law of demand research paper

Page One Economics ®

The science of supply and demand.

"A body in motion tends to stay in motion unless acted on by an out-side force."  

—Isaac Newton

Science Is Everywhere

We live in a world governed by the laws of science. From gravity, to electromagnetism, to sound waves, our lives are filled with scientific phenomena that structure and affect every facet of our daily routine. As a species, we have attempted at every turn to channel the laws of science to our own benefit, constantly working to build better products and to develop improved means of manufacturing. However, sometimes science unveils itself in unanticipated ways—ways that often force its will on the distribution of goods in markets.

Figure 1 Personal Consumption Expenditures

SOURCE: FRED ® , Federal Reserve Bank of St Louis; https://fred.stlouisfed.org/graph/?g=r60z , accessed January 2021.

Few events demonstrate this fact better than the COVID-19 pandemic of 2020. As this new viral strain spread around the globe, many businesses in the United States closed or reduced workers' hours, sometimes by the choice of businesses—to prevent employees from catching the virus—and sometimes due to government stay-at-home orders. 1 In the early months of the pandemic, virtually no industry or market remained unaffected as the economy declined: Consumer spending on goods and services dropped by 6.7 percent in March and 12.7 percent in April (Figure 1) and the unemployment rate rose from a 50-year low of 3.5 percent in February to a post-Great Depression record of 14.7 percent in April (Figure 2). 

Figure 2 Unemployment Rate

SOURCE: FRED ® , Federal Reserve Bank of St. Louis; https://fred.stlouisfed.org/graph/?g=r5AM , accessed January 2021.

Supply and Demand

COVID-19 affected markets the same way they are affected by any outside force—through supply and demand . In competitive markets , supply and demand govern the ways that buyers and sellers determine how much of a good or service to trade in reaction to price changes.

The law of demand describes the behavior of buyers in markets: As the price (P) of a good or service rises, the quantity demanded (Q D ) of that good or service falls. Likewise, as the price of a good or service falls, the quantity demanded of that good or service rises. Consider your favorite snack food. A downward sloping demand curve indicates that as the price of the snack increases, you would be able and/or willing to buy a smaller amount. This relationship is demonstrated by the downward sloping demand curve in Figure 3. When the price increases from P 1 to P 2 , the quantity demanded decreases from Q 1 to Q 2 .

Similarly, the law of supply describes the behavior of sellers in markets: As the price of a good or service rises, the quantity supplied of that good or service rises. Like­wise, as the price of a good or service falls, the quantity supplied of that good or service falls. Therefore, as the price (as determined by the market) of your favorite snack rises, firms are willing to produce more units. This relationship is demonstrated by the graph of the upward sloping supply curve in Figure 4. When the price increases from P 1 to P 2 , firms are willing to supply a greater quantity. That is, the quantity supplied increases from Q 1 to Q 2 .

Market prices are constantly adjusting to bring into balance the amount desired by buyers and the amount sold by sellers. This balance is found at the equilibrium price , where supply and demand intersect (Figure 5). At this point we have our equilibrium price (P e ) and equilibrium quantity (Q e ).

Scientific Events

Biology: COVID-19

The COVID-19 pandemic and the associated lockdowns hit the Leisure and Hospitality sector particularly hard (Figure 6). A recent study looked at hours worked by sector in the immediate aftermath of stay-at-home orders—March 2020. 2 As shown in Figure 6, the effects on hours worked are separated into supply factors (red bars) and demand factors (blue bars) and measured as the percent change in historical growth rates of hours worked in each sector. Supply factors are related to businesses partially or fully shutting down. Demand factors are related to reduced consumer spending, such as from customers not shopping, to avoid catching the virus, or simply cutting back on spending due to income loss. 3 For most sectors, hours worked dropped compared with historical trends due to both supply and demand factors.

When a factor other than price affects supply or demand, it is modeled by shifting the supply or demand curve, respectively, rather than moving along the curve. For increases in supply or demand, the curves are shifted to the right to higher quantities. For decreases, the curves are shifted to the left to lower quantities.

Although supply factors contributed to most of the almost 10 percent drop in the Leisure and Hospitality sector in March 2020 compared with historical growth, demand factors also contributed (see Figure 6). The change in this sector is demonstrated in Figure 7: Demand decreases (shifts to the left) and supply decreases more (also shifts to the left), resulting in a lower quantity of goods sold at the new equilibrium (Q 2 ). 4

Meteorology: Hurricane Sandy

In the fall of 2012, Hurricane Sandy hit New York City and surrounding regions, with millions of citizens and thousands of businesses losing power. In New Jersey, only 40 percent of gas stations tracked by AAA had power and were operational in the immediate aftermath of the hurricane. 5 As a result, consumers faced a severe shock to the supply of gasoline.

Applying the laws of supply and demand, one can predict how this event would change the quantity and price of gasoline at the pump: Assuming unchanged demand, 6 the supply curve would shift to the left (Figure 8). The equilibrium quantity would decrease from Q 1 to Q 2 , with the price increasing from P 1 to P 2 .

