The Basics of Demand - Online Tutor, Practice Problems & Exam Prep

In a perfectly competitive market, demand is represented on a price-quantity graph with price on the y-axis and quantity on the x-axis. The law of demand states that as price increases, quantity demanded decreases, influenced by the substitution effect and income effect. The demand curve illustrates this relationship, showing a downward slope. Key terms include quantity demanded (Q_D) and demand (D). Understanding these concepts is crucial for analyzing market behavior and consumer choices.

The Basics of Demand

Alright, so now that we've defined our perfectly competitive market, let's check out demand in that market. First off, I want to introduce you to our price quantity graph. This is where we're going to be doing most of our analysis. Throughout this chapter, our analysis will be on a graph like this, and I just wanted to make a point here of how we set up the graph. We're going to have price on the y-axis, the up and down axis, and quantity on the left and right axis here. The easy way to remember this is I think of it as alphabetical order, right? We're going left to right, we've got PQ. Cool? And on the graph, eventually, we're going to be drawing lines that kind of look something like this, and our analysis is going to follow some steps like that, but for now, I just want to iterate this about the P and the Q and the alphabetical order so you remember just how to set up the graph.

Let's talk about demand and all buyers in our market. We also call them consumers, so I want to include both of that in here. We've got buyers and consumers. This is the behavior of the buyers in the market. Let's just define some terms related to demand. The first one here being quantity demanded, and that's the amount of a good that buyers are willing to purchase at a price, right. So, you have to imagine if the price was $10 and the consumers wanted 100,000 units, then the quantity demanded at $10 is 100,000. We're going to use this notation when we talk about quantity demanded. We're going to do a big Q with a little subscript D there like you see. Quantity demanded, throughout this chapter, we'll use that notation for quantity demanded. And the demand schedule is pretty easy. It just lists pairs of prices and quantity demanded, so it's going to tell us at different prices how much quantity is demanded at those prices.

Here we go, the law of demand. Oh, when the price of a good rises, the quantity demanded of that good falls. So this is pretty logical, right? When the prices go up, we're going to buy less of that good. So the idea here, I'll write it here, price up and this is kind of notation that we're going to be using, quantity demanded down. This is just a simple way to simplify this whole sentence. Right? Price up then quantity demanded down, and the opposite works too. And you'll see a lot of the time we're only going to talk about one direction, like what happens if this goes up, the opposite also is true, right. We've got the vice versa thing happening here, so if the price goes down then we are going to see that the quantity demanded goes up.

So how do we explain this law of demand? What makes this happen? Well, there are two factors that affect it. This is what we call the substitution effect. It's the idea that when the price goes up, people are going to buy other things instead. I'm going to put "buy other things," right? So the idea is yeah, there's a higher price, well I'm just going to spend my money on something else. The other reason the law of demand is in action is that when the price goes up, we can just afford less of it, right? This is the income effect. If it's a higher price, it's just going to take up more of our budget and we just can't afford as many units as we previously could. So for these two reasons, we see that the law of demand holds true, right? When the price goes up, people buy other things and they can also just afford less of the product, so the quantity demanded is going to fall.

Alright, so let's go down here to our demand curve and our final discussion for the page here. The demand curve is a graph that's going to show the relationship between the prices of a good and the quantity demanded at those prices, and I just want to reiterate real quick that the demand curve, this is demand, and you might be thinking well obviously you just told me that it's the demand curve, but there is a big distinction throughout this chapter between demand and quantity demanded. Remember, demand is going to be the whole curve of all the different possibilities of prices and quantity demanded where quantity demanded is going to be a specific point at a specific price. Cool. Alright, so when we talk about demand, we're going to just notate it as just a big D like that, and quantity demanded was the Q with the little d and here we're just going to have a D for demand.

Alright, let's go ahead and move on to the graph here. We've got a demand schedule for wheat on the right and then I've got those points plotted on the graph, and let's notice some things just from our demand schedule real quick. So you'll see at a price of $9 people want 10,000 and as the price lowers, you're going to see the quantity difference what I have here on the graph. I've taken those points and plotted them, and to make a demand curve, well we're just going to connect these points. For now, I'm going to use blue for demand, and once we get to supply I'll use red for supply, but you're actually once we put them together, we're going to have a really cool color system, so for now it's not as important when there's just one on the graph.

And one thing I want to note about demand, just so you don't forget because demand notice it has this downward slope here, right? It goes down as the price falls, the quantity demanded is going up, right? So over here, we've got this as our price axis, quantity axis just like before, and a good way to remember that demand is falling, I think of the double d's. So we've got the demand and we've got the downward slope here. Alright, so don't take it too personally. That's just the way I think of it. Hopefully, it'll help you too.

One last point I want to make here, I'm going to get out of the way real quick. You'll see this note, some goods are exceptions to the law of demand, but that's beyond the scope of this class. There are some goods that behave in really weird ways but we're not going to talk about those here. We've got like, you know, 99% of the goods are going to be covered through the law of demand. So don't worry about those. You can do a little research on your own if you want if you're really curious, but I'd say it's not worth it. Cool, so that is our introduction to demand. Why don't we go ahead and move on now?

Here’s what students ask on this topic:

What is the law of demand in economics?

The law of demand states that, all else being equal, as the price of a good or service increases, the quantity demanded of that good or service decreases, and vice versa. This inverse relationship is due to two main effects: the substitution effect and the income effect. The substitution effect occurs when consumers switch to cheaper alternatives as prices rise. The income effect happens because higher prices reduce consumers' purchasing power, leading them to buy less. This relationship is typically represented by a downward-sloping demand curve on a price-quantity graph.

How do you plot a demand curve on a graph?

To plot a demand curve, you need a price-quantity graph with price on the y-axis and quantity on the x-axis. Start by creating a demand schedule, which lists various prices and the corresponding quantities demanded. Plot these price-quantity pairs as points on the graph. Once all points are plotted, connect them with a smooth line. The resulting curve should slope downward from left to right, illustrating the inverse relationship between price and quantity demanded, as described by the law of demand.

What is the difference between 'demand' and 'quantity demanded'?

'Demand' refers to the entire relationship between prices and the quantity of a good that consumers are willing to buy at each price, represented by the demand curve. 'Quantity demanded,' on the other hand, is a specific point on the demand curve, indicating the amount of a good consumers are willing to buy at a particular price. While 'demand' encompasses all possible price-quantity combinations, 'quantity demanded' focuses on a single price-quantity pair.

What factors cause a shift in the demand curve?

Several factors can cause the demand curve to shift, meaning the entire curve moves left or right. These factors include changes in consumer income, preferences, prices of related goods (substitutes and complements), expectations of future prices, and the number of buyers in the market. For example, an increase in consumer income typically shifts the demand curve to the right, indicating higher demand at each price level. Conversely, a decrease in income would shift the curve to the left.

What is the substitution effect in the context of demand?

The substitution effect occurs when the price of a good rises, leading consumers to purchase alternative goods that are relatively cheaper. This effect contributes to the law of demand, as higher prices result in a lower quantity demanded. For instance, if the price of beef increases, consumers might buy more chicken instead, reducing the quantity of beef demanded. The substitution effect highlights how consumers adjust their purchasing behavior in response to price changes.