Explain the law of demand and the reasons behind it.
Explain the law of demand and the reasons behind it.
Law of demand states that there is an inverse relation between the price of a commodity and its quantity demanded, assuming all other factors affecting demand remain constant. It means that when the price of a good falls, the demand for the good rises and when price rises, the demand falls.
Law of demand may be explained with the help of the following demand schedule and demand curve :
The above table and diagram show that as the price of the good reduces from Rs 5 to Rs 4, the demand for the good increases from 100 to 200 units.
Assumption of the law of demand: The law of demand is valid only when all other factors determining demand like income of the buyers, price of related goods, tastes and preferences of the buyer etc. remain constant.
Causes of the law of demand: When the price of a good falls,
it has following two effects that lead a consumer to buy more of that commodity.
(i) Income effect: When the price of a commodity falls, the real income of the consumer, i.e., his purchasing power increases. As a result, he can now buy more of a commodity. This is called income effect. This causes increase in the quantity demanded of the good whose price falls.
(ii) Substitution effect: When the price of a commodity falls, it becomes relatively cheaper than others. This induces the consumer to substitute this cheaper commodity for the other goods which are relatively expensive. This is called as the substitution effect. This causes increase in quantity demanded of the commodity whose price has fallen.
Thus, as a result of the combined operation of the income effect and substitute effect, the quantity demanded of a commodity increases with a fall in the price.
Law of demand states that there is an inverse relation between the price of a commodity and its quantity demanded, assuming all other factors affecting demand remain constant. It means that when the price of a good falls, the demand for the good rises and when price rises, the demand falls.
Law of demand may be explained with the help of the following demand schedule and demand curve :
The above table and diagram show that as the price of the good reduces from Rs 5 to Rs 4, the demand for the good increases from 100 to 200 units.
Assumption of the law of demand: The law of demand is valid only when all other factors determining demand like income of the buyers, price of related goods, tastes and preferences of the buyer etc. remain constant.
Causes of the law of demand: When the price of a good falls,
it has following two effects that lead a consumer to buy more of that commodity.
(i) Income effect: When the price of a commodity falls, the real income of the consumer, i.e., his purchasing power increases. As a result, he can now buy more of a commodity. This is called income effect. This causes increase in the quantity demanded of the good whose price falls.
(ii) Substitution effect: When the price of a commodity falls, it becomes relatively cheaper than others. This induces the consumer to substitute this cheaper commodity for the other goods which are relatively expensive. This is called as the substitution effect. This causes increase in quantity demanded of the commodity whose price has fallen.
Thus, as a result of the combined operation of the income effect and substitute effect, the quantity demanded of a commodity increases with a fall in the price.
