Determinants of demand

Demand is how much someone is willing and able to buy and hinges upon number of different factors. People will consider the price of an item and their income when deciding how much to buy. Real world situations are not as simple. There are other determinants which effect demand.

In many situations, price is the most fundamental determinant of demand. If all other things are equal then the law of demand prevails for most of goods and services. When people decide to buy goods or services, two questions come to their mind: What is the price? How much should they buy?

People also look at their income when deciding on purchases and ask themselves two important questions: What do we need? How much we can afford? Then the choice is made between normal goods and inferior goods. When income goes up the demand for normal goods goes up. When the income decreases, the demand for inferior goods goes up. For example, choosing between a taxi ride (superior product) and a transit ride (inferior product).

The change in a taste and preference of a product changes the demand for it. For example, if a celebrity recommends a product (e.g. The Oprah show) then the demand for recommended products goes up. On the other hand, public scares decrease demand, such as the decline in demand for beef products during the Mad Cow Disease crisis in 1996.

When people decide to buy, they tend to take into consideration the prices of substitute goods. For example if the price of butter goes up then people tend to buy margarine. For complimentary goods, the change in price of one good will cause the change in the complimentary good or vice versa. For example, the decrease in the price of video games will increase the demand for video consoles.

The number of buyers may not be a determinant for individual demand, but it is an important determinant for the whole market. An increase in the number of buyers leads to an increase in demand, whereas a decrease in the number of buyers leads to a decrease in the demand.

Today’s demand is also based on the future expectations of price, income, and prices of related goods. Consumers will demand more of a product today if they expect the price to go up in the near future. People will also consume more if their income is going to go up in the future and their jobs are secure.

The Diner City Game

The Diner City Game makes us aware of real economic principles. It is a perfect example of competition, which is one of the four C’s of the economic system. The premise of the game is that the restaurants compete against another restaurant.  In the real world, many businesses compete against each other. The game also shows us what the other restaurant is doing i.e. number of employees working or seats available. To manage the business, you must be aware of what your competitors are doing so that you can make correct decisions and remain competitive.

The Game shows the cost of opportunity, deciding between putting extra seats (Capital Assets) or hiring an employee (Factors of Production) or raising the revenue per customer (Revenue).The player has to give up something to gain another alternative. Also, the choices must be made between resources to maximize the revenue.

Production Possibilities Curve

The Production Possibilities Curve (PPC) shows the

graphical relationship of production between two products i.e. capital and consumer goods using limited resources. It shows the opportunity cost of a given product up against another product to illustrate the best product selection with the most benefits. The opportunity cost increases as we choose to produce more of a particular product.

In the PPC diagram Point G, inside the PPC, shows that resources are under-utilized and not efficiently used whereas Point H, beyond the curve, can be sustained only for short period of time. Advancements in technology push the PPC outward to PPC (A)  which shows that we can produce more products with same amount of resources such as combination Point B or D or any other possible point on Curve A. Technological improvements for both products shift the entire curve outwards.

Family income is a limited resource. Families try to allocate resources to fulfill their essential, everyday needs. They have to buy the basic necessities of life such as groceries and pay utility bills. Products such as HDTVs, computers, cars, cell phones and holidays as these all extend beyond the most basic needs. A decision process is often behind these purchases. For example: Do we need a holiday this year or can it be postponed till next year? Should we buy a car instead of using public transport? The choice is between two weeks of fun and relaxation or spending more than a couple of hours in transit every day. Ultimately, families must decide which expenditure is most beneficial to their lifestyle and needs.

For me personally, returning to higher education involved major decisions. The significant opportunity benefit to enrolling at SAIT is to further my career and job prospects in accounting. The opportunity costs to me are the tuition fees and time spent studying. Reduction in money and free time has resulted in sacrifices; this year I was unable to take a vacation. Ultimately, I think this was a great opportunity for me to go to college and study accounting, fulfilling a long-standing ambition.

Diagram source: Prentice Hall