Today, almost any developed country in the world is characterized by a market economy, in which state intervention is minimal or completely absent. Prices for goods, their assortment, volumes of production and sales - all this is formed spontaneously as a result of the work of market mechanisms, the most important of which are law of supply and demand. Therefore, let us at least briefly consider the basic concepts economic theory in this area: supply and demand, their elasticity, the demand curve and the supply curve, as well as the factors that determine them, market equilibrium.

Demand: concept, function, graph

Very often one hears (sees) that such concepts as demand and the magnitude of demand are confused, considering them synonyms. This is wrong - demand and its value (volume) are completely different concepts! Let's consider them.

Demand (English Demand) - the solvent need of buyers for a certain product at a certain price level for it.

Demand quantity(volume demanded) - the quantity of goods that buyers are willing and able to purchase at a given price.

So, demand is the need of buyers for a certain product, provided by their solvency (that is, they have money to satisfy their need). And the magnitude of demand is the specific amount of goods that buyers want and can (they have the money to buy) to buy.

Example: Dasha wants apples and she has money to buy them - this is a demand. Dasha goes to the store and buys 3 apples, because she wants to buy exactly 3 apples and she has enough money for this purchase - this is the amount (volume) of demand.

Distinguish the following types demand :

• individual demand- an individual specific buyer;
• total (aggregate) demand- all buyers available on the market.

Demand, the relationship between its value and price (as well as other factors) can be expressed mathematically, as a function of demand and a demand curve (graphical interpretation).

Demand function- the law of dependence of the magnitude of demand on various factors influencing it.

- a graphical expression of the dependence of the quantity demanded for a certain product on the price of it.

In the simplest case, the demand function is the dependence of its value on one price factor:

P is the price of this product.

The graphic expression of this function (the demand curve) is a straight line with a negative slope. Describes such a demand curve the usual linear equation:

where: Q D - the amount of demand for this product;
P is the price for this product;
a is the coefficient that specifies the offset of the beginning of the line along the abscissa axis (X);
b – coefficient specifying the line slope angle (negative number).

The line graph of demand expresses the inverse relationship between the price of a product (P) and the number of purchases this product(Q)

But, in reality, of course, everything is much more complicated and the amount of demand is affected not only by the price, but also by many non-price factors. In this case, the demand function takes the following form:

where: Q D - the amount of demand for this product;
P X is the price for this product;
P is the price of other related goods (substitutes, complements);
I - income of buyers;
E - expectations of buyers regarding price increases in the future;
N is the number of possible buyers in the given region;
T - tastes and preferences of buyers (habits, following fashion, traditions, etc.);
and other factors.

Graphically, such a demand curve can be represented as an arc, but this is again a simplification - in reality, the demand curve can have any of the most bizarre shapes.

In reality, demand depends on many factors and the dependence of its magnitude on price is non-linear.

Thus, factors affecting demand:
1. Price factor demand- the price of this product;
2. Non-price factors of demand:

• the presence of interrelated goods (substitutes, complements);
• income level of buyers (their solvency);
• the number of buyers in a given region;
• tastes and preferences of buyers;
• customer expectations (regarding price increases, future needs, etc.);
• other factors.

Law of demand

To understand market mechanisms, it is very important to know the basic laws of the market, which include the law of supply and demand.

Law of demand- when the price of a product rises, the demand for it decreases, with other factors unchanged, and vice versa.

Mathematically, the law of demand means that there is an inverse relationship between the quantity demanded and the price.

From a philistine point of view, the law of demand is completely logical - the lower the price of a product, the more attractive its purchase and the more units of the product will be bought. But, oddly enough, there are paradoxical situations in which the law of demand fails and operates in reverse side. This is manifested in the fact that the quantity demanded increases as the price rises! Examples are the Veblen effect or Giffen goods.

