Demand in Economics

What does demand in an economy mean? Why should we understand the demand factors in an economy? Students learning economics face the challenge of distinguishing different types of demand and explaining its context to the behavior of consumers in an economy.

Introduction to Demand in Economics and Factors of Demand

Demand in economics represents the amount of a particular good that consumers want to consume under certain circumstances. Such circumstances are, for example, the price level of the good, price level of other goods, income level, and the preferences of the consumer. Other factors are market structure, information, psychological factors, social interactions, to name but a few. Students should always differentiate between two types of demand and how they relate to each other. On the side, the individual demand for goods of a household. On the other side, market demand is the aggregate of all demands of individual consumers in an economy.

X_D (p_x , p_y , U(X, Y)) =\alpha \frac{I}{p_x} \\ \text { for Cobb-Douglas Preference}

Individual Demand of a Household

Individual demand of a household is the amount of a particular good that a consumer wants to consume under certain circumstances (price, income, preference, expectations, and other factors.). While describing the optimal behavior of individual households, economists use the optimality condition of opportunity costs involved in choosing a bundle of goods. We can differentiate two sides of opportunity costs involved; the relative price of goods and the marginal rate of substitution (MRS) of goods. Therefore, when households respect the limits of their choice, they demand the optimal amounts of goods. Such an outcome is only achievable after consumers have considered maximizing their utility or minimizing their expenditure. In their decision-making process, the households consider their reactions to price changes (price elasticity of demand) and their response to income changes (income elasticity of demand).

In your analysis of individual demand reactions, consider using the price elasticity of demand and the income elasticity of demand. These two parameters will help you identify the types of goods that the household consumes. But you will also capture how households willingness to exchange a bundle of goods for another bundle they consider better than another.

Market Demand of Consumers in an Economy

Market demand is the sum of all individual demands of a private good in a market within an economy under similar circumstances, e.g., price and income. Therefore, the behavior of individual households will channel the impact of change in demand factors into the market demand since it is an aggregate. While analyzing the market demand, we look more at the following aspects of demand; the market structure, informational setting, and the social interaction involved in a market. Since individuals meet at the market, they are engaged in social interaction. While they meet, they will have some level of information, which will affect their demand for goods.

Monopsony

How would a household behave if it were the only participant in the market on the demand side facing many suppliers? Such a market situation would lead to a monopsony on the demand side. Indeed a monopsony can dictate prices in the market and oppress suppliers. An example of a monopsony on the demand side is the government. The public can only consume some commodities bought by governments through the government, e.g., national security. Compare this outcome with the monopoly on the supply side.

Cournot-Oligopoly on the Demand Side

What happens when a second consumer enters the market? The interaction changes when a second consumer enters the market and is willing to cooperate with the existing consumer or compete. Colluding will construct a cartel on the side of demand. Such an outcome will leave the suppliers with the same old problem (facing a monopsony). On the other side, competition will improve the situation for the suppliers. That will happen since the demand will simultaneously play a Cournot-oligopolistic game on the demand side.

Perfect Competition on the Demand Side

What happens when more consumers enter the market? As more consumers enter the market, we might observe more competition or perfect competition. For the former to happen, it will require that consumers do not collude to form a monopsony or oligopoly on the demand side. Another essential condition is the access and distribution of information between the demand and supply sides of the market. Both sides must equally and symmetrically have access to complete information. 

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