Did this occur? Not exactly. New Jersey Governor Chris Christie promised to punish gas stations that significantly increased prices above their pre-hurricane levels (P 1 ). 7 As a result, prices remained low because they were not allowed to reach equilibrium, so oil firms had no incentive to bring extra gasoline to the market at the lower price, long lines of vehicles formed, and many stations sold out due to limited supply. 

Chemistry: The Ethanol Fuel Boom

In the late 2000s, ethanol experienced a boom as an alternative fuel. Compared with gasoline, ethanol was believed to be cleaner burning (produce less carbon dioxide) and could be produced from renewable crops such as corn and sugar cane. 8 With subsidies provided by the U.S. government to produce fuel ethanol, production facilities sprouted up across the Midwest and supply increased in this growing industry. 9

With more and more ethanol being blended into gasoline for use in everyday car engines, many believed that yearly production would continue to grow for years to come. Then, consumers began noticing that their gas engines were being damaged by gasoline mixtures with large percentages of ethanol. 10 As it turns out, the chemical nature of ethanol makes it very attractive to water. When water gets into an engine's fuel, it increases the corrosion of metal and degrades the engine. As a result, regulators decided that gasoline for normal car engines could only contain up to 10 percent ethanol by volume. 11,12

Using supply and demand to analyze fuel ethanol markets is a little tricky due to the volume ethanol limit. In Figure 9, the desire of producers to increase the supply of ethanol is indicated by the rightward shift of the supply curve. Producers would expect ethanol buyers to continue increasing their demand as ethanol becomes more and more popular. However, all else being equal, once buyers are running their vehicles with gasoline with 10 percent ethanol, their desire to purchase more would dramatically decrease and the demand curve would become a nearly straight vertical line. 13 That is, the quantity demanded wouldn't increase much beyond this limit even if the price of ethanol were to decrease because people won't use gasoline with more than 10 percent ethanol. Thus, no matter how much producers wish to increase supply, buyers would not buy much more ethanol and increased production of ethanol would drive down prices.

Figure 10 U.S. Fuel Ethanol Consumption and Percent of Motor Gasoline Consumption, 1981-2019 (June 24, 2020)

Figure 10 confirms this analysis of supply and demand. Fuel ethanol consumption increased dramatically during the 2000s and then flattened out when it reached about 10 percent of motor gasoline consumption. 14

Markets provide a means by which individuals and businesses can trade goods and services. Though goods and services come in many shapes and sizes, they are all governed by the laws of supply and demand. Of course, unanticipated scientific events, such as pandemics and hurricanes, can alter the course of markets. Yet, the same laws that make markets function every day will exert their will—the laws of supply and demand.

https://www.sciencemag.org/news/2020/03/modelers-weigh-value-lives-and-lockdown-costs-put-price-covid-19 .

2 Brinca, Pedro; Duarte, Joao B.  and Faria-e-Castro, Miguel. "Is the COVID-19 Pandemic a Supply or a Demand Shock?" Federal Reserve Bank of St. Louis Economic Synopses , 2020, No. 31; https://research.stlouisfed.org/publications/economic-synopses/2020/05/20/is-the-covid-19-pandemic-a-supply-or-a-demand-shock .

3 Some sectors such as Wholesale Trade and Information were positively impacted by demand factors. In the case of the Information sector, the increase may have been caused by families increasing their demand for goods and services to work, communicate, and/or enjoy entertainment from home.

4 Figure 7 depicts price increasing, but price could decrease depending on the size of the supply and demand shifts and how responsive supply and demand are to price changes. 

5 Smith, Aaron. "Gas Shortage Continues in Areas Hit By Sandy." CNN Business, November 2, 2012; https://money.cnn.com/2012/11/02/news/economy/gas-shortage-sandy/index.html .

6 There could actually have been an increase in demand from individuals using gas powered electric generators during the power outage.

7 Futrelle, David. "Post-Sandy Price Gouging: Economically Sound, Ethically Dubious." Time , November 2, 2012; https://business.time.com/2012/11/02/post-sandy-price-gouging-economically-sound-ethically-dubious/ .

8 U.S. Energy Information Administration. "Biofuels Explained: Ethanol and the Environment." December 7, 2020, update; https://www.eia.gov/energyexplained/biofuels/ethanol-and-the-environment.php .

9 Byrge, Joshua A. and Kliesen, Kevin L. "Ethanol: Economic Gain or Drain?" Federal Reserve Bank of St. Louis Regional Economist , July 1, 2008; https://www.stlouisfed.org/publications/regional-economist/july-2008/ethanol-economic-gain-or-drain .

10 Johnson, M. Alex. "Mechanics See Ethanol Damaging Small Engines." NBC News, August 1, 2008; https://www.nbcnews.com/id/wbna25936782 .

11 Tyner, Wallace E.; Brechbil, Sarah l. and Perkis, David. "Cellulosic Ethanol: Feed­stocks, Conversion Technologies, Economics, and Policy Options." Congressional Research Service, October 22, 2010; http://nationalaglawcenter.org/wp-content/uploads/assets/crs/R41460.pdf .

12 Specialty vehicles with anti-corrosive engine parts were sold to accommodate fuel with higher concentrations of ethanol, including E85, a fuel mixture containing 85 percent ethanol. However, such vehicles and fuel types have yet to gain mass popularity.

