Post on 09-Apr-2018
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Managerial Economics II
Operational Issues
Demand
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Demand
Stonier and Hague - Demand ineconomics means demand backedup by enough money to pay for thegoods demanded
Benham - Demand for anything at agiven price is the amount of it,which will be bought per unit of
time at that Price
Demand has three essentials price,quantity demanded and time.
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LAW of Demand
Marshall the amountdemand increases with
a fall in price anddiminishes with a rise
in price
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Demand Schedule
Price of an Orange (In. Rs.) QuantityDemanded
10 1
8 2 6 3
4 4
2 5
The demand curve DD shows the inverserelation between price and quantitydemand ,It is downward sloping , which
can be seen from the chart.
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Demand Curve
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Assumptions - Demand
Law is demand is based on certainassumptions:
There is no change in consumers taste andpreferences.
Income should remain constant.
Prices of other goods should not change.
There should be no substitute for the
commodity The commodity should not confer at any
distinction
The demand for the commodity should be
continuous
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Exceptions to Law ofDemand
Giffen paradox The Giffen good or inferior good is an
exception to the law of demand FoodGrains
Demonstration effect
Rich people buy certain good because itgives social distinction or prestige forexample diamonds are bought by thericher class for the prestige it possess
Ignorance Sometimes, the quality of the commodity is
Judge by its price. Consumers think thatthe product is superior if the price is high.As such they buy more at a higher price
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Exceptions to Law ofDemand
Speculative effect If the price of the commodity is increasing the
consumers will buy more of it because of thefear that it increase still further, Thus, anincrease in price may not be accomplished by
a decrease in demand Fear of shortage
During the times of emergency of war Peoplemay expect shortage of a commodity. At thattime, they may buy more at a higher price to
keep stocks for the future Necessaries
In the case of necessaries like rice, vegetablesetc. people buy more even at a higher price
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Exceptional Demand Curve
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Factors affecting Demand
Price of the Commodity Income of the Consumer
Prices of related goods Substitutes (Teaand Coffee) Complementary ( Cup and
Saucer) Tastes of the Consumers
Wealth
Population
Government Policy Expectations regarding the future
Climate and weather
State of business Economy
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Demand Elasticity
Elasticity of demand explains therelationship between a change in priceand consequent change in amountdemanded
Marshall - Elasticity of demand shows theextent of change in quantity demanded toa change in price
Elastic demand: A small change in pricemay lead to a great change in quantitydemanded. In this case, demand is elastic.
In-elastic demand: If a big change in priceis followed by a small change in
demanded then the demand in inelastic
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Types of Elasticity ofDemand
There are three types of elasticity ofdemand:
Price elasticity of demand
Income elasticity of demand
Cross elasticity of demand
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Price Elasticity
Proportionate change in the quantity demand ofcommodity
Price Elasticity =
------------------------------------------ Proportionate change in the price of
commodity
Price elasticity of demand measureschanges in
quantity demand to a change in Price.
It is the
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Types of Elasticity
Perfectly elastic demand
When small change in price leads toan infinitely large change isquantity demand, it is calledperfectly or infinitely elasticdemand. In this case E=
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Perfectly elastic demand
curve
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Perfectly InelasticDemand
In this case, even a large change inprice fails to bring about a changein quantity demanded.
When price increases from OP toOP, the quantity demandedremains the same. In other words
the response of demand to achange in Price is nil. In this caseE=0.
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Perfectly InelasticDemand Curve
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Relatively elasticdemand
Demand changes more thanproportionately to a change inprice. i.e. a small change in price
loads to a very big change in thequantity demanded. In this case E> 1. This demand curve will be
flatter
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Relatively elasticdemand curve
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Relatively in-elasticdemand
Quantity demanded changes lessthan proportional to a change inprice. A large change in price leads
to small change in amountdemanded. Here E < 1. Demandedcarve will be steeper
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Relatively in-elasticdemand curve
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Unit elasticity of demand
The change in demand is exactlyequal to the change in price. Whenboth are equal E=1 and elasticity if
said to be unitary
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Unit elasticity of demandcurve
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Income elasticity ofdemand
Income elasticity of demand shows thechange in quantity demanded as a resultof a change in income. Income elasticityof demand may be slated in the form of a
formula. Proportionate change in the quantity demand
of commodity
Income Elasticity =-------------------------------------------------------
Proportionate change in theincome of the people
Income elasticity of demand can beclassified in to five types.
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Zero income elasticity
Quantity demanded remains thesame, even though money incomeincreases. Symbolically, it can be
expressed as Ey=0.
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Zero income elasticitycurve
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Negative Incomeelasticity
When income increases, quantitydemanded falls. In this case,income elasticity of demand is
negative. i.e., Ey < 0.
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Negative Incomeelasticity curve
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Unit income elasticity
When an increase in income bringsabout a proportionate increase inquantity demanded, and then
income elasticity of demand isequal to one. Ey = 1
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Unit income elasticitycurve
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Income elasticity greaterthan unity
In this case, an increase in comebrings about a more thanproportionate increase in quantity
demanded. Symbolically it can bewritten as Ey > 1.
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Income elasticity greater thanunity curve
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Income elasticity leasthan unity
When income increases quantitydemanded also increases but lessthan proportionately. In this case E
< 1
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Income elasticity leas thanunity curve
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Cross elasticity ofDemand
A change in the price of one commodityleads to a change in the quantitydemanded of another commodity. This iscalled a cross elasticity of demand. The
formula for cross elasticity of demand is:
Proportionate change in the quantity demandof commodity X
Cross elasticity=------------------------------------------------------
Proportionate change in the price ofcommodity Y
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Cross elasticity ofDemand
In case of substitutes, crosselasticity of demand is positive. Eg:Coffee and Tea
When the price of coffee increases,Quantity demanded of tea
increases. Both are substitutes.
l i i f
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Cross elasticity ofDemand
C l i i f
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Cross elasticity ofDemand
Incase of compliments, crosselasticity is negative. If increase inthe price of one commodity leads
to a decrease in the quantitydemanded of another and viceversa.
C l i i f
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Cross elasticity ofDemand
C l ti it f
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Cross elasticity ofDemand
In case of unrelatedcommodities, cross elasticity ofdemanded is zero. A change in the
price of one commodity will notaffect the quantity demanded ofanother
C l ti it f
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Cross elasticity ofDemand