The law of demand has theoretical background. It is based on the following mechanisms:
1. Income effect- the desire of the buyer to purchase more of this product at a lower price for it, while not reducing the volume of consumption of other goods.
2. Substitution effect- the willingness of the buyer to reduce the price of this product to give preference to him, abandoning other more expensive products.
3. Law of diminishing marginal utility - as the product is consumed, each additional unit of it will bring less and less satisfaction (the product "gets bored"). Therefore, the consumer will be ready to continue buying this product only if its price decreases.

Thus, a change in price (price factor) leads to change in demand. Graphically, this is expressed as a movement along the demand curve.

Change in the magnitude of demand on the chart: moving along the demand line from D to D1 - an increase in the volume of demand; from D to D2 - decrease in demand

The impact of other (non-price) factors leads to a shift in the demand curve - change in demand. With an increase in demand, the graph shifts to the right and up; with a decrease in demand, it shifts to the left and down. Growth is called expansion of demand, decrease - contraction of demand.

Change in demand on the chart: shift of the demand line from D to D1 - demand narrowing; from D to D2 - expansion of demand

Elasticity of demand

When the price of a good increases, the demand for it decreases. When the price goes down, it goes up. But this happens in different ways: in some cases, a slight fluctuation in the price level can cause a sharp increase(fall) in demand, in others, a change in price over a very wide range will have virtually no effect on demand. The degree of such dependence, the sensitivity of the quantity demanded to changes in price or other factors is called the elasticity of demand.

Elasticity of demand- the degree of change in the quantity demanded when the price (or other factor) changes in response to a change in price or other factor.

A numerical indicator reflecting the degree of such a change - elasticity of demand.

Respectively, price elasticity of demand shows how much the quantity demanded will change when the price changes by 1%.

Arc price elasticity of demand- used when you need to calculate the approximate elasticity of demand between two points on the arc demand curve. The more convex the demand curve is, the higher the elasticity error will be.

where: E P D - price elasticity of demand;
P 1 - the initial price of the goods;
Q 1 - the initial value of demand for goods;
P 2 - new price;
Q 2 - the new value of demand;
ΔP – price increment;
ΔQ is the increment in demand;
P cf. – average price;
Q cf. is the average demand.

Point elasticity of demand with respect to price- is applied when the demand function is given and there are values ​​of the initial quantity of demand and the price level. It characterizes the relative change in the quantity demanded with an infinitesimal change in price.

where: dQ is the demand differential;
dP – price differential;
P 1 , Q 1 - the value of the price and the magnitude of demand at the analyzed point.

Elasticity of demand can be calculated not only in terms of price, but also in terms of income of buyers, as well as other factors. There is also a cross elasticity of demand. But we will not consider this topic so deeply here, a separate article will be devoted to it.

Depending on the absolute value of the elasticity coefficient, the following types of demand are distinguished ( types of elasticity of demand):

• Perfectly inelastic demand or absolute inelasticity (|E| = 0). When the price changes, the quantity demanded practically does not change. Close examples are essential goods (bread, salt, medicines). But in reality there are no goods with a perfectly inelastic demand for them;
• Inelastic demand (0 < |E| < 1). Величина спроса меняется в меньшей степени, чем цена. Примеры: товары daily demand; products that have no analogues.
• Demand with unit elasticity or unit elasticity (|E| = -1). Changes in price and quantity demanded are fully proportional. The quantity demanded rises (falls) at exactly the same rate as the price.
• elastic demand (1 < |E| < ∞). Величина спроса изменяется в большей степени, чем цена. Примеры: товары, имеющие аналоги; предметы роскоши.
• Perfectly elastic demand or absolute elasticity (|E| = ∞). A slight change in price immediately raises (lowers) the quantity demanded by an unlimited amount. In reality, there is no product with absolute elasticity. A more or less close example: liquid financial instruments, traded on the exchange (for example, currency pairs on Forex), when a small price fluctuation can cause a sharp increase or decrease in demand.