13 The demand curve would likely not be fully vertical, as decreases in any fuel component's price, like ethanol's, would increase the quantity demanded of fuel. However, because ethanol makes up a small percentage of fuel, the demand curve is assumed to be nearly vertical.

14 U.S. Energy Information Administration (2020). See footnote 8.

© 2021, Federal Reserve Bank of St. Louis. The views expressed are those of the author(s) and do not necessarily reflect official positions of the Federal Reserve Bank of St. Louis or the Federal Reserve System.

Biology: The study of living organisms.

Chemistry: The branch of science that deals with the identification of the substances of which matter is composed.

Competitive markets: Markets in which there are generally many buyers and many sellers so that each has a negligible impact on market prices.

Demand: The quantity of a good or service that buyers are willing and able to buy at all possible prices during a certain time period.

Equilibrium price: The price at which quantity supplied and quantity demanded are equal. The point at which the supply and demand curves intersect.

Meteorology: The branch of science concerned with the processes and phenomena of the atmosphere, especially as a means of forecasting the weather.

Subsidies: Payments made by the government to support businesses or markets. No goods or services are provided in return for the payments.

Supply: The quantity of a good or service that producers are willing and able to sell at all possible prices during a certain time period.

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Law of Demand

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• Michael Jerison 2 &
• John K.-H. Quah 2  

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We formulate several laws of individual and market demand and describe their relationship to neoclassical demand theory. The laws have implications for comparative statics and stability of competitive equilibrium. We survey results that offer interpretable sufficient conditions for the laws to hold and we refer to related empirical evidence. The laws for market demand are more likely to be satisfied if commodities are more substitutable. Certain kinds of heterogeneity across individuals make the laws more likely to hold in the aggregate even if they are violated by individuals.

This chapter was originally published in The New Palgrave Dictionary of Economics , 2nd edition, 2008. Edited by Steven N. Durlauf and Lawrence E. Blume

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Jerison, M., Quah, J.KH. (2008). Law of Demand. In: The New Palgrave Dictionary of Economics. Palgrave Macmillan, London. https://doi.org/10.1057/978-1-349-95121-5_2413-1

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• Guide to Microeconomics

What Is the Law of Demand in Economics, and How Does It Work?

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What Is the Law of Demand?

The law of demand is one of the most fundamental concepts in economics. Alongside the law of supply , it explains how market economies allocate resources and determine the prices of goods and services.

The law of demand states that the quantity purchased varies inversely with price. In other words, the higher the price, the lower the quantity demanded. This occurs because of diminishing marginal utility . That is, consumers use the first units of an economic good they purchase to serve their most urgent needs first, then they use each additional unit of the good to serve successively lower-valued ends.

Key Takeaways

• The law of demand is a fundamental principle of economics that states that at a higher price, consumers will demand a lower quantity of a good.
• Demand is derived from the law of diminishing marginal utility, the fact that consumers use economic goods to satisfy their most urgent needs first.
• A market demand curve expresses the sum of quantity demanded at each price across all consumers in the market.
• Changes in price can be reflected in movement along a demand curve, but by themselves, they don't increase or decrease demand.
• The shape and magnitude of demand shifts in response to changes in consumer preferences, incomes, or related economic goods, not usually to changes in price.

Understanding the Law of Demand

Economics involves the study of how people use limited means to satisfy unlimited wants. The law of demand focuses on those unlimited wants. Naturally, people prioritize more urgent wants and needs over less urgent ones in their economic behavior, and this carries over into how people choose among the limited means available to them.

For any economic good, the first unit of that good that a consumer gets their hands on will tend to be used to satisfy the most urgent need the consumer has that that good can satisfy.

For example, consider a castaway on a desert island who obtains a six-pack of bottled fresh water that washes up onshore. The first bottle will be used to satisfy the castaway’s most urgently felt need, which is most likely drinking water to avoid dying of thirst.

The second bottle might be used for bathing to stave off disease, an urgent but less immediate need. The third bottle could be used for a less urgent need, such as boiling some fish to have a hot meal, and on down to the last bottle, which the castaway uses for a relatively low priority, such as watering a small potted plant to feel less alone on the island.

Because each additional bottle of water is used for a successively less highly valued want or need by our castaway, we can say that the castaway values each additional bottle less than the one before.

The more units of a good that consumers buy, the less they are willing to pay in terms of price.

Similarly, when consumers purchase goods on the market, each additional unit of any given good or service that they buy will be put to a less valued use than the one before, so we can say that they value each additional unit less and less. Because they value each additional unit of the good less , they aren't willing to pay as much for it.

By adding up all the units of a good that consumers are willing to buy at any given price, we can describe a market demand curve , which is always sloping downward, like the one shown in the chart below. Each point on the curve (A, B, C) reflects the quantity demanded (Q) at a given price (P). At point A, for example, the quantity demanded is low (Q1) and the price is high (P1). At higher prices, consumers demand less of the good, and at lower prices, they demand more.

Demand vs. Quantity Demanded

In economic thinking, it is important to understand the difference between the phenomenon of demand and the quantity demanded. In the chart above, the term “demand” refers to the light blue line plotted through A, B, and C.

