Law of Demand: What it is, Definition and Examples

The law of demand

The law of demand is a conceptualization of consumer behavior regarding the quantity demanded of a good, and it’s increase or decrease as a result of changes in the price of that good and other factors such as the prices of other goods, consumer income, and others.

The law of demand estates that:

Quantity demanded varies inversely with price when income and the prices of other goods remain constant.

The theory of demand starts from the behavior of consumers and what motivates them to acquire more of a good or service. The demand for a good depends on:

• Price of the good.
• Consumer income.
• Prices of other goods.
• Consumer preferences.

The law of demand in simple words

The quantity demanded of a good or service varies in the opposite way to the price. If the price increases, the quantity decreases (1) because people want less of those goods. And if the price falls, the quantity demanded increases because the consumer will want more when it’s cheaper.

Mathematical/functional expression of the law of demand

Qdx = f (Px, I, Py, T)

Which is a functional relationship where:

Qdx: Quantity demanded by the consumer in a period of time.

f = symbol that indicates the dependency relationship that exists between the variables.

Px = Prices of good x

I = Consumer income.

Py = Prices of other goods, or price of the good Y.

T = Consumer preferences.

Shift of the individual demand curve

According to the law of demand, the quantity demanded of a good depends on the price of that good, as long as the other factors such as the consumer’s income, the price of the goods, and preferences remain constant, this is the ceteris paribus condition.

A higher price = lower demand, Lower price = higher demand, because the consumer always seeks to save the most money.

Elasticity of demand

Elasticity is the increase or decrease in the quantity of goods that are demanded, it is the percentage change in demand in relation to a variation of the aforementioned factors (price, income, complementary or substitute goods).

Depending on the factor whose variation is taken into account, there are different types of elasticity.

The four types of elasticity of demand

1. Price elasticity of demand.
2. Income elasticity of demand.
3. Cross elasticity of demand.
4. Advertising elasticity of demand.

• Price elasticity of demand

  The price elasticity of demand measures the percentage change in the quantity demanded of a good as a consequence of a variation in the price of that good. It is a clear representation of the statement of the law of demand.

• Income elasticity of demand

Income elasticity of demand measures the percentage change in the demand for a good in relation to a change in consumer income.

Since economic theory follows the principle of consumer rationality, it is presumed that the consumer distributes his limited income in the way that most provides him or her with utility. He or she looks for the goods that at the lowest price give him/her the greatest satisfaction of their needs, leaving aside the most expensive and least useful ones.

If income increases, the demand for certain goods will increase too and that of others will decrease, giving place to different types of goods (normal, inferior, and superior).

See: Income elasticity of demand

• Cross elasticity of demand

Cross elasticity measures the change in demand as a consequence of a change in the price of a substitute or complementary good. A substitute good can be bread and tortilla, and complementary goods may be cars and fuel.

• Consumer preferences

Preferences, combined with other factors such as the price of the good and consumer income also plays a basic role when selecting goods and resources.

Each type of elasticity is treated by a separate topic and each one has its formulas with which it is calculated, depending on the result of this coefficient, it will be determined how elastic the demand is.

Elastic, unit elastic and inelastic demand

The three types of elasticity of demand are:

• Elastic demand: If the coefficient is greater than 1. e >1

• Unitary elastic demand: If the coefficient is equal to 1. e = 1

• Inelastic demand: If the coefficient is less than one. e< 1

But this will vary depending on the type of demand that is being calculated, with particularities in each case, such as cross elasticity, which also indicates whether the goods in question are complementary or substitute.

But this will vary depending on the type of demand that is being calculated, with particularities in each case, such as cross elasticity, that also indicates whether the goods in question are complementary or substitute.

Calculation of elasticity of demand

Elasticity has various formulas, the procedure to calculate it depends on what type it is.

For example, price elasticity can be measured graphically, mathematically (2), by arc elasticity, which is the elasticity between two points on a curve and on a linear demand curve.