Suggestion: concept, function, graph

Now let's talk about another market phenomenon, without which demand is impossible, its inseparable companion and opposing force - supply. Here one should also distinguish between the offer itself and its size (volume).

Offer (English "Supply") - the ability and willingness of sellers to sell goods at a given price.

Offer amount(volume of supply) - the quantity of goods that sellers are willing and able to sell at a given price.

There are the following offer types:

• individual offer– a specific individual seller;
• total (cumulative) supply– all sellers present on the market.

Offer function- the law of the dependence of the magnitude of the proposal on various factors influencing it.

- a graphical expression of the dependence of the supply of a certain product on the price of it.

Simplified, the supply function is the dependence of its value on the price (price factor):

P is the price of this product.

The supply curve in this case is a straight line with a positive slope. The following linear equation describes this supply curve:

where: Q S - the value of the proposal for this product;
P is the price for this product;
c is the coefficient that specifies the offset of the beginning of the line along the abscissa axis (X);
d is the coefficient specifying the line slope angle.

The supply line graph expresses a direct relationship between the price of a product (P) and the number of purchases of this product (Q)

The supply function, in its more complex form, which takes into account the influence of non-price factors, is presented below:

where Q S is the value of the offer;
P X is the price of this product;
P 1 ...P n - prices of other related goods (substitutes, complements);
R is the presence and nature of production resources;
K - applied technologies;
C - taxes and subsidies;
X - natural and climatic conditions;
and other factors.

In this case, the supply curve will be in the form of an arc (although this is again a simplification).

In real conditions, supply depends on many factors, and the dependence of supply volume on price is non-linear.

Thus, supply factors:
1. Price factor- the price of this product;
2. Non-price factors:

• availability of complementary and substitute goods;
• level of technology development;
• quantity and availability necessary resources;
• natural conditions;
• expectations of sellers (manufacturers): social, political, inflationary;
• taxes and subsidies;
• market type and its capacity;
• other factors.

Law of supply

Law of supply- when the price of a product rises, the supply for it increases, other factors remaining unchanged, and vice versa.

Mathematically, the law of supply means that there is a direct relationship between supply and price.

The law of supply, like the law of demand, is very logical. Naturally, any seller (manufacturer) seeks to sell their product at a higher price. If the price level in the market rises, it is profitable for sellers to sell more; if it falls, it is not.

A change in the price of a commodity leads to change in supply. On the graph, this is shown as a movement along the supply curve.

Change in supply on the chart: moving along the supply line from S to S1 - an increase in supply; from S to S2 - decrease in supply

A change in non-price factors leads to a shift in the supply curve ( change the proposal itself). Offer expansion- shift of the supply curve to the right and down. Supply narrowing- shift to the left and up.

Supply change on the chart: supply line shift from S to S1 - supply narrowing; from S to S2 - sentence expansion

Supply elasticity

Supply, like demand, can be in varying degrees depending on price changes and other factors. In this case, we talk about the elasticity of supply.

Supply elasticity- the degree of change in the supply quantity (the number of goods offered) in response to a change in price or other factor.

A numerical indicator reflecting the degree of such a change - supply elasticity coefficient.

Respectively, price elasticity of supply shows how much the supply will change when the price changes by 1%.

The formulas for calculating the arc and point elasticity of supply at a price (Eps) are completely similar to the formulas for demand.

Types of supply elasticity by price:

• perfectly inelastic supply(|E|=0). A change in price does not affect the quantity supplied at all. This is possible in the short term;
• inelastic supply (0 < |E| < 1). Величина предложения изменяется в меньшей степени, чем цена. Присуще short term;
• unit elasticity supply(|E| = 1);
• elastic supply (1 < |E| < ∞). Величина предложения изменяется в большей степени, чем соответствующее изменение цены. Характерно для долгосрочного периода;
• perfectly elastic offer(|E| = ∞). The quantity supplied changes indefinitely for a slightly small change in price. Also typical for the long term.

