Understanding demand is essential for analysing how prices and quantities are determined in competitive markets. This topic explores the behaviour of consumers and the key forces shaping demand.
What is demand?
Demand refers to the quantity of a good or service that consumers are willing and able to purchase at various prices over a given period of time. It is not simply a desire to buy, but a willingness and financial ability to make the purchase.
Effective demand occurs when a consumer has both the willingness and the ability to pay for a good or service.
Latent demand refers to the desire to purchase something without the financial means to do so.
Demand is a central concept in economics because it reflects how consumers behave in response to price changes and other influencing factors. It helps economists and businesses predict sales and plan production accordingly.
The demand curve
A demand curve is a graphical representation of the relationship between the price of a good and the quantity demanded, assuming all other factors remain constant (this assumption is called ceteris paribus).
The demand curve usually slopes downwards from left to right, reflecting the inverse relationship between price and quantity demanded.
This means that as price decreases, the quantity demanded increases, and vice versa.
Example:
If the price of a cinema ticket falls from £10 to £6, more people may decide to go to the cinema, increasing the number of tickets sold.
Reasons for the downward slope:
Income effect – As the price of a good falls, a consumer’s real income increases, allowing them to buy more of the good.
Substitution effect – As the price falls, the good becomes more attractive relative to substitutes, so consumers switch to it.
Movements along the demand curve
A movement along the demand curve occurs only when the price of the good itself changes, leading to either an extension or a contraction in demand.
A fall in price causes an extension of demand – consumers buy more.
A rise in price causes a contraction of demand – consumers buy less.
The curve itself does not move during a price change – only the position on the curve changes.
Shifts of the demand curve
A shift of the demand curve happens when a non-price determinant of demand changes. In this case, the entire curve shifts either to the right (increase in demand) or to the left (decrease in demand).
A rightward shift means that at every price, a greater quantity is demanded.
A leftward shift means that at every price, a smaller quantity is demanded.
Factors causing a shift in demand (conditions of demand)
There are several key non-price factors that can cause the demand curve to shift. These are known as the conditions of demand.
1. Income
For normal goods, demand increases as consumer income increases.
For inferior goods, demand decreases as income increases because consumers switch to higher-quality alternatives.
Example: Demand for supermarket-brand baked beans may fall as income rises, as consumers switch to branded options.
2. Tastes and preferences
Changes in trends, fashion, and public attitudes can increase or decrease demand.
A favourable change in tastes (e.g. towards healthy eating) will shift demand for healthy foods to the right.
Example: A rise in environmental awareness may increase demand for electric cars.
3. Prices of substitutes and complements
A substitute is a good that can be used in place of another. If the price of a substitute rises, demand for the good in question may increase.
Example: If the price of Coca-Cola rises, demand for Pepsi may increase.A complement is a good that is used together with another good. If the price of a complement rises, demand for the original good may fall.
Example: If the price of smartphones falls, demand for phone cases may rise.
4. Expectations of future prices
If consumers expect prices to rise in the future, they may increase their current demand to avoid higher prices later.
If prices are expected to fall, consumers may delay purchases, reducing current demand.
Example: If petrol prices are expected to rise sharply next week, consumers may fill their tanks this week.
5. Population size and demographics
An increase in the population size increases demand for most goods and services.
Changes in demographic composition (such as an ageing population) can shift demand for certain goods.
Example: An ageing population may increase demand for mobility aids and healthcare products.
6. Advertising and branding
Successful advertising campaigns can increase demand by raising consumer awareness and preference.
Branding builds long-term customer loyalty, sustaining higher demand even without frequent advertising.
Example: A viral advertisement for a new mobile phone model can lead to a sharp increase in demand.
The law of diminishing marginal utility
The law of diminishing marginal utility is a key concept in understanding the shape of the demand curve.
What is marginal utility?
Marginal utility is the additional satisfaction or benefit a consumer derives from consuming one more unit of a good or service.
The law defined:
As more units of a good are consumed, the marginal utility gained from each additional unit tends to decrease.
In other words, the first unit of a good provides the greatest satisfaction. Each subsequent unit adds less utility than the previous one.
Example:
The first glass of water when you are thirsty gives you high satisfaction.
The second glass still quenches your thirst but less intensely.
By the fourth or fifth glass, the marginal benefit is very low, or may even become negative.
Implications for demand:
Consumers are only willing to buy additional units if the price falls to reflect the lower marginal utility.
This is one of the key reasons why the demand curve slopes downward – price must fall to entice consumers to purchase more.
Diagrams to illustrate key concepts
1. The demand curve
Label Price (P) on the vertical axis and Quantity (Q) on the horizontal axis.
Draw a downward sloping line from left to right, labelled D1.
This shows that as price falls, quantity demanded increases.
2. Movements along the demand curve
On a single demand curve (D1), mark two points: one at a higher price with lower quantity, and one at a lower price with higher quantity.
Use arrows to show contraction (up the curve) and extension (down the curve).
3. Shifts of the demand curve
Draw two demand curves: D1 and D2.
D2 to the right of D1 shows an increase in demand.
D2 to the left of D1 shows a decrease in demand.
Keep price constant on the vertical axis to show that the change is due to non-price factors.
4. Marginal utility and demand
Draw a marginal utility curve sloping downward to show diminishing marginal satisfaction.
Relate this to the demand curve: as marginal utility falls, consumers will only buy more if the price also falls.
Summary of key terms and equations
Demand: The quantity of a good or service that consumers are willing and able to buy at various prices.
Effective demand: Demand supported by the ability to pay.
