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Determinants of market demand




Comprehension check.

CALCULATING PRICE ELASTICITY OF DEMAND

SUPPLEMENTARY READING

The price elasticity of demand can be measured for infinitesimally small changes in price at a given point of a demand curve. A linear demand curve has constant slope but will not have constant elasticity at all points. In fact, a linear demand curve will have a price elasticity that varies continuously from zero to minus infinity along the curve. When price is zero, price elasticity of demand will also be zero. When price is so high that the quantity demanded approaches zero, the value of price elasticity becomes minus infinity.

In other words, along a linear demand curve demand is more price elastic at higher prices than at lower prices. Each 1% increase in price can be expected to result in greater and greater reductions in quantities demanded. If a seller faces a linear demand curve for his product, it therefore implies that his customers are more sensitive to price increases when price is already high than when price is low.

This implies that market demand becomes more inelastic with respect to price as supply increases. For example, as the supply of personal computers increased in the 1990s, sellers found it increasingly more difficult to increase revenue despite continued price cuts. As a market becomes ‘saturated’ with a product and price falls as a result of increased supply, the demand for the product often tends to become more inelastic.

1. How does price elasticity vary along the linear demand curve?

2. At what prices is demand more elastic: at higher prices or at lower prices?

 

Market demand depends on income, prices of related goods, and preferences of consumers. In addition, population and its age distribution are major influences on market demand. The willingness and ability of consumers to purchase particular items also depend on the way income is distributed among demographic groups.

Demand for particular goods can also depend on non-economic influences. For example, the demand for sleds and snow shovels depends on the weather. Advertising and promotional efforts by business firms can influence choices by consumers by providing information (true or slightly misleading) affecting their preferences. Finally, the demand for a good is also influenced by the number of consumers in foreign nations who are willing and able to purchase the item.

Income and preferences for certain goods are likely to be correlated with age. Businesses carefully project changes in the age distribution of the population in an attempt to forecast changes in the pattern of demand.

Household size is another important determinant of the demand for various goods. Household size is measured by the number of related persons living together. For example, a trend for smaller households will increase the demand for small condominium housing units but will decrease the demand for large homes.

Younger households also tend to spend greater proportions of their incomes on durable goods, including automobiles, furniture, and household appliances. As the proportion of national income earned by this group increases, there will be a tendency for increased demand for durable goods.




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