Demand curve - AbsoluteAstronomy.com

Economics

Economics is the social science that analyzes the production, distribution, and consumption of goods and services. The term economics comes from the Ancient Greek from + , hence "rules of the house"...

, the demand curve is the graph

Graph of a function

In mathematics, the graph of a function f is the collection of all ordered pairs . In particular, if x is a real number, graph means the graphical representation of this collection, in the form of a curve on a Cartesian plane, together with Cartesian axes, etc. Graphing on a Cartesian plane is...

depicting the relationship between the price of a certain commodity

Commodity

In economics, a commodity is the generic term for any marketable item produced to satisfy wants or needs. Economic commodities comprise goods and services....

, and the amount of it that consumers are willing and able to purchase at that given price. It is a graphic representation of a demand schedule. The demand curve for all consumers together follows from the demand curve of every individual consumer: the individual demands at each price are added together.

Demand curves are used to estimate behaviors in competitive markets

Perfect competition

In economic theory, perfect competition describes markets such that no participants are large enough to have the market power to set the price of a homogeneous product. Because the conditions for perfect competition are strict, there are few if any perfectly competitive markets...

, and are often combined with supply curves to estimate the equilibrium price (the price at which sellers together are willing to sell the same amount as buyers together are willing to buy, also known as market clearing

Market clearing

In economics, market clearing refers to either# a simplifying assumption made by the new classical school that markets always go to where the quantity supplied equals the quantity demanded; or# the process of getting there via price adjustment....

price) and the equilibrium quantity (the amount of that good or service that will be produced and bought without surplus/excess supply or shortage/excess demand) of that market. In a monopolistic market, the demand curve facing the monopolist is simply the market demand curve.

Characteristics

According to convention, the demand curve is drawn with price on the vertical axis and quantity on the horizontal axis. The function actually plotted is the inverse demand function

Inverse demand function

In economics, an inverse demand function, P = f−1,is a function that maps the quantity of output demanded to the market price for that output. Quantity demanded, Q, is a function of price; the inverse demand function treats price as a function of quantity demanded, and is also called the price...

.

The demand curve usually slopes downwards from left to right; that is, it has a negative association (for two theoretical exceptions, see Veblen good and Giffen good

Giffen good

In economics and consumer theory, a Giffen good is one which people paradoxically consume more of as the price rises, violating the law of demand. In normal situations, as the price of a good rises, the substitution effect causes consumers to purchase less of it and more of substitute goods...

). The negative slope is often referred to as the "law of demand

Law of demand

In economics, the law of demand is an economic law that states that consumers buy more of a good when its price decreases and less when its price increases ....

", which means people will buy more of a service, product, or resource as its price falls. The demand curve is related to the marginal utility

Marginal utility

In economics, the marginal utility of a good or service is the utility gained from an increase in the consumption of that good or service...

curve, since the price one is willing to pay depends on the utility

Utility

In economics, utility is a measure of customer satisfaction, referring to the total satisfaction received by a consumer from consuming a good or service....

. However, the demand directly depends on the income of an individual while the utility does not. Thus it may change indirectly due to change in demand for other commodities.

Demand schedule

A demand schedule is a table that lists the quantity of a good a person will buy at each different price The demand curve is a graphical depiction of the relationship between the price of a good and the quantity of the good that a consumer would demand under certain time, place and circumstances. The demand relationship can also be expressed mathematically: Q = f(P; Y, P_rg, Pop, X) where Q is quantity demanded, P is the price of the good, P_rg is the price of a related good, Y is income, Pop is population and X is the expectation of some relevant future variable such as the future price of the product. The semi-colon means that the arguments to its right are held constant when the relationship is plotted two-dimensionally in (price, quantity) space. If one of these other variables changes the demand curve will shift. For example, if the population increased then there would be an outward (rightward) shift of the demand curve, since more consumers would mean higher demand. This shift is referred to as a change in demand and results from a change in the constant term. Movements along the demand curve occur only when quantity demanded changes in response to a change in price.

Linear demand curve

The demand curve is often graphed as a straight line of the form Q = a - bP where a and b are parameters. The constant “a” “embodies” the effects of all factors other than price that affect demand. If for example income were to change the effect of the change would be represented by a change in the value of a and be reflected graphically as a shift of the demand curve. The constant “b” is the slope of the demand curve and shows how the price of the good affects the quantity demanded.

The graph of the demand curve uses the inverse demand function in which price is expressed as a function of quantity. The standard form of the demand equation can be converted to the inverse equation by solving for P or P = a/b - Q/b.

More plainly, in the equation P = a - bQ, "a" is the intercept where quantity demanded is zero (where the demand curve intercepts the Y axis), "b" is the slope of the demand curve, "Q" is quantity and "P" is price.