It expresses the relationship between the urgency of consumer wants and the number of units of the economic good at hand. A change in demand means a shift of the position or shape of this curve; it reflects a change in the underlying pattern of consumer wants and needs vis-à-vis the means available to satisfy them.

On the other hand, the term “quantity demanded” refers to a point along the horizontal axis. Changes in the quantity demanded strictly reflect changes in the price, without implying any change in the pattern of consumer preferences.

Changes in quantity demanded just mean movement along the demand curve itself because of a change in price. These two ideas are often conflated, but this is a common error—rising (or falling) prices don't decrease (or increase) demand; they change the quantity demanded .

Factors Affecting Demand

So what does change demand? The shape and position of the demand curve can be affected by several factors. Rising incomes tend to increase demand for normal economic goods, as people are willing to spend more. The availability of close substitute products that compete with a given economic good will tend to reduce demand for that good because they can satisfy the same kinds of consumer wants and needs.

Conversely, the availability of closely complementary goods will tend to increase demand for an economic good because the use of two goods together can be even more valuable to consumers than using them separately, like peanut butter and jelly.

Other factors such as future expectations, changes in background environmental conditions, or changes in the actual or perceived quality of a good can change the demand curve because they alter the pattern of consumer preferences for how the good can be used and how urgently it is needed.

Law of Supply

Supply is the total amount of a specific good or service that is available to consumers at a certain price point. As the supply of a product fluctuates, so does the demand, which directly affects the price of the product.

The law of supply, then, is a microeconomic law stating that, all other factors being equal, as the price of a good or service rises, the quantity that suppliers offer will rise in turn (and vice versa). When demand exceeds the available supply, the price of a product typically will rise. Conversely, should the supply of an item increase while the demand remains the same, the price will go down.

What is a Simple Explanation of the Law of Demand?

The law of demand tells us that if more people want to buy something, given a limited supply, the price of that thing will be bid higher. Likewise, the higher the price of a good, the lower the quantity that will be purchased by consumers.

Why Is the Law of Demand Important?

Together with the law of supply, the law of demand helps us understand why things are priced at the level that they are, and to identify opportunities to buy what are perceived to be underpriced (or sell overpriced) products, assets, or securities . For instance, a firm may boost production in response to rising prices that have been spurred by a surge in demand.

Can the Law of Demand Be Broken?

Yes. In certain cases, an increase in demand doesn't affect prices in ways predicted by the law of demand. For instance, so-called Veblen goods are things for which demand increases as their price rises, as they are perceived as status symbols. Similarly, demand for Giffen goods (which, in contrast to Veblen goods, aren't luxury items) rises when the price goes up and falls when the price falls. Examples of Giffen goods can include bread, rice, and wheat. These tend to be common necessities and essential items with few good substitutes at the same price levels.

The Bottom Line

The law of demand posits that the price of an item and the quantity demanded have an inverse relationship. Essentially, it tells us that people will buy more of something when its price falls and vice versa.  When graphed, the law of demand appears as a line sloping downward.

This law is a fundamental principle of economics. It helps to set prices, understand why things are priced as they are, and identify items that may be over- or underpriced.

University of Southern Philippines Foundation. " Law of Demand ," Page 1.

Econlib. " Demand ."

University of Pittsburgh. " Supply and Demand ," Page 1.

University of Pittsburgh. " Supply and Demand ," Page 3.

• A Practical Guide to Microeconomics 1 of 39
• Economists' Assumptions in Their Economic Models 2 of 39
• 5 Nobel Prize-Winning Economic Theories You Should Know About 3 of 39
• Positive vs. Normative Economics: What's the Difference? 4 of 39
• 5 Factors That Influence Competition in Microeconomics 5 of 39
• How Does Government Policy Impact Microeconomics? 6 of 39
• Microeconomics vs. Macroeconomics: What’s the Difference? 7 of 39
• How Do I Differentiate Between Micro and Macro Economics? 8 of 39
• Microeconomics vs. Macroeconomics Investments 9 of 39
• Introduction to Supply and Demand 10 of 39
• Is Demand or Supply More Important to the Economy? 11 of 39
• Demand: How It Works Plus Economic Determinants and the Demand Curve 12 of 39
• What Is the Law of Demand in Economics, and How Does It Work? 13 of 39
• Demand Curves: What Are They, Types, and Example 14 of 39
• Supply 15 of 39
• Law of Supply Explained, With the Curve, Types, and Examples 16 of 39
• Supply Curve: Definition, How It Works, and Example 17 of 39
• Elasticity: What It Means in Economics, Formula, and Examples 18 of 39
• Price Elasticity of Demand: Meaning, Types, and Factors That Impact It 19 of 39
• Elasticity vs. Inelasticity of Demand: What's the Difference? 20 of 39
• What Is Inelastic? Definition, Calculation, and Examples of Goods 21 of 39
• What Affects Demand Elasticity for Goods and Services? 22 of 39
• What Factors Influence a Change in Demand Elasticity? 23 of 39
• Utility in Economics Explained: Types and Measurement 24 of 39
• Utility in Microeconomics: Origins, Types, and Uses 25 of 39
• Utility Function Definition, Example, and Calculation 26 of 39
• Definition of Total Utility in Economics, With Example 27 of 39
• Marginal Utilities: Definition, Types, Examples, and History 28 of 39
• The Law of Diminishing Marginal Utility: How It Works, With Examples 29 of 39
• What Does the Law of Diminishing Marginal Utility Explain? 30 of 39
• Economic Equilibrium 31 of 39
• What Is the Income Effect? Its Meaning and Example 32 of 39
• Indifference Curves in Economics: What Do They Explain? 33 of 39
• Consumer Surplus Definition, Measurement, and Example 34 of 39
• What Is Comparative Advantage? 35 of 39
• What Are Economies of Scale? 36 of 39
• Perfect Competition: Examples and How It Works 37 of 39
• What Is the Invisible Hand in Economics? 38 of 39
• Market Failure: What It Is in Economics, Common Types, and Causes 39 of 39

