Unit 1 - Law of Demand

Question 1

Describe DEMAND.

Answer 1

Demand is the quantity of goods or services that will be bought at any given price over a period of time.

Question 2

Describe EFFECTIVE DEMAND.

Answer 2

Effective demand refers to the willingness and ability of consumers to purchase goods at different prices.

Question 3

Describe INDIVIDUAL DEMAND.

Answer 3

The demand of an individual consumer for a product.

Question 4

Describe MARKET DEMAND.

Answer 4

Sum of all individual consumers’ demands for a product, i.e. total demand

Question 5

Describe the LAW of DEMAND.

Answer 5

The Law of Demand states that quantity purchased varies inversely with price.
The law of demand states that “the quantity demanded of a good will tend to increase if its price falls and decrease if its price rises - ceteris paribus.”

Question 6

Contraction & Extension of Demand Curve:

Answer 6

A movement ALONG the curve indicates a PRICE CHANGE.

Question 7

Describe/Explain, using examples, why the demand curve for some goods slopes upwards from left to right.

Answer 7

1: GIFFEN GOODS - characteristic of Giffen goods is that as its price increases, the demand also increases.. For example bread was a staple food for low income consumers. A rise in its price would not deter people from buying as much as before.
2: VEBLEN GOODS - there are certain goods that become more valuable as their price increases. If a product is expensive, then its value and utility are perceived to be more, and hence the demand for that product increases.
3: SPECULATION - demand for some goods or assets will rise if consumers expect to profit from future price rises, e.g. for property and shares
4: QUALITY GOODS - Some consumers judge quality by price, i.e. they automatically assume that a higher priced good must be of better quality than a similar lower priced good; hence, the higher the price the greater the quantity demanded.

Question 8

Describe the causes of a SHIFT in the DEMAND curve.

Answer 8

When factors other than the price of the product alter, then the demand line will move rightwards or leftwards.

Question 9

Examples that could cause a SHIFT in the DEMAND curve.

Answer 9

1: Population Changes/Tastes
2: Advertising
3: Substitutes
4: Income
5: Fashion and Taste
6: Income Tax
7: Complements
8: Future Expectations

Question 10

Describe UTILITY.

Answer 10

The satisfaction derived from the consumption of a good/service.

Question 11

Describe TOTAL UTILITY.

Answer 11

The entire satisfaction gained from all units consumed.

Question 12

Describe MARGINAL UTILITY.

Answer 12

The additional utility derived from the next unit purchased.

Question 13

The law of DIMINISHING MARGINAL UTILITY.

Answer 13

“the more of a good a consumer consumes, the less utility he/she will get from each extra unit”.

Question 14

Describe PRICE ELASTICITY of DEMAND.

Answer 14

Price elasticity of demand is a measure used in economics to show the responsiveness, or elasticity, of the quantity demanded of a good or service to a change in its price when nothing but the price changes.
PED can either be ELASTIC or INELASTIC.

Question 15

ELASTIC

Answer 15

ELASTIC will mean that if there is a small change in price and is accompanied by a large change in quantity demanded, the product is said to be elastic (or responsive to price changes).

Question 16

INELASTIC

Answer 16

INELASTIC will mean if price rises or falls consumers will still buy the same amount or reduce ever so slightly in the short term (or unresponsive to price changes).

Question 17

Calculating PED.

Answer 17

Price elasticity of demand = Percentage change in
quantity demanded*
——————————–
Percentage change in price*

Question 18

Rules for PED:

Answer 18

1: If PED is greater than 1 then demand has been very responsive to the change in price. Demand is said to be price elastic. The demand will have a GENTLE slope.
2: If PED is less than 1, then demand is said to be price inelastic, i.e. unresponsive to a change in price. The demand curve will have a STEEP slope.

Question 19

Total Revenue & PED

Answer 19

TR = price × quantity sold

Question 20

Total Revenue:

If demand is ELASTIC then:

Answer 20

A reduction in price will have a greater increase in the quantity demanded. This will lead to a increase in the firms total revenue.

A increase in price will have a greater fall in the quantity demanded. This will lead to a fall in the firms total revenue.

Question 21

Total Revenue:

If demand is INELASTIC then:

Answer 21

A decrease in price will lead to a smaller increase in the quantity demanded. This will lead to a fall in the firm’s total revenue.

A increase in price will lead to a smaller fall in the quantity demanded. This will lead to an increase in the firm’s total revenue.

Question 22

Goods which are ELASTIC are:

Answer 22

They are luxury goods, e.g. sports cars which are a big % of income e.g. sports cars and holidays
Goods with many substitutes and a very competitive market. E.g. if Sainsbury’s put up the price of its bread there are many alternatives, so people would be price sensitive.
Frequency of purchase – if durable goods like TV’s, fridges etc will be price elastic, in the short run at least.

Question 23

Goods which are INELASTIC are:

Answer 23

They have few or no close substitutes, e.g. petrol, cigarettes.
They are necessities, e.g. if you have a car, you need to keep buying petrol, even if price of petrol increases
They are addictive, e.g. cigarettes.
They cost a small % of income or are bought infrequently.
In the short term, demand is usually more inelastic because it takes time to find alternatives
If the price of chocolate increased demand would be inelastic because there are no alternatives.