1.3.2 - Consumer behaviour and demand

The rationality assumption treats decision makers as comparing relevant benefits and costs and choosing the available option that best meets their objective. Consumers are assumed to maximise utility—the satisfaction gained from consumption—while firms are assumed to maximise profit.

A consumer who switches to an equally suitable, lower-priced energy tariff may gain more utility from the income saved. A firm accepts an extra order only if the expected addition to revenue exceeds the relevant addition to cost.

A household may keep an expensive broadband contract through habit or inertia; follow the provider used by friends through herding; misunderstand a tariff through poor computation; or prefer familiar service because it feels valued. A comparison site's framing can also direct attention to a headline discount while obscuring later charges.

Observed non-switching does not prove irrationality. Search time, contract penalties, reliability and service quality can make staying the utility-maximising choice. Diagnose the mechanism and compare all relevant benefits and costs before judging.

Demand is the quantity of a good or service that consumers are willing and able to buy at each possible price during a stated period, ceteris paribus.

A demand schedule records price–quantity pairs; a demand curve plots those pairs with price on the vertical axis and quantity demanded on the horizontal axis. Market demand is found by adding the quantities demanded by all consumers at each price.

Both willingness and ability matter. Wanting a product without the purchasing power to buy it is not effective demand. Always attach demand to a period, because a quantity per week is not the same as a quantity per year.

A fall in the price of rice causes an extension in quantity demanded along the rice demand curve. A rise in population can shift rice demand right because more may be demanded at every price.

Ask first: did the good's own price change? If yes, show a movement along the existing curve. If another determinant changed, hold own price constant and show a shift.

Total utility is the satisfaction from all units consumed. Marginal utility is the additional utility from one more unit. Diminishing marginal utility means that, after some point, each successive unit adds less utility than the previous unit, ceteris paribus.

If each extra unit gives less additional satisfaction, a consumer will normally buy further units only at a lower price. This helps explain why an individual's demand curve slopes downward: lower prices make units with lower marginal utility worth purchasing.

If total utility from one, two and three portions is 10, 18 and 23, marginal utility is 10, 8 and 5. Total utility still rises, but at a decreasing rate.

Name the determinant, explain how it changes willingness or ability to buy, then state the direction of the shift. For example, a petrol-price rise can increase demand for electric vehicles if the two are substitutes.

Direction depends on the relationship and context. Higher income need not raise demand for an inferior good; advertising may fail; and population ageing can raise demand for one product while reducing another.

Elasticity is a ratio, so it has no unit. Its magnitude shows responsiveness; its sign can reveal direction and, for YED and XED, the relationship between goods or between income and demand.

1. Identify the correct original values. 2. Calculate each percentage change using its own original value. 3. Divide the percentage change in quantity demanded by the relevant price or income percentage change. 4. Keep the sign, round only at the end, and interpret the result.

If price rises from $20 to$22 and quantity demanded falls from 500 to 450, price changes by +10% and quantity demanded by −10%. PED = −10% ÷ 10% = −1.

If an elasticity and the causal percentage change are known, rearrange: percentage change in quantity demanded = elasticity × percentage change in price or income.

PED is usually negative because price and quantity demanded move in opposite directions. Compare absolute values when ranking responsiveness: PED −2 is more elastic than PED −0.4.

Each factor changes the consumer's ability or willingness to adjust quantity after a price change. Natural gas may be price inelastic where it is necessary and alternatives are scarce; a specific cinema time may be more elastic when another showing is an easy substitute.

PED can differ across consumers, price ranges and time. More substitutes may emerge and consumers can adjust habits in the longer run, often making demand more elastic.

Total revenue is the money a firm receives from sales over a stated period. Multiply the selling price per unit by the number of units sold in the same period and currency.

At $3 per unit and 45,000 units, total revenue is$135,000. At $4 and 45,000 units, it is$180,000, so revenue rises by $45,000.

When price changes, calculate revenue before and after using the corresponding quantity at each price. Comparing prices alone cannot reveal the revenue change.

The straight line has a constant slope, but elasticity is a percentage concept. Moving down the curve changes the price-to-quantity ratio: the same absolute movement is a larger percentage of a small starting quantity near the top and a smaller percentage near the bottom.

The midpoint also separates the revenue effects: above it, a price fall raises total revenue; below it, a price fall reduces total revenue.

Total revenue is price × quantity. With elastic demand, quantity changes by a larger percentage than price, so the quantity effect dominates. With inelastic demand, the price percentage change is larger, so the price effect dominates.

A firm considering a price change can use PED to predict the direction of revenue change, provided the estimate is relevant to the price range, consumers and time period.

YED +2.0 predicts that a 3% income rise raises quantity demanded by 6%; YED −0.2 predicts that a 10% income rise reduces quantity demanded by 2%, ceteris paribus.

The sign distinguishes normal from inferior goods; the absolute magnitude distinguishes a more-than-proportionate from less-than-proportionate response. Classification can change across income ranges and consumers.

If XED for Pepsi with respect to the price of Coca-Cola is +1.24, a 10% rise in Coca-Cola's price predicts a 12.4% rise in demand for Pepsi. If coffee's XED with respect to milk is −0.04, the negative sign indicates complementarity but the response is weak.

Name both goods and the direction: $XED_{X,Y}$ measures demand for X after Y's price changes. Reversing the goods describes a different estimate.

Choose the elasticity that matches the causal question, use an estimate for the relevant market and time, calculate the predicted quantity response, then consider costs, distribution and uncertainty before deciding.

Elasticity estimates are not fixed laws. They can change with consumer groups, time, available substitutes, income range, branding and the size of the change. A forecast is conditional on other demand determinants remaining unchanged.