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Exceptions to the Law of Demand and its Determinant Exceptions to the Law of Demand and its Determinant

Related Papers

Islamic Quarterly

Irfan Shahid

Demand and supply theory is a core concept in microeconomics which taught at schools and colleges with a little variation. The authors and subsequent followers of this theory discuss the issues related to goods, services, quantity, quality, time, preference, technology, human behaviour and price movement. Apart from these functions, there are various issues discussed in many schools of thought. After studying the philosophical aspect of demand theory, it seems some things are missing in this theory. This paper discusses the issues related to the moral behaviour of consumer and rationality of demand theory which is one of the important aspects of the demand theory.

Siba Sankar Mohanty

Assumption of a downward sloping demand curve establishes a negative relationship between price and quantity demanded. Unfortunately, in real life, we do not come across such downward sloping demand curves. On the other hand, what we observe in real life is, within a specific price range, a consumer consumes fixed amount of a commodity irrespective of the price and abandons the commodity beyond the price range. The paper argues that a consumer classifies different commodities as necessary and unnecessary and develops a sort of inertia of demand loyalty for the specific commodities she consumes. During price fluctuations, she may have to spend more or less of money on the commodity, but her consumption remains the same. Therefore, the demand curve should be a vertical straight line irrespective of the levels of prices. A typical consumer would switch over to another new commodity and will not reduce the quantity consumed of the existing commodity if she finds the present commodity more pricey or the other more affordable. The paper draws on some of the available literature on the critical analysis of demand as a concept and makes an effort to present the understanding through arguments and some real life examples.

