- The Law of Diminishing Marginal Utility or Gossen's First Law
- What does Law of Demand State? And What are the Exceptions to the Law of Demand?
A demand curve represents functional relationship between price and quantity. In general, demand curves slope downward from left to right while horizontal axis measures quantity demanded and vertical axis measures price. This denotes that consumers prefer to buy less at a higher price and more at a lower price. But why does it happen? Though buying more at a lower price appears straightforward, there are various economic reasons behind it. The following are the most important reasons for the downward slope of a demand curve:
Law of Diminishing Marginal Utility
Firstly, a demand curve is just an extension of marginal utility curve. According to the law of diminishing marginal utility, a consumer derives less and less utility from subsequent units of the same commodity. To denote this, the marginal utility curve slopes downward from left to right while horizontal axis represents quantity consumed and vertical axis represents marginal utility. Since the utility derived keeps on diminishing, consumer goes on reducing the demand. In this case, to increase the demand, seller has to reduce the price. Therefore, there is a direct relationship between marginal utility and price of a commodity. If marginal utility decreases, price also decreases and vice versa. Hence, if we measure the price on vertical axis and quantity demanded on horizontal axis, we can derive a downward sloping demand curve that is similar to marginal utility curve. The following picture explains how a demand curve is derived from the marginal utility curve:
Multiple Uses of Commodities
Secondly, some commodities can be used for several purposes. If the price of such a commodity is high, only those people who need it for the most important purpose will buy. In this case, the effective demand is less. Effective demand refers to both willingness to buy and ability to pay. At the same time, if the price of the commodity is low, people will buy it for other inferior purposes also. In this case, the effective demand will be high because more people are buying the commodity now. Therefore, the principle of multiple uses of commodities is also a cause of downward sloping demand curve.
Variations in Tastes and Preferences
Thirdly, a normal demand curve slopes downward because of variations in tastes and preferences of people. People differ in their requirements, desires, tastes and preferences. These differences drastically influence the prices that they are willing to pay for a commodity. For instance, an ardent lover of apples might be ready to buy them at a high price when the supply of apples is limited. On the other hand, a person who likes apples moderately does not pay a high price. Therefore, the demand for apples increases as the price decreases because of variations in tastes and preferences. This scenario causes demand curves to slope downward.
Supply of Commodities
Fourthly, supply of commodities also plays a vital role in determining the shape of a demand curve. If supply of a commodity is limited, then only those people who can afford a high price are able to buy. At the same time, if the supply of a commodity is large, the seller has to reduce the price to find more buyers. In this case, personal income of people plays a significant role because it directly influences purchasing power of people. When the purchasing power is high, people are ready to pay a high price for a commodity when its supply is limited. On the contrary, if the purchasing power is low, sellers have to reduce the price in order to increase demand. A normal demand curve slopes downward because of this reason also.
Finally, income effect occurs because of a change in consumer’s real income. Consumer’s real income changes because of a change in price of a commodity. For instance, if price of a commodity falls, consumer can buy more of that commodity with the same amount of money. In simple words, fall in the price of a commodity increases consumer’s purchasing power. At the same time, rise in the price of a commodity decreases consumer’s purchasing power. This is known as income effect. From this concept, we can understand that fall in the price of a commodity increases consumer’s real income (consumer’s purchasing power). Therefore, the consumer tends to purchase more of the commodity. This is also a reason for the downward sloping demand curve. However, it is observed that the income effect is a weak argument; because no customer spends large amount of money on a single commodity. Therefore, change in real income may not create huge demand for a particular commodity.
© 2012 Sundaram Ponnusamy
Cheetija verma on November 01, 2015:
Thanku so much
muskaan1 on December 20, 2014:
Thanx u.. !!
can u plz derive or explain consumer equilibrium in cardinal theory and its first and second order condition ? it will be quite helpful..
khushi kumaari gupta on January 13, 2014:
Its very helpful and easily understanding