Demand is one of the determining factors of a business as it can affect the expansion of a business and economic growth. Demand is a factor that enables companies to produce and actively think about innovative ideas to increase demand in the market. Therefore, having an understanding of demand is very crucial for a business.
Read this article to understand the concept of demand.
Meaning of demand
The definition of demand is the desire of consumers to purchase goods and services and their willingness to pay the asked price to be able to buy them. Demand is one of the main building blocks of an economy. When we talk about the demand for goods and services, we not just talk about the single quantity being demanded but the complete demand curve.
The demand for products and services is affected by the change in the price of the product. As per the law of demand, the demand of products decreases with the increase in the price of the goods. Whereas all other factors are kept constant and vice versa.
Due to this reason, businesses spend massive amounts of money to determine the demand for their products and services in the market. What number of goods will they be able to sell at a given price of the products?
Companies need to estimate the demand in the market rightly. A wrong estimation might result in money left on the table if demand is underestimated and losses of the capital invested if the overestimation of demand is made. Demand is the fuel to keep business and an economy running. No business wants to produce anything if there is no demand in the market.
There is a close relationship between demand and supply. Consumers try to pay as little as possible for the goods and services they want to buy, and on the other hand, suppliers want to earn as much profit as they can. Therefore, businesses must decide the price of goods and services correctly so that both suppliers and consumers can take advantage of it because the demand for the products and services is directly proportional to the price of the goods and services.
If the cost of the goods is too high, then its demand will drop as a result of that the suppliers will not sell much, and their customers will move to the competitors that provide similar goods at affordable prices. In contrast to this, a supplier might attract many customers by keeping the price low of the products and services. Still, the lower price will fail to cover the cost of the supplier and, thus, despite having many customers, the supplier will incur losses or little profit.
Additionally, there are several other factors, such as the number of competitors in the market, the perceived availability of goods, and the availability of financing.
Determinants of demand
There are five determinants of demand. These determinants affect the demand for goods and services in the market. Let us learn about them one by one.
1. Goods and services
The first and the most important determinant of demand is the product itself. You can expect high demand if the quality of your goods and services is not good. If a company wants to attract customers, then it must make sure that your goods and services meet the expectations of customers. Moreover, it is crucial to decide the price of the products in such a way so that your key customers can afford it, and you can still stay profitable.
2. The cost of competing goods
The second determinant of demand is the price of competing or complementary or substitute products. If the value of the substitute goods is lower than the price of goods produced by you, then people will prefer to buy the goods from your competitor, which will result in the loss of your business. Thus, companies keep the price of their products close to the cost of substitute goods available in the market.
3. The income of consumers
The third determinant of demand is the income of consumers. People make their expenditure decisions based on their income. Income is one of the circumstances driven determinants. During the economic slowdown, the employment and income of people get affected, and as a result of that, they start spending less, and thus the demand for products gets affected.
4. Tastes and preferences of consumers
Tastes and preferences of consumers are one of the determinants that help consumers make their buying decisions. For example, a vegan consumer will never buy your meat products. Because of this reason, in countries like India, there are very few consumers of beef.
5. Expectations of consumers
The ultimate determinant of demand is very volatile. The expectation of consumers changes with the change in income and economic condition. For example, when the health of the economy is weak, they tend to spend less.
When there is a fear of inflation in the future, then there are chances that they will be more likely to buy in bulk to stock up goods for the future. In such scenarios, demand will increase tremendously.
A demand curve is created when people buy different numbers of goods at different prices. The demand curve shows the data of a detailed demand schedule. In a demand curve, the price is mentioned on the X-axis, and the quantity of goods purchased is indicated on the Y-axis. The shape of the demand curve is like a slanted C. This is because people purchase fewer products when the price of the goods is high and a lesser number of products at a high cost.
If the demand curve of a product is flat, that means people will buy a lot even if the price of goods changes a little. In case when the demand for commodities doesn’t change with the change in the cost of the products, then the shape of the demand curve is relatively steep.
The elasticity of demand:
The elasticity of demand can be defined as the change in the demand for goods with the change in their price. The elasticity of demand is calculated in the form of a ratio. The elasticity of demand can be obtained by dividing the percentage change in the quantity with the percentage change in the price of the goods.
The elasticity of demand can be of three types:
- Unit elasticity: The demand elasticity is called unit elasticity when the percentage of changed demand is equal to the percentage of price changed.
- Elastic: The demand is elastic when the demand of the goods changes tremendously with the little change in the cost of the goods.
- Inelastic: The demand is inelastic when the demand of the goods changes by a smaller percentage than the amount of price changed.
Aggregate demand is also an important concept to be understood while learning about demand. Aggregate demand is also known as market demand. The aggregate demand can be defined as the demand of a group of people. The aggregate demand is also controlled by five determinants that we learned earlier, with one-sixth factor i.e., the total number of consumers in the market.
The aggregate demand for certain goods is calculated for a country. It is the number of products produced by a country that is demanded by the population of the whole world. Therefore, it comprises five components, such as business investment spending, consumer spending, imports, exports, and government spending.