Remarkably, situations with perfectly elastic and perfectly inelastic supply are quite real (unlike similar types of elasticity of demand) and are encountered in practice.

Demand and supply "meeting" in the market interact with each other. Under free market relations without rigid state regulation sooner or later they will balance each other (an 18th-century French economist spoke about this). This state is called market equilibrium.

A market situation where demand equals supply.

Graphically, the market equilibrium is expressed dot market equilibrium - the point of intersection of the demand curve and the supply curve.

If supply and demand do not change, the market equilibrium point tends to stay the same.

The price corresponding to the market equilibrium point is called equilibrium price, quantity of goods - equilibrium volume.

Market equilibrium is graphically expressed by the intersection of demand (D) and supply (S) graphs at one point. This point of market equilibrium corresponds to: P E - equilibrium price, and Q E - equilibrium volume.

There are different theories and approaches explaining exactly how the market equilibrium is established. The most famous are the approach of L. Walras and A. Marshall. But this, as well as the cobweb-like model of equilibrium, the seller's market and the buyer's market, is a topic for a separate article.

If very short and simplified, then the mechanism of market equilibrium can be explained as follows. At the equilibrium point, everyone (both buyers and sellers) is happy. If one of the parties gains an advantage (the deviation of the market from the equilibrium point in one direction or another), the other party will be dissatisfied and the first party will have to make concessions.

for example: the price is higher than the equilibrium price. It is profitable for sellers to sell goods at a higher price and the supply rises, there is an excess of goods. And buyers will be dissatisfied with the increase in the price of goods. In addition, competition is high, supply is excessive, and sellers will have to lower the price in order to sell the product until it reaches the equilibrium value. At the same time, the volume of supply will also decrease to the equilibrium volume.

Or other example: the quantity of goods offered on the market is less than the equilibrium quantity. That is, there is a shortage of goods in the market. In such circumstances, buyers are willing to pay a higher price for the product than the one at which it is sold at the moment. This will encourage sellers to increase supply volumes while raising prices. As a result, the price and volume of supply/demand will come to an equilibrium value.

In fact, it was an illustration of the theories of market equilibrium by Walras and Marshall, but as already mentioned, we will consider them in more detail in another article.

Galyautdinov R.R.

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This method of determining the price of a new product will be considered in the following example.
Example. It is required to determine the price of a new product that is planned to be sold in three regions. The best expert managers are selected to solve the set task. They must evaluate the relationship between price and quantity demanded in order to identify points on the price-volume curve. Experts are invited to give three estimates: the lowest real price and the expected sales volume at this price; the highest real price and the volume of sales expected at this price; expected sales volume at the average price. The conditional results of the survey are given in Table. 5.22.
Table 5.22
Prices and expected sales volumes Markets Highest price and expected sales volume Lowest price and expected sales volume Averaged price and expected sales volume P Q P Q P Q 1 1.50 20 1.20 30 1.35 25 2 1.40 15 1, 0 27 1.20 21 3 1.40 32 1.10 40 1.25 36 Let's present the survey results graphically (Fig. 5.5). The single price applied for all regions combines the estimated sales volumes into an aggregated price-sales volume line (Fig. 5.6). The aggregate sales volume is presented in table. 5.23.
Table 5.23
Single price and aggregate sales volume Price, rub. 1.50 1.40 1.35 1.30 1.25 1.20 1.10 Aggregate sales volume (units) 62 70 74 78 83 89 98 Assume that variable costs are 0.55 rubles, then the coverage amounts will be (Table 5.24):
Table 5.24
Coverage amounts Price, rub. 1.50 1.40 1.35 1.30 1.25 1.20 1.10 Aggregate sales volume, units 62 70 74 78 83 89 98 Variable costs, rub. 0.55 0.55 0.55 0.55 0.55 0.55 0.55 Coverage amount, rub. 58.9 59.5 59.2 58.5 58.1 57.85 53.9 The largest amount of coverage was achieved at the price of 1 rub. 40 kop. Based on the aggregated data obtained (Table 5.23), we can find the demand function:
q \u003d 195 - 88.57 R.
The interpretation of this function is as follows: when the price increases by 1 rub. the volume of demand will decrease by 88.57 units, theoretically at P = 0
195
Qd \u003d 195 units, the maximum price at which QD \u003d 0 is equal to \u003d 2.20 rubles.
88 57
The elasticity of demand at P = 1.40 is: "
e -88.57 - ^ = -1.77. 70
This means that a 1% price increase leads to a 1.77% decrease in demand.

