Demand

Question 1

What is demand?

Answer 1

The quantity of a particular good or service that consumers are willing and able to purchase at various price levels at a given point in time

Question 2

What is market demand + how is it obtained?

Answer 2

The demand by all consumers for a particular good or service. It is found by summing the quantities demanded by all individual consumers at the various price levels

Question 3

Name all the main factors affecting market demand (x7)

Answer 3

• The price of the good or service itself
• The price of other goods and services
• Expected future prices
• Changes in consumer tastes and preferences
• The level of income
• The size of the population and its age distribution
• Network externalities

Question 4

How does the price of the good or service affect market demand? (x2)

Answer 4

• In choosing whether or not to purchase a good, consumers must decide if they are willing to pay the price for the good
• If the good is a necessity, people will need to buy them regardless of price changes

Question 5

How does the price of other goods or services affect market demand? (x3 - 2 egs)

Answer 5

• It is affected by the price of substitute goods and complement goods
• Substitute good: E.g. if the price of margarine rises, the demand for butter would increase
• Complement good: If the price of cars increases, the demand for cars would decline as well as the demand for petrol

Question 6

How does the level of income affect market demand? (x3)

Answer 6

• As people earn higher incomes, they become more willing and able to purchase more goods and services that they could not previously afford, increasing the demand for luxury goods
• A change in income distribution could also change the level of demand for particular goods
• Consumer expectations about future income levels and prospects will influence their decisions to buy certain types of goods

Question 7

How does the size of the population and its age distribution affect market demand?

Answer 7

• Population size will affect the total quantity of goods demanded and age distribution will affect the types of goods demanded

Question 8

How do network externalities affect market demand? (Positive & Negative)

Answer 8

• A positive network externality - the bandwagon effect - occurs when people demand a good because almost everyone else has one
• A negative network externality - known as the snob effect - occurs where demand for a good is higher the fewer the people who own it

Question 9

What is the ceteris paribus assumption?

Answer 9

An assumption used in economics to isolate the relationship between two economic variables. It is a Latin phrase which means “other things being equal”, or assuming that nothing else changes

Question 10

What does the law of demand state?

Answer 10

The quantity demanded by consumers falls as price rises. When the price of a product is reduced, consumers will buy more of that product

Question 11

Name all the factors that cause an increase or decrease in demand (x5)

Answer 11

• Prices of other goods and services
• Expected future prices
• Consumer tastes and preferences
• Consumer incomes
• The size and age distribution of the population

Question 12

What is price elasticity of demand and how is it calculated?

Answer 12

It measures the responsiveness or sensitivity of the quantity demanded of a particular product to changes in its price. It is calculated as the percentage change in quantity demanded divided by the percentage change in price:

i.e. % change in quantity demanded/% change in price

Question 13

Describe all types of elasticity of demand (x3)

Answer 13

Elastic demand - A strong response to a price change
Inelastic demand - A weak response to a price change
Unit elastic demand - A proportional response to a price change (total amount spent by consumers remains unchanged)

Question 14

Why do business firms need to understand price elasticity of demand?

Answer 14

• Business firms need to understand price elasticity of demand for the goods they sell in order to decide on their optimal pricing strategy.
• If demand was elastic, the firm would know that lowering the price would greatly expand the volume of sales, thus increasing total revenue.
• If demand was inelastic, the firm could increase the price, leading to an increase in total revenue

Question 15

Why does the government need to understand price elasticity of demand? (x2)

Answer 15

The government needs to understand price elasticity of demand when pricing the goods and services
- The government also need to be able to predict the effects of changes in the level of indirect taxes such as excise duties and special levies on products like alcohol

Question 16

Name all the elasticity and total outlay relationships for demand (x3)

Answer 16

Price + Revenue + = inelastic
Price + Revenue - = Elastic
Price + Revenue _ = Unit elastic

Question 17

Describe perfectly elastic demand

Answer 17

When demand is perfectly elastic, consumers will demand an infinite quantity at a certain price, but nothing at all at a price above this (theoretical)

Question 18

Describe perfectly inelastic demand

Answer 18

When demand is perfectly inelastic, consumers are willing to pay at any price in order to obtain a given quantity of a good or service

Question 19

Name the factors affecting the elasticity of demand

Answer 19

• Whether the good is a luxury or necessity
• Whether the good has close substitutes
• The expenditure on the product as a proportion of income
• The length of time subsequent to a price change
• Whether a good is habit forming

Question 20

How does a good having any close substitutes elasticity of demand? (Close, None)

Answer 20

• Goods with close substitutes, such as different brands of breakfast cereal tend to have highly elastic demand.
• Goods with few or no close substitutes such as water supply have inelastic demand

Question 21

How does the length of time subsequent to a price change affect elasticity of demand?

Answer 21

When the price of a certain product changes, the quantity demanded may not initially respond greatly as consumers take time to become aware of the price change. If the price has increased, consumers may buy alternatives.

Question 22

How does the expenditure of a product as a proportion of income affect elasticity of demand?

Answer 22

Goods and services that take up a small proportion of a persons income would have a lower price elasticity than a product than a more expensive product e.g. a car