Question

QUESTION 3 (CHAPTER 4 - SUPPLY AND DEMAND) a. What is the law of demand? What factors are taken as constant when plotting a demand curve? b. What happens to a demand curve if the income of the consumers increases? c. What happens to a demand curve for a product if the price of a substitute product increases? (Hint: Margarine and butter are substitute good. What would happen to the demand curve for margarine if the price of butter increases?) d. What happens to a demand curve for a product if the price of a complement product increases? (Hint: Peanut butter and jelly are complement goods. What would happen to the demand curve for peanut butter if the price of jelly increases?) e. Now consider the demand curve for smart phones. Suppose consumers begin expecting that the price of smart phone will increase significantly in the upcoming months. What would happen to the demand curve for smart phones today?

Answer 1

(a) Law Of Demand : Generally when the price of a commodity falls the quantity demanded increases and when its price increases its quantity demanded decreases. Thus when other things remaining unchanged, the inverse relationship between the demand and price of the commodity is called law of demand. The relationship described by the law of demand is an inverse or negative relationship because the variables move in opposite directions.

Factors taken as constant plotting a demand curve : Demand of a commodity may change. It may increase or decrease. It happens due to change in certain factors. These cause a change in demand curve. They are Price of the commodity, Nature of the commodity, Income and Wealth of consumers, Price of related goods etc.

(b) When the income of the consumer increases in case of normal goods : The demand for goods also will increase because with the increase in income, he can spend more amount on the purchase of such goods. When the income of the consumer increases in case of normal goods, the demand curve will shift outwards.

When the income of the consumer increases in case of inferior goods : The demand for the inferior decreases when the income of the consumer increase, as the relationship between demand for inferior goods and consumers income is inverse. When the income of the consumer increases in case of inferior goods, the demand curve will shift inwards.

(c) Substitute Goods : Two goods are said to be substitute of each other when one can be used in place of another.

When the price of the substitute goods increases, the demand for the orginal commodity also will increase. The demand for margarine will also increases when the price for butter increases.

As there is an increase in demand for margarine over here, the demand curve will shift to right side.

(d) Complementary Goods : Two goods are said to be complementary of each other when they are used together. They can only be consumed together. In the case of complementary goods increase in price will lead to decrease in demand.

When the price of complementary goods increases, the demand for both the orginal good and the complementary good will decrease.

When the price of complementary goods increases, this will create a leftward shift in the demand curve.