More on the topic 5.2.3.1. Determining prices and finding the demand function for a new product based on a survey of experts:

1. 5.2.1. Cost-based pricing 5.2.1.1. Determination of prices based on full costs
2. 5.2.1.6. Determination of prices with a focus on the amount of coverage (Break-Even-Analyse)
3. 5.2.2. Determination of prices based on the usefulness of products

1. Direct and inverse demand functions

Condition: It is known that consumers are willing to purchase 20 units of the good for free; for each increase in price by 1, the quantity demanded falls by 2 units. Write down the direct and inverse form of the demand function that describes this situation.

Decision: Since a change in price by 1 always changes Q by 2 units, we are dealing with a linear demand function. (The direct form of the demand function is the dependence of the quantity demanded (Q) on the price (P) - Qd(P); and the reverse form of the function, on the contrary, is the dependence of the price on the quantity demanded - Pd(Q)).

AT general view a direct linear demand function is written as: Q d (P) = a - bP, where a and b are the coefficients we need to find. We know that at P = 0 the quantity demanded is 20 units, hence it follows that a = 20. At the same time, the coefficient b = 2. So the direct demand function can be written as Qd(P) = 20 - 2P.

To get the inverse demand function, we express the price from the expression obtained earlier: Pd(Q) = 10 - 0.5Q.

Answer: Q d (P) = 20 - 2P- direct function of demand ; P d (Q) \u003d 10 - 0.5Q- inverse demand function .

Note: both types of demand function are equally often used in solving problems, however, it does not matter if you forget which type is called.

2. Recovery of the linear function of demand

Condition: At the price P 0 = 10, consumers are willing and able to buy 5 units of the product. If the price rises by 50%, then the quantity demanded will fall by 40%. Write down the demand function for a given good if it is known to be linear.

Decision: In general, the linear demand function can be written as Q d (P) = a - bP, where a and b are the coefficients we need to find. Since we have two unknowns, in order to find them, it is necessary to compose a system of at least two equations. To do this, we find the coordinates (Q, P) of two points that correspond to a given demand function.

When P 0 = 10, consumers are ready to buy 5 units of the good, that is, the quantity demanded Q 0 is 5 - these are the coordinates first point. If the price increases by 50%, the price will become equal to 15; and the value of demand after a fall of 40% will be equal to 3 units. So the coordinates second point is (3, 15). Let's write down the system of equations:

5 = a - b*10

3 = a - b*15

The system is solved with a = 9 and b = 0.4.

Answer: Q d (P) \u003d 9 - 0.4P.

Note: this is the standard way to find the coefficients of a linear demand function and will be needed in most problems that do not give the demand function itself, but indicate that it has a linear form.

3. Plotting a Linear Demand Function

Condition: Demand functions for some good are given: Q d1 (P) = 20 - 2P and P d2 (Q) = 5 - Q. Let the demand expressed by the first function decrease by 5 units. at each price level, and the demand, expressed by the second function, increased by 60%. Plot the original and modified demand functions on the graph.

