Consumer equilibrium

under utility concept

 Basis of Individual demand
Utility
- From the commodity point of view
- From Consumers point of view
Approaches to Consumer Demand Analysis
o Cardinal Utility approach
- Total utility
- Marginal utility
LAW OF DIMINISHING MARGINALUTILITY
Assumptions underlying cardinality approach
- Rationality
- Limited money income
- maximisation of satisfaction
- Utility is cardinally measurable
- Diminishing marginal utility
- Constant marginal utility of money
 Consumers equilibrium
- One commodity model
- Multiple commodity model THE LAW OF EQUIMARGINAL
UTILITY
Ordinal Utility Approach

Assumptions underlying ordinal approach

- Rationality
- Ordinal utility
- Transitivity & consistency in choice
- Nonsatiety
- Diminishing marginal rate of substitution
Marginal rate of substitution - MRS is the rate at which one commodity can be substituted for
another, the level of satisfaction remaining the same.
Diminishing MRS The quantity of a commodity that the quantity of a commodity that a consumer is
willing to sacrifice for an additional unit of another goes on decreasing when he goes on substituting
one commodity for another.
Indifference Curve - Indifference curve is a locus of points, each representing a different
combination of two substitute goods, which yield the same level of utility or satisfaction to the
consumer.
Indifferent Map It is a combination of indifferent curves which allows understanding how changes
in the Quantity or type of the goods may change consumption patterns.
 Properties of Indifference curve

- Indifference curves have a negative slope

- Indifference curves are convex to the origin
- Indifference curves do not intersect with each other
- Indifference curves are not tangent to one another
- Upper indifference curve always indicate a higher level of satisfaction

Budgetary constraint & The Budget Line

The limitedness of the income acts as a constraint on how high a consumer can ride on
his/her indifference map.

Consumers Equilibrium
It refers to a situation, in which a consumer derives a maximum satisfaction with no
intention to change it and subject to given prices and his given income.
Demand Analysis
What is Demand?
Demand means effective desire or want for a commodity
which is backed up by the ability (purchasing power)
and willingness to pay for it.

Demand = Desire + Ability to pay + Willingness to spend

Demand is a relative concept not absolute

It is related to price , time and place.

The demand for a commodity refers to the amount of it

which will be bought per unit of time at a particular
price
( in a particular market).
 Individual and Market
demand

Individual Demand : Individual demand for a product is the

quantity of it a consumer would buy at a given price, during a given
period of time.
Market demand : Market demand for a product is the total demand
of all the buyers in the market taken together at a given price during
a given period of time.
Demand Schedule: A tabular statement of price quantity
(demanded) relationship at a given period of time
Individual demand schedule
Market demand schedule.
Types of demand

Individual demand & Market demand

Demand for capital goods and demand for consumer
goods
Autonomous demand & Derived demand
- Direct & indirect demand
Demand for durable & non-durable goods
- Replacement demand in case of durable goods
Short term demand & Long term demand
Determinants of Demand
Price of the product
Price of the related goods
Consumers income level
Distribution pattern of national income
Consumers taste and preferences
Advertisement of the product
Consumers expectation about future price and supply position
Demonstration effect and Band-Wagon effect
Consumer credit facility
Demography and growth rate of population
General std. of living and spending habits
Climatic and weather conditions
Customs

Demand Function: It states the (functional/mathematical) relationship between the

demand for the product ( dependent variable) and its determinants ( independent
variables).
Law of demand

Statement of Law : Other things being equal, the higher the price of a
commodity, the smaller is the quantity demanded and lower the price,
larger the quantity demanded.

Factors behind Law of demand

Substitution effect
Income effect
Utility Maximising behavior

Exceptions to Law of demand

Expectation regarding future prices
Giffen goods
Articles of snob appeal / Veblen effect
Consumers psychological bias ( about quality and price relationship)
Changes in quantity demanded &
Changes in demand
Changes in quantity demanded is related to law of
demand i.e. due to changes in price.

When with a fall in price more of a commodity is demanded,

there is EXTENSION of demand & when with a rise in price
less of a commodity is purchased, there is CONTRACTION of
demand.
Changes in demand is caused by changes in various
other determinants of demand, the price remaining
unchanged.

When more of a commodity is bought than before at any given

price there is INCREASE in demand & when less of a
commodity is bought than before at any given price there is
DECREASE in demand.
Elasticity of demand
Elasticity of demand is the degree of responsiveness of
demand to the changes in its determinants.
(A) PRICE ELASTICITY O DEMAND
The extent of response of demand for a commodity to
the changes in its price, other determinants of
demand remaining constant is called price elasticity
of demand.
ep = Proportional changes in quantity demanded
Proportional changes in price
 Types of price elasticity of demand
1. Perfectly elastic demand
2. Perfectly inelastic demand
3. Relatively elastic demand
4. Relatively inelastic demand
5. Unitary elastic demand

Determinants of price elasticity of demand

- Nature of commodity - Uses of commodity
- Availability of substitutes - Durability of commodity
- Possibility of postponement - Income level of consumers
- Price range of the product - Complementary relationship
- Knowledge level of consumers - Frequency of purchase
- Proportion of expenditure on the product - Time period
 Practical application
- Pricing decisions - Factor rewarding
- Terms of trade - Foreign exchange rates
- Tax rates - Public utilities

(B) INCOME ELASTICITY OF DEMAND

The degree of responsiveness of demand for a commodity to the
changes in the consumers income is known as income elasticity
of demand

Types of income elasticity

1. Unitary income elasticity 2.Income elasticity grater than one
3. Income elasticity less than one 4.Zero income elasticity
5. Negative income elasticity
 Practical application

- Growth rate of firm - Demand forecasting

- Production planning - Marketing plan

(C) CROSS ELASTICITY OF DEMAND

The degree of responsiveness of demand for a

commodity to a given change in the price of some
other related commodity is known as cross elasticity of
demand.
exy = Proportional change in demand for X
Proportional change in the price of Y
(D) ADVERTISING / PROMOTIONAL ELASTICITY OF
DEMAND
The degree of responsiveness of demand for a commodity to
given change in the advertising or promotional expenses is
known as cross elasticity of demand.
 Measuring price elasticity of demand

- Total Expenditure Method

- Point Method
- Arc Method
Demand forecasting
Demand forecasting is predicting or anticipating the future
demand for a product.
Micro level Industry level Macro level

USES OF DEMAND FORECASTING DATA

Short term demand forecasting

1) Evolving production policy
2) Determining price policy
3) Evolving purchase policy
4) Fixation of sales targets
5) Short term financial policy
Long term demand forecasting
1) Business planning
2) Man power planning
3) Long term financial planning