1.3 Price determination in a
competitive market
1.3.1 The determinants of the demand for goods and
services
Demand is the quantity of a good or service that consumers are willing and able
to buy at given prices in a given period of time.
Effective Demand for a product is the desire for a good or service backed by an
ability to pay.
Basic Law of Demand - As price decreases, demand increases (inverse
relationship).
Derived demand is the demand for a factor of production used to produce
another good or service, e.g. demand for steel is derived by the market demand
for cars.
Composite demand exists where goods have more than one use - an increase
in the demand for one product leads to a fall in supply of the other, e.g. increase
in demand of milk for butter leads to decrease in demand of milk for yoghurt.
1.3 Price determination in a competitive market 1
, Income Effect
A fall in price increases the real purchasing power of consumers (increase in
their real income)
This allows people to buy more with a given budget.
Substitution Effect
A fall in the price of good X makes it relatively cheaper compared to
substitutes
Some consumers will switch to good X leading to higher demand.
Causes of shifts in the Demand Curve
Changing price of a substitute good in competitive demand
Changing price of a complement good - i.e. in joint demand
Change in the real income of consumers
Effects of advertising or marketing
Tastes and preferences
Population size
Interest rates or tax
Speculation or consumer confidence
Seasonal factors.
Normal goods - income increases, demand increases
Inferior goods - income increases, demand decreases
Veblen goods - price increases, demand increases
Giffen good - price increases, demand increases
1.3.2 Price, income and cross elasticities of demand
PED
PED measures the responsiveness of quantity demanded after a change in the
good’s own price
1.3 Price determination in a competitive market 2
competitive market
1.3.1 The determinants of the demand for goods and
services
Demand is the quantity of a good or service that consumers are willing and able
to buy at given prices in a given period of time.
Effective Demand for a product is the desire for a good or service backed by an
ability to pay.
Basic Law of Demand - As price decreases, demand increases (inverse
relationship).
Derived demand is the demand for a factor of production used to produce
another good or service, e.g. demand for steel is derived by the market demand
for cars.
Composite demand exists where goods have more than one use - an increase
in the demand for one product leads to a fall in supply of the other, e.g. increase
in demand of milk for butter leads to decrease in demand of milk for yoghurt.
1.3 Price determination in a competitive market 1
, Income Effect
A fall in price increases the real purchasing power of consumers (increase in
their real income)
This allows people to buy more with a given budget.
Substitution Effect
A fall in the price of good X makes it relatively cheaper compared to
substitutes
Some consumers will switch to good X leading to higher demand.
Causes of shifts in the Demand Curve
Changing price of a substitute good in competitive demand
Changing price of a complement good - i.e. in joint demand
Change in the real income of consumers
Effects of advertising or marketing
Tastes and preferences
Population size
Interest rates or tax
Speculation or consumer confidence
Seasonal factors.
Normal goods - income increases, demand increases
Inferior goods - income increases, demand decreases
Veblen goods - price increases, demand increases
Giffen good - price increases, demand increases
1.3.2 Price, income and cross elasticities of demand
PED
PED measures the responsiveness of quantity demanded after a change in the
good’s own price
1.3 Price determination in a competitive market 2