Latent demand: Desire to buy without financial means.
Demand curve: A graph showing the relationship between price and quantity demanded.
Extension of demand: A rise in quantity demanded due to a fall in price.
Contraction of demand: A fall in quantity demanded due to a rise in price.
Shift of the demand curve: Occurs when non-price factors change.
Marginal utility: Additional satisfaction from consuming one more unit.
Law of diminishing marginal utility: Marginal utility declines as consumption increases.
There is no equation for demand itself, but the concept of marginal utility can be represented as:
Marginal utility = Change in total utility / Change in quantity consumed
FAQ
Consumer confidence refers to the level of optimism consumers have about their future income and the overall state of the economy. Even if a consumer’s current income remains unchanged, higher consumer confidence can lead to an increase in spending and, therefore, a rise in demand for goods and services. This is because confident consumers are more likely to commit to major purchases such as cars, holidays, or home appliances, anticipating that their financial situation will remain stable or improve. On the other hand, falling consumer confidence, such as during economic downturns, can cause consumers to delay or reduce spending, even if their income hasn’t yet been affected. This distinguishes consumer confidence from the direct effect of actual income changes, which affects demand for normal and inferior goods differently. Consumer confidence acts as a psychological determinant of demand and can shift the demand curve to the right when high, or to the left when low, independently of real income levels.
Addictive goods, such as cigarettes or alcohol, tend to have inelastic demand, meaning quantity demanded changes little in response to price changes. This is because addiction reduces a consumer’s sensitivity to price – users feel compelled to continue consumption despite cost increases. Over time, habitual use alters preferences and overrides rational decision-making processes, reducing price responsiveness. As a result, even large price increases (such as through taxation) often lead to only minor reductions in consumption. Furthermore, there are typically few close substitutes for addictive goods, and consumers might prioritise their purchase over other expenditures. This behaviour deviates from standard rational utility-maximising assumptions, reflecting diminishing marginal utility but constrained by dependence. Governments often use this knowledge when imposing indirect taxes, as the inelastic demand ensures high tax revenue with minimal reduction in quantity consumed. However, complementary policies like public health campaigns are also necessary to reduce consumption effectively over the long term.
Derived demand refers to the demand for a good or service that results from the demand for another good – typically a final consumer product. While the concept is most commonly applied in labour markets or capital goods (e.g. demand for steel derived from the demand for cars), it also has relevance in understanding patterns in consumer markets. For instance, an increase in consumer demand for smartphones will lead to a derived demand for the components used in their manufacture – such as processors, screens, or batteries. Though not a direct determinant of demand in consumer markets, derived demand explains how changes in end-user preferences and purchasing behaviour ripple through supply chains. In revision terms, it helps students understand interdependencies in market demand and the broader implications of shifts in final consumer demand. While not shifting the consumer’s own demand curve, derived demand explains how a firm’s demand for inputs is driven by final consumer activity.
Yes, changes in interest rates can affect consumer demand, even for everyday goods and services, though the impact is usually more pronounced for durable or credit-dependent purchases. When interest rates fall, the cost of borrowing decreases, making it more affordable for consumers to take out loans or use credit to finance purchases. This can lead to increased demand for items such as furniture, electronics, or vehicles. Lower interest rates also reduce mortgage repayments for those on variable rates, increasing disposable income and potentially boosting spending on a range of everyday goods. Conversely, higher interest rates discourage borrowing, raise debt repayments, and may reduce disposable income, lowering demand. The overall confidence of consumers is also influenced by interest rate changes, especially when rates reflect broader economic conditions. While interest rates are not a direct determinant like price or income, they are an important indirect influence on demand and can shift the demand curve in some markets.
Seasonality refers to periodic fluctuations in demand that occur at specific times of the year due to changes in weather, holidays, school terms, or cultural events. For instance, demand for warm clothing increases in winter, while demand for sun cream rises in summer. During festive periods, such as Christmas, demand for gifts, food, and decorations significantly increases. These predictable shifts in consumer preferences and behaviour cause the entire demand curve to shift rightward during peak seasons and leftward during off-peak times. Seasonal changes are non-price factors, so they do not result in movement along the curve but rather a shift of the curve itself. Businesses respond to seasonal demand by adjusting inventory levels, pricing strategies, and promotional activities. Economists and analysts often use seasonally adjusted data to filter out these regular patterns when evaluating longer-term demand trends. Understanding seasonality is vital for interpreting short-term demand changes without misattributing them to price or other fundamental factors.
Practice Questions
Explain how the law of diminishing marginal utility helps to explain the downward sloping demand curve.
The law of diminishing marginal utility states that as a consumer consumes more units of a good, the additional satisfaction (marginal utility) gained from each extra unit decreases. Since consumers receive less benefit from each successive unit, they are only willing to purchase more if the price falls to match the lower utility. This explains why the demand curve slopes downward: lower prices are needed to encourage additional purchases. As price falls, the quantity demanded rises due to this diminishing marginal benefit, showing the inverse relationship between price and quantity demanded.
Analyse two factors that might cause a rightward shift of the demand curve for electric vehicles.
One factor could be rising consumer incomes. As electric vehicles are relatively expensive, higher incomes increase consumers’ ability to purchase them, boosting demand. Another factor could be increased environmental awareness or government campaigns encouraging green choices. If consumers perceive electric vehicles as eco-friendly alternatives to petrol cars, their preferences shift, increasing demand. Both factors lead to more being demanded at every price level, causing a rightward shift in the demand curve. Diagrams showing this shift would illustrate increased equilibrium quantity and potentially higher prices depending on supply conditions.
