LAW OF DEMAND AND DEGREES OF ELASTICITY

The law of demand explains the functional relationship between the quantity demanded of a commodity and its unit price, i.e., a rise in the price of a commodity or service is followed by a reduction in the quantity demanded, and a fall in the price is followed by an extension in demand, with other conditions remaining the same.

Exceptions to the law of Demand

Following are the exceptional cases, where, the law of demand does not hold good.

1. Giffen Goods (Inferior Goods): This phenomenon which is explained below was given by Sir Robert Giffen. It was named after him as the Giffen paradox. This phenomenon says that a rise in price is followed by an extension of demand, while a fall in price is followed by a reduction in demand for the good.

2. Prestigious Goods: When the possession of a good brings in social distinction, the consumer would go for the same even if its price is higher. An example to be cited here is the diamonds that the rich people purchase, as the possession of the same is prestigious to them.

3. High Priced Commodities: When the consumers view that those products which are superior are sold at higher prices, they do not mind buying more of the same at higher prices.

4. Fear of Shortage: If the existing price is higher and it is expected to increase further, consumers would buy more of it even at a higher price, fearing for the shortage.

ELASTICITY OF DEMAND

The law of demand says that demand varies inversely with the price, other things being equal. From the law of demand, we know the direction in which quantity and price are moving. What is not known is the extent to which quantity demanded is responsive to changes in price. This is the information, which is precisely needed by businessmen and policy-makers. Alfred Marshall developed the concept of elasticity of demand which measures the responsiveness of quantity demanded to changes in price.

Types of Elasticity of Demand

There are three types of elasticities of demand

1. Price Elasticity of Demand (Ed)

This shows their responsiveness of quantity demanded of a commodity, when the price of that commodity changes, with other factors being constant.

2. Income Elasticity of Demand (EI)

It measures the responsiveness of demand due to changes in the income of the consumers in terms of percentage, when other factors influencing demand viz., price of the commodity, l price of substitutes, tastes, preferences, etc., are kept at a constant level.

3. Cross Elasticity of Demand (Exy)

Demand for one good (X) is also influenced by the price of other related good (Y). These may be substitutes or complements. It is the ratio of the percentage change in quantity demanded of the commodity (X) and the percentage change in the price of the related commodity (Y).

DEGREES OF ELASTICITY OF DEMAND

Based on the magnitudes of elasticity of demand, it can be categorized into five degrees as given below.

Perfectly Elastic Demand

The slightest change in the price of a commodity leads to an infinite change in quantity demanded. The demand in such a situation is said to be perfectly elastic. The demand is hypersensitive and the elasticity of demand is infinite. Here the demand curve will be a horizontal line parallel to X-axis. It is mostly a theoretical concept.

Perfectly inelastic demand

It is the situation in which a change in the price of a commodity leaves the demand unaffected. The price of the commodity may increase or decrease, but the quantity demanded remains the same. The demand here is insensitive. The elasticity of demand is zero. The demand curve is vertical to X-axis. The case of perfectly inelastic demand is also a theoretical concept.

Relatively Elastic Demand

It means that a lesser proportionate change in the price of a commodity is followed by a larger proportionate change in the quantity demanded. A small proportionate fall in the price is accompanied by a larger proportionate increase in demand and Vice versa. The elasticity of demand is greater than unity.

Unitary Elastic Demand

When a given proportionate change in price results in the same proportionate change in the quantity demanded of commodity, the demand is said to be unitary elastic. A given proportionate fall in price is followed by the same proportionate increase in demand and vice versa. The elasticity of demand is one.