The Demand Curve: Videos & Practice Problems

In a perfectly competitive market, understanding demand is crucial for analyzing consumer behavior. The demand curve is a graphical representation that illustrates the relationship between the price of a good and the quantity demanded. On a standard price-quantity graph, price is plotted on the vertical (y) axis, while quantity is on the horizontal (x) axis. This setup follows the alphabetical order of 'P' for price and 'Q' for quantity, making it easier to remember.

Demand refers to the behavior of buyers or consumers in the market. A key term in this context is quantity demanded, denoted as \( Q_d \), which represents the amount of a good that consumers are willing to purchase at a specific price. For example, if the price is $10 and consumers want to buy 100,000 units, then the quantity demanded at that price is 100,000 units. The demand schedule lists various price-quantity pairs, showing how quantity demanded changes with price.

The law of demand states that when the price of a good rises, the quantity demanded falls, and conversely, when the price decreases, the quantity demanded increases. This relationship can be summarized as: when price goes up, quantity demanded goes down, and when price goes down, quantity demanded goes up. Two main effects explain this behavior: the substitution effect and the income effect. The substitution effect occurs when consumers opt for alternative products as prices rise, while the income effect indicates that higher prices reduce consumers' purchasing power, leading them to buy less of the good.

The demand curve itself is downward sloping, reflecting the inverse relationship between price and quantity demanded. This slope can be remembered with the phrase "double D's" for demand downward. It is important to distinguish between demand (the entire curve representing all price-quantity combinations) and quantity demanded (a specific point on the curve at a given price).

As we analyze demand further, we can plot a demand schedule on the graph, connecting points to form the demand curve. For instance, if at a price of $9, the quantity demanded is 10,000 units, this point can be plotted, and as prices decrease, the quantity demanded will increase, illustrating the downward slope of the demand curve. While most goods follow the law of demand, there are exceptions, but these are not the focus of this discussion.

Understanding the relationship between individual demand curves and the market demand curve is essential in economics. Each consumer has their own individual demand curve, which illustrates how many units of a good they would purchase at various price points. For instance, if the price of cereal is $5, an individual will have a specific quantity they are willing to buy at that price, which can change at different price levels.

To derive the market demand curve, one must aggregate the individual demand curves of all consumers in the market. This is done by summing the quantities demanded by each individual at each price level. For example, consider a market for Supreme Pizzas with two consumers: Fat Albert and Skinny Hendrix. If Fat Albert demands 16 pizzas at $2 and Skinny Hendrix demands 4 pizzas at the same price, the total market demand at that price would be 20 pizzas. This process continues for other price points, illustrating the law of demand, which states that as prices increase, the quantity demanded generally decreases.

Graphically, each individual's demand can be represented on a graph with price on the vertical axis and quantity on the horizontal axis. For Fat Albert, at prices of $2, $4, and $6, the quantities demanded are 16, 12, and 8 pizzas, respectively. Similarly, Skinny Hendrix's demand at those prices would be 4, 3, and 2 pizzas. Each individual's demand curve will look different due to variations in preferences and purchasing power.

To create the market demand curve, one combines the individual demand curves by plotting the total quantities demanded at each price level. For instance, at a price of $4, the market demand would be 15 pizzas (12 from Fat Albert and 3 from Skinny Hendrix). This method can be extended to larger markets with many consumers, where the market demand curve reflects the collective behavior of all individuals in the market.

In summary, to find the market demand, simply sum the individual demands at various prices. This approach not only highlights the interaction between individual preferences and market dynamics but also reinforces the fundamental economic principle that demand decreases as prices rise.