Decision: To begin with, we write the demand functions in direct form, that is, we express Q in terms of P: Q d1 (P) = 20 - 2P and Q d2 (Q) = 5 - P. To construct any linear function, it is enough to find the coordinates two points. The farther these points are from each other, the more accurately the line can be drawn. The ideal option is if we find the coordinates of the intersection of our lines with the Q and P axes. To do this, we substitute Q = 0 and then P = 0 into each function. This principle works well when constructing linear functions demand, in other cases its use may be limited:

Now let's find new demand functions calculated taking into account changes. The first demand decreased by 5 units. for each value of the price, that is Q new d1 (P) = Q d1 (P) - 5: Q new d1 (P) = 15 - 2P. On the graph, the new demand curve is obtained by shifting the original curve to the left for 5 units - This red line D 3. The second demand increased by 60% at each price level. So, with P 1 = 5 and Q 1 = 0, there will be no change, since 60% of 0 is 0. At the same time, with P 2 = 0 and Q 2 = 5, the change in demand will be maximum and will be 0.6 * 5 = 3 units So the new demand function will be Q new d2 (P) =Q d2 (P) +Q d2 (P) * 0.6:Q new d2 (P) =8 - 1.6P. Let's check the result obtained by substituting the points (0.5) and (8.0) already known to us into the function. Everything is done, this demand is displayed on the graph blue line D 4.

Section II. BASES OF THE THEORY OF MICROECONOMICS

This section is an introductory part necessary for the study of microeconomics. This section provides general concepts that describe behavior in market economy, without which it is impossible to study an advanced course in microeconomics. The section begins with a study of the basic concepts of microeconomics - supply, demand, equilibrium. Further, the concept of elasticity is revealed, which will subsequently be used not only in the course of microeconomics, but also in macroeconomics and the world economy. The section ends with a study of the basics of the behavior of the subjects of a modern market economy.

Chapter 5. DEMAND: SUPPLY AND MARKET EQUILIBRIUM

From the previous chapters it is known that the connection between producers and consumers in the commodity economy is carried out indirectly, indirectly - through the market. A specific form of realization of commodity relations is market mechanism, the main elements of which are supply, demand, price.

The purpose of the analysis of this chapter is the mechanism of interaction between supply and demand, i.e. the supply-demand model, which performs an analytical and descriptive function, is the most useful and important tool in an economist's arsenal.

The model of supply and demand, on the basis of which prices are formed, has been the core of economic theory for more than a century. Despite the fact that under the conditions modern methods regulation of a market economy, equilibrium is achieved not only due to the interaction of market forces, but also with the active economic policy of the state, this model simply and convincingly leads to clear and unambiguous conclusions that can be used to analyze various economic problems. It describes in a simple form some of the forces acting in the economy and thereby displays important aspects real life.1

Demand. Demand functions. Law of demand

Needs in a market economy act in the form of demand. Market demand is an indirect reflection of people's need for a given product or service.

Human needs, as we know, are not limited. Can we talk about unlimited demand? What is the difference between these concepts? The fact is that demand is a form of expression of a need presented on the market and backed by money, i.e. demand is a solvent need. It is not enough to want to buy a product, it is necessary that the consumer has a certain amount of money to realize his desire. The market does not respond to insolvent needs. More precisely, the category of demand can be expressed by the term magnitude or volume of demand.

The value (volume) of demand is the quantity of a good that consumers are willing and able to purchase at a given price from a range of possible prices over a period of time.

It is important to distinguish between the concepts of “volume of demand” and “volume of actual purchase”. The volume (value) of demand is determined only by the buyer, and the volume of the actual purchase is determined by both the buyer and the seller. For example, price restrictions by the state can cause a significant increase in the magnitude of demand. At the same time, the volume of sales (“volume of actual purchase”) is likely to be low as a result of the manufacturer's disinterest in selling at set prices.

What determines the amount of demand? The desires and possibilities of a consumer to purchase a certain amount of goods are influenced by various factors. These include:

the price of goods P (price)

Consumer income I (income)

tastes, fashion T (tastes)

prices for related goods: interchangeable (substitutes) P S or complementary (complements) P ​​C

number of buyers N

expectation of future prices and income W

other factors X

So, in its most general form, the demand function is written as follows:

Q d = f (P, I, T, P S , P C , N, X)

Attempts to investigate the nature of the change in the magnitude of demand Q d under the influence of all factors at once will not give a positive result. In this case, to identify the nature of the change in the magnitude of demand Q d , you must first fix the values ​​of all variables except for one and study the relationship of Q d with this variable. A similar method means that we examine the dependence of the quantity demanded on each variable other equal conditions.

