curve is usually drawn as a downward-sloping straight line. It slopes downwards due to the law of demand. In some cases, the curve won’t be straight or linear, hence the name: the demand curve. In this explanation, we will stick to linear demand curves.

Demand curve diagram

The demand curve for a good or service can be drawn on a diagram. Figure 2 below depicts a demand curve for a good. On the vertical axis there is price, and on the horizontal axis, there is quantity demanded.

At price P1, the quantity that consumers are willing to purchase is Q1. As the quantity demanded is inversely proportionate to the price of a good, an increase in the price from P1 to P2 will reduce the quantity that the consumers are willing to buy from Q1 to Q2.

Demand The demand curve StudySmarter OriginalsFigure 2. The demand curve, StudySmarter Originals

A numerical example of the demand curve

There is a general equation for the linear demand curves.

The linear demand function is:

or

where a and b are constants.

Constant a accounts for non-price factors that shift the demand curve, whilst constant b accounts for the slope of the demand curve.

Consider the following equation, which is illustrated in Figure 3 below:

Q = 100 – 2*P

It follows that: a = 100 and b = -2

Demand Numerical example of the demand curve StudySmarter OriginalsFigure 3. Numerical example of the demand curve, StudySmarter Originals

The demand curve crosses the horizontal axis (Q) at point C where P=0 and Q=100.

A general way of finding where the demand curve crosses the Q axis is: set P=0 and find Q from the equation. Alternatively, set Q=a (where a is a constant from the general equation for Q).

The demand curve crosses the vertical axis (P) at point B where Q=0 and P=50.

A general way of finding where the demand curve crosses the P axis: set Q=0 and find P from the equation.

The midpoint of the demand curve is at point A where Q=50 and P=25.

Refer to Figure 3 for visualisation.

The general formula for the midpoint of the demand curve is to set Q=a/2 (where a is a constant from the general equation for Q). Then insert the obtained Q into the equation to find the price. Check that the equation is satisfied.

Demand vs quantity demanded

In economics, demand is not the same as the quantity demanded. Demand refers to demand over different price levels (the demand curve), while quantity demanded is a single quantity that can be ‘read off’ the demand curve at a particular price level.

Movement along vs parallel shifts in the demand curve

There are various factors that affect the demand curve. Changes in the price will lead to a movement along the demand curve, whilst changes in all other factors will lead to parallel shifts of the demand curve.

Movement along the demand curve

Demand is affected by many factors, but we assume ceteris paribus, and keep these factors constant. Subsequently, any changes in the price of a good will lead to a movement along the demand curve.

Ceteris paribus is Latin for ‘other things equal’.

When the price increases, the quantity demanded decreases, leading to a movement along the demand curve known as a contraction of demand. Figure 4 below illustrates the contraction of demand.

Demand Contraction of demand StudySmarter OriginalsFigure 4. Contraction of demand, StudySmarter Originals

An increase in the price of clothes from P1 to P2 will lead to a fall in the quantity demanded from Q1 to Q2, and a movement along the demand curve from point 1 to point 2, or a contraction of demand.

When the price decreases, the quantity demanded increases, leading to a movement along the demand curve known as an extension of demand. Figure 5 below illustrates the extension of demand.

Demand Extension of demand StudySmarter OriginalsFigure 5. Extension of demand, StudySmarter Originals

A decrease in the price of burgers from P1 to P2 will lead to an increase in the quantity demanded from Q1 to Q2, and a movement along the demand curve from point 1 to point 2, or an extension of demand.

Parallel shifts in the demand curve

When non-price factors are held constant while drawing the demand, the demand curve shifts.

A shift to the right is known as an outward shift. It occurs when a change in any factor affecting demand results in an increase in demand such that more quantities are demanded at each price level.

As Figure 6 shows, the initial demand curve D1 shifts in parallel to the right to D2. At a fixed price level P the quantity demanded increases from Q1 to Q2.

Demand Outward shift of the demand curve StudySmarter OriginalsFigure 6. Outward shift of the demand curve, StudySmarter Originals

An increase in consumers’ disposable income would shift the demand curve for clothes to the right. This would result in more quantity demanded at each price level as shown in Figure 6.

A shift to the left is known as an inward shift. It occurs when a change in any factor affecting demand results in a decrease in demand such that fewer quantities are demanded at each price level.

As Figure 7 shows, the initial demand curve D1 shifts in parallel to the left to D2. At a fixed price level P the quantity demanded decreases from Q1 to Q2.

Demand Inwards shift of the demand curve StudySmarter OriginalsFigure 7. Inwards shift of the demand curve, StudySmarter Originals

A fall in the price of Apple smartphones (a substitute good for Samsung smartphones) would result in consumers switching away from Samsung to Apple smartphones, ceteris paribus. This will shift the demand curve for Samsung smartphones to the left resulting in less quantity demanded at each price level as shown in Figure 7.

Multiple factors affecting the demand curve simultaneously

If there are multiple factors affecting the demand curve at once, the final demand curve will be a sum of all these factors together, taking their magnitude into account.

