The determinants of demand refer to the quantities of a product or service consumers are ready and able to purchase.
Economic demand depends on a number of different variables. For instance, price is a key driver of demand, as there are very few consumers that don’t care about money. Equally, a consumer’s purchasing habits may change if they get a pay rise. In order to measure these fluctuations, economists have identified five key determinants of demand that influence purchase patterns associated with a product or service. In turn, manufacturers and suppliers can study these metrics to manage inventory. Below, we look at these factors in more detail.
When an individual's income rises, they can buy more expensive products or purchase the products they usually buy in a greater volume. As a result, this causes an increase in demand. Conversely, if incomes drop, then demand is likely to decrease. Usually, this trend will acutely affect ‘luxury’ markets, such as vacations, cars, or restaurants. Furthermore, products that suffer a fall in demand while incomes rise are referred to as ‘inferior goods’. Although this does not necessarily indicate lower quality, the product’s performance on the market generates a negative demand curve.
The laws of supply and demand dictate that if the cost of a particular product rises, demand will decrease. For example, if the price of crude oil goes up, the cost of petrol will rise in gas stations. Therefore, depending on the income of the consumer, they will drive less to conserve gas. This tendency is demonstrated during public holidays, when people will drive shorter distances to visit family or for vacations.
Equally, a change in price can cause demand for a related product to fluctuate. For instance, if we reflect again on the price of crude oil, other products associated with gasoline might rise in price. For example, the cost of train travel may rise as a result of more consumers opting to travel by rail. However, when the price of petrol falls, more people will return to the roads, thus, triggering a drop in the price of train tickets.
3. Expectations, tastes, and preferences
If consumers suspect that the price of a product will rise in future, the demand for said product will increase in the present. For example, if there is a rise in petrol prices forecast for the coming week, motorists will fill up today. Equally, customers’ attitudes, tastes, and preferences can impact demand in ways less directly associated with cost. For instance, if a popular celebrity is involved in marketing a product, demand may increase. Conversely, if a scientific study reports a product is detrimental to your health, demand will drop.
4. Customer base
One of the most important determinants of demand is the size of the market. The more consumers want to purchase a product, the faster demand will rise. Although a rise in population is an obvious way this can happen, there are other factors that influence the size of a customer base. For example, a company may produce a highly effective marketing campaign that introduced their product or service to a new segment.
5. Economic conditions
Consumers’ perceptions of the economy affect their propensity to consume. To illustrate, if consumers are confident their jobs are secure, they are more likely to spend. This tendency is known as consumer confidence. Defined as consumers' feelings about economic conditions, consumer confidence indicates the overall state of the economy. However, if consumer confidence is low, individuals are more likely to put their money into savings accounts – especially if interest rates are high.
The determinants of demand vs determinants of consumption
Economists’ analysis has defined various key determinants of demand and consumption. However, in practice, they often overlook the relationship between demand and price. The development of these ‘gap’ models illustrates the prevalence of an approach that sees demand operating independently of price. In reality, demand is a complex relationship between price and quantity, as opposed to a static notion that only depends on geopolitical factors. As such, manufacturers and suppliers need to study pricing strategy alongside traditional demand dynamics.