Shift of a demand curve

The shift of a demand curve takes place when there is a change in any non-price determinant of demand, resulting in a new demand curve. Non-price determinants of demand are those things that will cause demand to change even if prices remain the same—in other words, the things whose changes might cause a consumer to buy more or less of a good even if the good's own price remained unchanged.
Some of the more important factors are the prices of related goods (both substitutes

Substitute good

In economics, one way we classify goods is by examining the relationship of the demand schedules when the price of one good changes. This relationship between demand schedules leads economists to classify goods as either substitutes or complements. Substitute goods are goods which, as a result...

and complements), income, population, and expectations. However, demand is the willingness and ability of a consumer to purchase a good under the prevailing circumstances; so, any circumstance that affects the consumer's willingness or ability to buy the good or service in question can be a non-price determinant of demand. As an example, weather could be a factor in the demand for beer at a baseball game.

When income

Income

Income is the consumption and savings opportunity gained by an entity within a specified time frame, which is generally expressed in monetary terms. However, for households and individuals, "income is the sum of all the wages, salaries, profits, interests payments, rents and other forms of earnings...

rises, the demand curve for normal goods shifts outward as more will be demanded at all prices, while the demand curve for inferior goods shifts inward due to the increased attainability of superior substitutes. With respect to related goods, when the price of a good (e.g. a hamburger) rises, the demand curve for substitute goods (e.g. chicken) shifts out, while the demand curve for complementary goods (e.g. tomato sauce) shifts in (i.e. there is more demand for substitute goods as they become more attractive in terms of value for money, while demand for complementary goods contracts in response to the contraction of quantity demanded of the underlying good).

Demand shifters

Changes in disposable income
Changes in tastes and preferences - tastes and preferences are assumed to be fixed in the short-run. This assumption of fixed preferences is a necessary condition for aggregation of individual demand curves to derive market demand.
Changes in expectations.
Changes in the prices of related goods (substitutes and complements)
Population size and composition

Changes that increase demand

Some circumstances which can cause the demand curve to shift out include:

increase in price of a substitute
decrease in price of complement
increase in income if good is a normal good
decrease in income if good is an inferior good

Changes that decrease demand

Some circumstances which can cause the demand curve to shift in include:

decrease in price of a substitute
increase in price of a complement
decrease in income if good is normal good
increase in income if good is inferior good

Factors affecting market demand

Market or aggregate demand is the summation of individual demand curves. In addition to the factors which can affect individual demand there are three factors that can affect market demand (cause the market demand curve to shift):

a change in the number of consumers,
a change in the distribution of tastes among consumers,
a change in the distribution of income among consumers with different tastes.

Movement along a demand curve

There is movement along a demand curve when a change in price causes the quantity demanded to change. It is important to distinguish between movement along a demand curve, and a shift in a demand curve. Movements along a demand curve happen only when the price of the good changes. When a non-price determinant of demand changes the curve shifts. These "other variables" are part of the demand function. They are "merely lumped into intercept term of a simple linear demand function." Thus a change in a non-price determinant of demand is reflected in a change in the x-intercept causing the curve to shift along the x axis.

Discreteness of amounts

If a commodity is sold in whole units, and these are substantial for a consumer, then the individual demand curve can hardly be approximated by a continuous curve. It is a set function of the price, defined by a price above which no unit is bought, a price range for which one is bought, etc.

Units of measurement

If the local currency is dollars, for example, then the units of measurement of the variable "price" are "dollars per unit of the good" and the units of measurement of "quantity" are "units of the good per time (e.g., per week or per year). Thus quantity demanded is a flow variable.

Price elasticity of demand (PED)

PED is a measure of the sensitivity of the quantity variable, Q, to changes in the price variable, P. Elasticity answers the question of how much the quantity will change in percentage terms for a 1% change in the price, and is thus important in determining how revenue will change.

The elasticity of demand indicates how sensitive the demand for a good is to a price change. If the PED is between zero and 1 demand is said to be inelastic, if PED equals 1, the demand is unitary elastic and if the PED is greater than 1 demand is elastic. A low coefficient implies that changes in price have little influence on demand. A high elasticity indicates that consumers will respond to a price rise by buying a lot less of the good and that consumers will respond to a price cut by buying a lot more.

Taxes and subsidies

A sales tax on the commodity does not directly change the demand curve, if the price axis in the graph represents the price including tax. Similarly, a subsidy on the commodity does not directly change the demand curve, if the price axis in the graph represents the price after deduction of the subsidy.

If the price axis in the graph represents the price before addition of tax and/or subtraction of subsidy then the demand curve moves inward when a tax is introduced, and outward when a subsidy is introduced.