Determinants of Demand
The following image depicts determinants of demand with their relations.
The factors affecting demand are:
- Price of Related Goods,
- Consumers' Expectations,
- Number of Buyers,
- Climatic Condition,
- Level of Economic Activity, and
- Miscellaneous Factors.
Now let's discuss in detail each factor that influence demand.
Price is the value of product or service expressed in monetary terms.
A price of a product has a maximum effect on its demand.
If other factors remaining constant (do not change) then the relationship between price and demand is as follows:
- If a product's price is low, then its demand is high.
- If a product's price is high, then there is low demand for it.
Hence, it can be said that price and demand are inversely proportional to each other, provided other determinants remain constant or do not change.
In other words, if price increases then demand falls and vice-versa.
- If the price of nutritional and delicious Alphonso Mangoes falls then, people buy them in larger quantity.
- If the price of famous Alphonso Mangoes is higher than usual, then people prefer to buy them in smaller quantity.
Of all other factors, the price is the most important determinant that affects demand to a great extent.
Income of an individual is his capacity to earn money.
A person with a higher income makes more money and vice-versa.
After the determinant of price, income is the second most significant factor that affects demand.
The relation between income and demand is as follows:
- If income is high, then demand is also high.
- If income is low, then demand is minimum.
So, we can say, income is directly proportional to demand.
In other words:
- If the income of people is high, then demand generated by them is also high.
- If the income of people is low, then demand generated by them is minimum.
- A high-income group demands more goods and in larger quantities.
- A low-income group demand fewer goods in smaller amounts.
Tastes, Preferences, Habits, Fashion, and Popularity, also has an impact on the demand.
Tastes of people i.e. their likes and dislikes affect demand:
- If people like a product, then its demand is high even when charged at higher prices.
- If people dislike a product, then its demand is low even when charged at lower prices.
- People admire, love and prefer using Apple's iPhone and iPad even though they are bit expensive than other smartphones and tablets.
- People dislike buying fake perfumes and don't prefer wearing them even though they are many times cheaper than original brands.
Fashion or current trend in the market has an impact on the demand for a type of product. For example, now, young generation in India prefers to wear fashionable and comfortable western apparels over traditional and cheaper Indian clothes.
Popularity or fame also affects the demand for a product. For example, people prefer to buy regularly advertised and popular branded products over lesser known alternatives.
- It is quite essential to know that factors like tastes, habits, preferences, fashion, popularity, etc., raise a product's demand even when its price is higher.
- In other words, these determinants are exceptions and don't satisfy the inverse relationship between price and demand.
- Hence, they are assumed as constant (i.e. they don't change) while stating the law of demand.
4. Price of Related Goods
Related Goods exhibit some relationship with each other.
These are of two types:
- Substitute Goods, and
- Complementary Goods.
Substitute Goods are products that can easily replace each other. That is, they can take each other's place. In other words, they act as an alternative to each other to satisfy a similar want or desire. They are even called Supplementary Goods because they readily supplement each other's role or function just in case of unavailability, scarcity, higher market price, etc.
For example, Tea and Coffee substitute each other. When the Tea is unavailable, the nearest possible alternative most people would choose is Coffee and vice-versa.
The fluctuations witnessed in the prices of substitute goods (like Tea and Coffee) also affect their demand.
- If the price of Tea (Substitute Goods No.1) decreases whereas the price of Coffee (Substitute Goods No.2) increases, then the demand for Tea increases and that of Coffee falls.
- In other words, the Price of Tea is directly proportional to the Demand for Coffee.
Hence, we can conclude, Price of Substitute Goods No.1 (Tea) is directly proportional to the Demand for Substitute Goods No.2 (Coffee).
Two or more goods used together in a combination to satisfy a given want are called Complementary Goods.
Examples of Complementary Goods:
- Petrol and Cars,
- Electricity and Air Conditioners, so on.
When the price of Petrol (commodity) falls, then the demand for Cars (its complementary product) increases.
Similarly, when the price of Electricity (commodity) falls, then the demand for energy-hungry Air-Conditioner (its complementary product) increases.
So, we can conclude, the price of a commodity is inversely proportional to the demand of its complementary product.
In other words, if the price of a commodity decreases then the demand of its complementary product increases and vice-versa.
5. Consumers' Expectations
Consumers' expectations arise out of their predictions about:
- Future Price, and
- Future Income.
If there is an expectation of a rise in the future price of an essential commodity, then current demand for it increases.
For example, due to inadequate rainfall people start buying and stocking more food grains like rice with a fear to avoid future price rise due to poor yield and scarcity. Such a behavior raises their current demand for food grains in the market.
If consumers are expecting a fall in the future price of an essential commodity, then current demand for it will also fall.
For example, if people are hoping that the gold prices will fall soon then they will postpone their decision to buy gold. This expectation will drastically reduce their current demand for gold in the market.
If consumers are expecting a rise in their future income, then their current demand will increase.
Consider, for example, if the government announces a massive reduction in the percentage of taxes levied, then people won't have to pay more in the future. It will save them more money. In other words, they would soon expect a rise in their regular income. This expected income boost would compel them to make pre-orders or buy their desired goods on installments. Thus, it will increase their current demand in the market.
If consumers are expecting a fall in their future income, then their current demand will decrease.
For example, if there is fear of massive layoffs due to upcoming recession or downfall of the economy then people stops spending more to prepare and save money for future uncertainties. Thus, it will decrease their current demand in the market.
6. Number of Buyers
The number of buyers or consumers' population is another determinant of demand:
- If buyers are more, then their demand will also be more.
- If buyers are few, then their demand will also be small.
So, the population of consumers is directly proportional to the demand they generate in the market.
For example, with growing middle-class families the demand for affordable sedan cars is equally rising.
7. Climatic Condition
The climatic condition or weather of an area is also a determinant of demand.
- In colder regions, there is a high demand for woolen clothes.
- In hotter areas, there is more demand for cotton clothes.
8. Level of Economic Activity
The level of economic activity is a determinant of demand:
- A high level of economic activity usually comprises of huge investments in infrastructure development, high rate of employment, high consumption power, rising standard of living of people, etc. It increases demand.
- Contrarily, a low level of economic activity displays characteristics like lack of investments, increase in the unemployment rate, low purchasing power, plunging living standards of people, so on. It decreases demand.
If economic activity increases, demand also increases and vice-versa.
Hence, we can conclude, the level of economic activity is directly proportional to the demand.
9. Miscellaneous Factors
Apart from above major determinants, following factors also affect demand:
- Government Policies,
- Special occasions like festivals, events, etc.
- Consumers Satisfaction,
- Quality of a product or service,
- Population growth whether rising or declining,
- Age of population whether young or old,
- Socio-cultural attitudes and mindset,
- Ease of accessibility to a particular product or service,
- Market size, so on.