In Figure 8 below, there is an outward shift in the demand curve. It shifts from D1 to D2, causing an increase in the quantity demanded from Q1 to Q2. But at the same time, there could also be a factor that surpasses demand and causes the demand curve to shift inward. The demand curve shifts from D2 to D3 and the quantity demanded falls from Q2 to Q3. Overall, the resulting shift in the demand curve is an outward shift as D3 is to the right of D1. The magnitude of the increase in demand is greater than the decrease in demand.

Consider the demand for food delivery services over the pandemic. As consumers couldn’t physically order in store, there was an increase in demand for food delivery services such as Deliveroo or Just Eat. This would shift the demand curve for takeaway deliveries from D1 to D2 as Figure 8 below shows. However, many lost their jobs and the furlough scheme was their only source of income. That reduction in disposable income would result in less consumption and so the demand curve would shift from D2 to D3.

Demand Multiple factor shift of demand curve StudySmarter OriginalsFigure 8. Multiple factor shift of demand curve, StudySmarter Originals

What are the main demand determinants?

Demand determinants are all the factors, apart from the price, that affect demand. These are held constant when the demand curve is drawn as a function of price.

The main demand determinants

The main demand determinants are:

  1. The price of substitutes. If the price of a competing product decreases, the demand curve for its substitute will shift outwards.
  2. The price of complements. If the price of a good in joint demand increases, the demand curve for its complement will shift inwards.
  3. Consumers’ disposable income. If consumers’ disposable income increases, the demand curve for a good will shift outwards.
  4. Consumer preferences and tastes. Tastes and preferences may be influenced by advertising. If a company pursued a successful advertising strategy, the demand curve for their product will shift outwards.
  5. Population. An increase in population will mean that there is more demand for a good, which would shift its demand curve outwards.
  6. Seasonality. There are some goods such as Christmas decorations, which are in high demand at the end of the year. This leads to an outward shift in their demand. They are in low demand throughout the rest of the year, which leads to an inward shift in their demand.

Check your understanding

Think of how the above examples would affect the demand curve for a normal good. Think of more examples of non-price factors that may affect the demand curve. Can you name any specific and recent real-world examples for such shifts? Can you differentiate between short-term and long-term shifts in demand?

For more on the determinants of demand for substitutes and complements check our explanation on the Cross-Price Elasticity of Demand.

For more on the determinants of demand for normal and inferior goods check our explanation on the Income Elasticity of Demand.

Demand - Key takeaways

  • The most common use of the term ‘demand’ in theory refers to the households’ demand for the goods and services produced by firms.
  • Effective demand is the demand for a good or a service that exists because it satisfies two conditions: the utility constraint and the budget constraint.
  • The market demand curve represents an aggregation of individuals’ preferences and therefore comprises a sum of all individual demand curves.
  • The law of demand states that there is an inverse relationship between the price and the quantity demanded of a good.
  • The demand curve is a curve that shows how the quantity demanded of a good changes in relation to changes in the price of the good.
  • There is a general equation for the linear demand curves.
  • Changes in the price will lead to a movement along the demand curve, whilst changes in all other factors will lead to parallel shifts in the demand curve.
  • The main demand determinants are the price of substitutes, the price of complements, disposable income, preferences and tastes, population, and seasonality.

Frequently Asked Questions about Demand

For a quantity of a good or service to be termed ‘demand’, it needs to be ‘effective’. In other words, the consumer must not only be willing to buy a product or a service but they must also be able to pay for it.

The demand curve is usually drawn as a downward sloping straight line. It slopes downwards due to the law of demand, which states that consumers are prepared to buy more units of a good at a lower price. In some cases the curve won’t be straight or linear, hence the name: the demand curve.

Use a general equation for the linear demand curves: Q = a – b * P

An increase in consumers’ disposable income would shift the demand curve for clothes to the right, resulting in more quantity demanded at each price level. A decrease in consumers’ disposable income would shift the demand curve for clothes to the left resulting in less quantity demanded at each price level.

There is an inverse relationship between the price and a good’s quantity demanded.

Final Demand Quiz

Question

__________ is the quantity that all the consumers in a particular market are willing and able to purchase at various price levels.  

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Answer

Market demand

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Question

___________ refers to the quantity that a single consumer is willing and able to purchase at various price levels. 

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Answer

Individual demand

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Question

The law of demand states that as the price of a good falls, the quantity demanded ___________.

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Answer

increases

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Question

The price and quantity demanded have a(n) ___________ relationship.

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Answer

inverse

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Question

A _________ shows how the quantity demanded of a good changes in relation to changes in the good’s price.  

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Answer

demand curve

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Question

In economics, demand is the same as the quantity demanded.  

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Answer

False

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Question

What is the assumption made while plotting a demand curve?

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Answer

That all the other factors are constant, or Ceteris paribus.

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Question

Which of the following depicts an extension of demand?

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Answer

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Question

Which of the following depicts an inward shift of the demand curve?

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Answer

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Question

Select the diagram depicting an outward shift in the demand curve.

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Answer

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Question

What does this graph represent?

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Answer

Multiple factor shift of demand curve

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Question

The main demand determinants include: 

  1. _________________
  2. Price of complements
  3. _________________
  4. _________________
  5. Population
  6. Seasonality.

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Answer

  1. Price of substitutes
  2. Price of complements
  3. Disposable income
  4. Preferences and tastes
  5. Population
  6. Seasonality.

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