The quantity demanded for a product primarily depends on the price. If all factors except price are assumed to be constant for a given period, then demand function of price will look:

The inverse relationship between price and quantity demanded is called inverse function demand and looks like:

Ceteris paribus, a decrease in price leads to an increase in the quantity of goods purchased by buyers; an increase in price causes a backlash: the purchase of a product is reduced. Thus, the specified property of demand reflects the inverse relationship between the change in price and the quantity demanded. The inverse relationship between price and quantity demanded (other parameters remain unchanged) is universal in nature and reflects the operation of one of the fundamental economic laws - law of demand.

Antoine Augustin Cournot(1801-1877) - creator mathematical theory demand. A. Cournot was primarily a talented mathematician, but he was bored in the world of pure mathematics, and with its help he tried to take a fresh look at the problems of other sciences and find connections between them.

In 1838, Cournot published his most famous book today, An Inquiry into the Mathematical Principles of the Theory of Wealth. In fact, this was the first conscious and consistent attempt to apply a serious mathematical apparatus to the study of economic processes. From this sprout grew a whole branch of science - mathematical economics.

It was A. Cournot who first deeply analyzed the relationship between demand and price in various market situations. This gave him the opportunity to formulate the law of demand and bring economic science to a close understanding of the concept of "elasticity of demand" (A. Marshall picked up the ideas of A. Cournot and brought them to their logical conclusion). Cournot was able to mathematically rigorously prove that the highest sales revenue is most often provided by far from the highest price.

Why does demand behave the way it does? This happens for a number of reasons that argue the law of demand and take into account the following circumstances:

Common sense and life experience directly affect the volume of purchases depending on the price. The lower the price, the more purchases - this is a psychological moment.

Of course, at low prices, the volume of purchases increases, but sooner or later the consumer reaches the limit, when each subsequent unit of the product will bring less and less pleasure, no matter how much the price decreases. After a certain level of saturation of the need, the satisfaction received from a product or service begins to decrease. Economists call this effect the law of diminishing marginal utility. Decreasing marginal utility explains why low prices stimulate demand. Goods sold at a high price are usually not bought for the future or "at random". But if the price is low and affordable, then, most likely, the buyer purchases this product even a little more than he needs.

The operation of the law of demand can be explained on the basis of two interrelated effects − income effect and substitution effect.

Clearly, at a lower price, the buyer can afford to buy more of a given good without forgoing other goods. He feels richer because the price decrease increases his real purchasing power, or real income with a constant amount of his money income. This is income effect.

income effect(as a result of a change in price) - a change in the quantity demanded for a product, due to the fact that a change in its price leads to a change in the real income of the consumer.

The extent of the income effect depends mainly on how much of the income is spent on the purchase of a given product. The more income is spent on a good, the more the effect of price increases on the consumer's real income will be, and the more consumption will be reduced.

On the other hand, the consumer is inclined to replace more expensive goods with cheaper analogues, which leads to an increase in the demand for these goods. This is substitution effect.

substitution effect- the desire of consumers to buy goods in more when its relative price goes down (substituting this good for others) and to consume less of it when its relative price goes up (replacing this good with others). It is this effect that determines the negative slope of the demand curve.

The magnitude of the substitution effect depends mainly on the quantity and availability of substitute goods.

The income effect combined with the substitution effect form the overall Effect price changes.

The functional relationship between the quantity demanded and the price can be expressed different ways:

1. Tabular- in the form of a table or scale of demand (table 5.1):

Table 5.1

The ratio of the price of good X to the quantity X demanded.