Somdeb Lahiri

Introduction What follows are lecture notes on demand theory with commodity money. While I have used the contents of chapters 2 and 3 of the textbook entitled “Microeconomic Theory” by Andreu Mas-Colell, Michael D. Whinston and Jerry R. Green, published by Oxford University Press in June 1995, as a template for a substantial portion of these lecture notes, I am not aware of the existence of any other full length and exclusive treatment of demand theory with money as a commodity. At times it was extremely tempting for me to work on the MS Word lecture notes prepared by Paul Glewwe for his course on “Applied Microeconomics of Consumer Choice and Consumer Demand” (Apec 8001) in the Applied Economics department of University of Minnesota, which he had very kindly and generously shared with me. I did not, since preparing these notes gave me an opportunity to revisit the subject- an opportunity I would have missed otherwise. The motive for these lecture notes is the paper by me entitled “Consumer Surplus and Budget Constrained Preference Maximization”, (forthcoming in Managerial Economics). These notes are a rigorous exposition of the framework of the paper with additional results that may be of interest. An immediate consequence of introducing money as a commodity is that that the homogeneity assumption of the demand function for goods (i.e. non-monetary commodity) has to be sacrificed. We do provide an alternative definition of homogeneity which is appropriate in our framework and whose implications are discussed in the fifth chapter. Our demand functions are meaningful in two contexts: the partial equilibrium model, where money is saved to be spent on commodities other than those that we consider in our model and in the general equilibrium context, where money is saved for consumption during future periods. However, this general equilibrium model is not the Arrow-Debrue- McKenzie model with dated commodities, but the temporary general equilibrium model introduced by Sir John Hicks in his treatise entitled “Value and Capital”. If the temporary general equilibrium model is akin to a model with every day in a man’s life being a different day with its own morning and its own evening, then in the Arrow-Debreu model the entire life of a man being is considered to be a day, with as many different mornings and different evenings, as the number of days he actually lives (assuming all men die at night!). If a man lives for just one day, then obviously no savings are required. However, if “tomorrow is another day” then a person may or may not choose to save for tomorrow. With money as a commodity, the Marshallian demand “curve” acquires a non-trivial existence of its own and meaningfully represents the concept of a marginal willingness to pay function for surplus maximizing consumers. Its implications for social welfare are enormous- social welfare is “best” if and only if consumers are surplus maximizers. Another implication of a surplus maximizing consumer is that our chapter 1 on consumer demand theory (based largely on Chapter 2 of MWG (June 1995)) acquires a relevance of its own, beyond being an abstract generalization of some results in classical demand theory. The fourth chapter of these lecture notes deals with classical demand theory. Most treatments of classical demand theory begin with an elaborate discussion about numerical representation of preferences or more generally binary relations. Undoubtedly this is an important topic in Order Theory, which is a branch of applied mathematics and in the study of representation of social preferences by social utility functions- an important topic in welfare economics. In consumer demand theory, I have hardly ever come across any application of consumer preferences which are not representable by utility functions. Even the demand function generated by the “much hyped” lexicographic preferences can be generated by a budget-constrained utility maximizing consumer whose utility from a consumption bundle is measured by the quantity consumed of the commodity that enjoys “top priority”. Hence we adopt the approach towards demand theory that has been adopted by Duncan Foley in his classic text “Economic Reasoning”, and assume that consumers in classical demand theory have preferences representable by utility functions. Our major contribution in this chapter is that budget constrained utility maximimizing consumers with Walrasian demand “curves” satisfying a “Boundedness Condition” are surplus maximizers, because the area under the demand curves measure their willingness to pay for the quantity of the good (whose demand curve we are concerned with) that is consumed. The rest is mostly as in the chapter on classical demand theory in MWG (June 1995). The fifth chapter of these lecture notes discusses a concept of homogeneity that is appropriate for our framework. Its implication for classical demand theory is quite interesting- the shadow price/ marginal value/marginal indirect utility of income is in fact the marginal utility of savings for a budget constrained utility maximizing consumer. In the sixth and last chapter of these notes we discuss functional forms in demand theory- a topic that- for reasons unknown to me- are not discussed in most graduate microeconomics or any mathematical economics course, but dealt with in applied econometrics or demand analysis courses. Hence this topic- in spite of being probably the most practically applicable one in demand theory- remains unnoticed by several mathematically inclined graduate students during their course work at graduate school and thereafter. I have introduced this topic in these notes for three reasons: (i) for its potential as a serious research topic for theoretically inclined graduate students in economics who are interested in demand theory; (ii) for its wide applicability; and (ii) to show that introducing savings in consumer demand theory has significant implications for the associated functional forms for possible utility and demand functions. For instance, assuming that savings are a constant fraction of expenditure goes a long way in accommodating the existing results within our framework. Even homogeneity properties often require adjustment for the results we seek. To understand these notes, it would be a good idea to be familiar with the mathematics in “Fundamental Concepts of Analysis”, by Alton H. Smith and Walter A. Albrecht, Jr. and the economics in “Essentials of Microeconomics” by Bonnie Nguyen and Andrew Wait. Two people taught me consumer demand theory: Professor Shanti Chakraboty at ISI (Kolkata) in 1979 and Professor Leonid Hurwicz at University of Minnesota in 1981. However, these notes are an attempt as a teacher of microeconomics at MBA and undergraduate level, to provide a rigorous foundation of some things we teach. Although I have been teaching microeconomics to MBA and undergraduate students as a full-time faculty since 1987, it was only after joining PDPU in September 2007, that I got the opportunity to teach the whole and hence the pre-midterm portion of the course, and that is where demand theory is located. Before that it was almost always that I got to teach the post-midterm portion only. There is always a big difference between a hypothetical problem and a problem that one faces in reality. Convincing myself that there is a rigorous and logically consistent basis for what I teach the students- whether I share the details with them or not- is a problem in the latter category for me. Hence, there is some truth in the assertion that these notes owe a lot to the courses I teach at PDPU. After I move on, these notes will remain for enquiring minds- both student and faculty. This is work in progress and hence a separate Acknowledgment section makes sense, only after it has been class tested by friends and colleagues and I have been informed about the innumerable errors these notes contain. For those generous individuals who will spare a few pennies’ worth of thought for these notes and revert back to me (constructively?), I have the following extract from the parody of Thomas Moore’s poem (“Oft in the stilly night...”) that was penned by Ogden Nash: Oft in the stilly night, When the mind is fumbling fuzzily, I brood about how little I know, And know that little so muzzily. Ere slumber's chains have bound me, I think it would suit me nicely, If I knew one tenth of the little I know, But knew that tenth precisely. ~ ~ ~ Gently my eyelids close; I'd rather be good than clever; And I'd rather have my facts all wrong Then have no facts whatever. It is for such generous and “critical” readers of these notes that the real “Thank you” is yet waiting to be said. Somdeb Lahiri. Ahmedabad. September 14, 2020.

Nkemdilim Okoh

American Economic Journal: Applied Economics

Moses Shayo

Elementary consumer theory assumes prices affect demand only because they affect the budget constraint (BC). Alternative models, and some evidence, suggest prices can affect demand through other, non-BC channels (e.g., by signaling quality). This paper uses a lab and a field experiment to disentangle BC from non-BC effects of prices on demand. In the lab, we find that although prices positively affect stated willingness to pay, non-BC price elasticities are considerably smaller than BC price elasticities, are often statistically insignificant, and do not increase with product uncertainty. We do not detect any non-BC effects in our field experiment. (JEL C93, D12, M31)

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Mathematical Reasoning of Vocational High School Students on Mathematical Tasks in the Law of Demand Context

This study aims to describe the mathematical reasoning abilities of vocational high school students in the business and management expertise in solving mathematical tasks in the law of demand context. This research uses the descriptive qualitative method. The participants consisted of six students categorized into three groups: high, medium, and low mathematical abilities. Participants from one of the vocational schools in Ciamis, Indonesia. Mathematical tasks to explore students' mathematical reasoning abilities in the law of demand context. The law of demand is a concept in business economics subjects. The task situation expanded as an alternative to solving more mathematical tasks—data from the results of student answers and interviews. Data analysis refers to the characteristics of mathematical reasoning, which consists of imitative and creative reasoning. The stages of data analysis are reduction, presentation, interpretation, inference, and verification. The results of data analysis show that all students tend to do imitative reasoning on each given task. Students tend to remember the law of demand formulas and perform mathematical procedures that they remember. Students often perform mathematical procedures that are not by the nature of mathematics so that the resulting solution is wrong. The law of demand questions designed to explore creative reasoning abilities has not been able to bring students to the flow of creative mathematical reasoning.

Selshi Effect: A New age conspicuous Exceptions to the Theory of Law of Demand

Abstract: Hypothesis: As we all come across the word “Demand” (a simple word but with multitude usage in practice), the foundational concept to understand what the economics is? And how it functions? With due importance of it, one can easily understand the behavior of commodities’ against its prices (termed as Law of Demand) subject to its assumptions. There are certain circumstances where this law loses its validity due to one or the other reasons Viz.., Veblen’s effect, Giffen paradox 1 etc.., In continuation to these exceptions this article is an attempt to check whether the state of the economy (especially recession) acts as an exceptional factor in determining the goods’/commodities’ demand or not, by considering different sectors for different time periods 2. The outputs were surprising because some sectors/businesses were benefitted due to this pandemic led recession and some faced challenge for its survival and revival. However the article is based on secondary data 3 obtained from their competing agency/authority in which the credibility and credit follows them.

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A Reply to a Replication of “Weathering Corruption” ( Journal of Law and Economics, 2008): Different Data Produce Different Results

Cordis and Milyo replicate our study, which found a positive relationship between FEMA-provided disaster relief and public corruption in the US states. Our study used the corruption data that virtually every study of American corruption uses: PIN data. Using the same data, Cordis and Milyo find the same result. And using different corruption data from TRAC, they find a different result: no relationship between FEMA-provided disaster relief and public corruption. Unsurprisingly, different data produce different results. The meaning of that difference, however, is unclear, especially since the latter result, which implies that public actors do not respond rationally to incentives when making decisions regarding corrupt activities, contradicts the law of demand.

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Injectivity and the law of demand, the inviolable law of demand, income and substitution effects: a rejoinder to professor joseph salerno.

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The law of demand and the loss of confidence effect: An experimental study

Jiří mazurek.

a Department of Informatics and Mathematics, School of Business Administration, Silesian University in Opava, The Czech Republic, Na Rybníčku 626/1, 746 01, Opava, Czech Republic

Carlos Fernández García

b Universidad de las Américas, Escuela de Negocios, Redondel del Ciclista, Antigua Vía a Nayón, Quito, Ecuador

Cristina Pérez Rico

c Escuela Politécnica Nacional, Facultad de Ciencias Administrativas, DESODEH, Quito, Ladrón de Guevara E11·253, Quito, Ecuador

Associated Data

The aim of this article is to examine the possibility that a market demand function (curve) might not be monotonically decreasing in its entire domain according to the consumer theory neoclassical as assumed by the law of demand (for normal goods). This may happen due to limited rationality of (some) consumers and the anchor price effect. When a price of a good decreases to some point, the amount demanded might stops increasing due to the loss of confidence effect : consumers’ unwillingness to buy a too cheap product. The existence of this effect was examined via questionnaire on a sample of 377 undergraduate university students from the Czech Republic, Ecuador and Spain. The main result of this experimental study is that the loss of confidence effect appeared at all three locations, which indicates that the law of demand may not be valid in its entire domain. Furthermore, the results of this study imply that a significant percentage of people make decisions of limited rationality even when facing a very simple task. In addition, statistically significant difference in rational behavior with respect to gender was found.

Economics, Demand function, Price elasticity of demand, Irrationality, Loss of confidence and experimental study

1. Introduction

In the economic theory, the market demand is a sum of individual demands for a given good. The law of demand states, that as a price of a good increases, quantity demanded decreases, and vice versa (ceteris paribus). Also, a demand function (curve) P = f ( Q ) and its inverse, Q = f − 1 ( P ) , are usually depicted monotonically decreasing (and convex), see Fig. 1 a. Mathematically, the law of demand states that ∂ f ∂ Q < 0 ( ∂ f − 1 ∂ P < 0 ) in the whole domain of f . The negative slope of the market demand curve is discussed e. g. in Becker (1962) . Mathematical derivation of the law of demand (its downward slope) based on revealed preferences and the utility theory can be found in e.g. Hildenbrand (1983) or Quah (2000) . The economic theory states majority of goods are normal, with only rare exceptions to the law of demand in the form of (inferior) Giffen goods, luxury Veblen goods, or some necessary goods (such as medical equipment, medicaments, water or basic food), see e.g. Masuda and Newman (1981) or Veblen (1899) , for which the slope of a demand curve is upward.

a) A typical depiction of demand and supply functions, b) A (cubic) shape of a non-monotonic demand curve considered in Akerlof et al. (2018) . Source: Authors.

Although there is no empirical research on possibility of a demand curve with a positive slope for “normal” goods, there are theoretical studies that discuss a complex market demand model with externalities, which include both positive and negative slope of a demand curve, see Guangping and Changjun (2015) or Akerlof et al. (2018) , see also Fig. 1 b.

Rationality can be defined in many ways. For Shugan (2006) , rationality is “having the ability to reason”. Lipman (1991) defines rationality as “choosing the best procedure for deciding”, while Bernheim (1984) means by rationality “taking the best action under given conditions”.

In 1957, Simon Herbert, see Herbert (1957) came up with the idea of “bounded rationality”. He argues that most humans are only partly rational due to cognitive limitations of human mind and the tractability (complexity) of decision making problems. A discussion on consumers' rationality is a hot topic in the behavioral economics since 1970s early works of Amos Tversky, Daniel Kahneman or Richard Thaler, founders of modern behavioral economics, see e.g. Tversky and Kahneman (1974) . The early history of behavioral economics is described in an unusually instructive way in Richard Thaler's book Misbehaving , see Thaler (2016) . The book contains some examples of ‘irrational economic behavior’ of individuals. Thaler discriminates between Econs , individuals who are strictly rational and behaving accordingly to economic theories, and ordinary (imperfect) Humans , illustrating differences in their decision making. In general, behavorial economics is a branch of economics that studies effects of psychological, cognitive, emotional, cultural and other factors on economic decisions of individuals and aims at explaining how those decisions vary from those implied by classical economic theory. The “limited rationality” of individuals is another possible explanation, see e. g. Infante et al. (2016) or Rabin (2013) . The “limited rationality” can be understood as a lower level of rationality until it becomes irrational (although this depends on the context). These levels depend on psychological mechanisms such as preference, value, judgments and well-being, which should be used in the economy according to Hausman (2012) .

In general, the irrational's evidence behavior of consumers is growing, see e.g. recent studies of Fehr and Tyran (2005) , Kapeller et al. (2012) , Shugan (2006) or Cummings et al. (2015) . The law of demand seems reasonable and rational; however, it might not be true in reality. Do people (consumers) act always rationally? If at least some consumers are irrational, is the law of demand still valid? An empirical research on real behavior of true consumers dealing with their individual demand curves is missing in the literature.

To outline the research problem of this study, consider a situation where a consumer wants to buy a tablet. This good has certain parameters, and a consumer expects to pay something between 300-350 USD (the anchoring price). However, a shop-assistant offers a tablet satisfying all consumer's parameters for only 80 USD. Should the consumer buy it? The price seems too low. Isn't the tablet out of order? Isn't it inferior in terms of quality? The consumer hesitates whether to buy it or not, and may decide not to buy it due to his/her doubts with respect to quality of the offered product. This situation, when the price of a good is out of consumers' expected price range (more precisely, the price is much lower), which leads to good's rejection by a significant part of consumers. It's going to be called the loss of confidence effect thereinafter. In the model situation above, the fall of the price doesn't result in the increase of demand of a tablet. The law of demand is not valid any more, though the offered good is “normal” (nor Giffen, nor Veblen) according to the economic theory. But does this effect exist in reality?

The answer can be found by designing an appropriate experiment. Therefore, the aim of this article is to examine whether a market demand function (curve) P = f ( Q ) is decreasing over its entire domain. The method of the study is an experiment carried via a questionnaire. Respondents (university students) were asked whether they would buy a given good (a tablet) for a given (descending) price. Then, from individual responses a market demand curve was constructed and evaluated with respect to the law of demand. Also, (i)rationality of respondents was evaluated with regard to respondents’ age and gender.

The organization of this paper is as follows: in section 1 the method of the study is described, in section 2 results are provided, and in section 3 a discussion of results is presented. Conclusions close the article.

2. Materials and methods

The method of the research was an experiment carried via an anonymous questionnaire, see Appendix A. The research was approved by the Ethical committee of the Silesian University in Opava. At the beginning of the experiment, respondents (university students) were addressed with the following words: “Please, fill the questionnaire related to one of our faculty projects”.

The instructor did not provide any other explanation or instructions to reduce acquiescence bias (“yes saying”) to a minimum.

In the questionnaire itself, respondents were asked about their age and gender, and then were shown a picture of a tablet (Samsung Galaxy Tab4 10.1VE SM-T533) with its specification. Ten questions of the type: “Would you buy this tablet for (6000, 5000, 4000, 3000, 2000, 1500, 1000, 500, 300 and 100) CZK” with “YES” or “NO” answers followed (23 CZK = 1 USD). Respondents answered “YES” or “NO” to the question with the highest price, and proceeded immediately to questions with lower prices in the descending order. The whole experiment lasted only several minutes. Due to simplicity and swiftness of the experiment the only bias that might occur was an indifference bias (some respondents may not care to fill the survey properly, though they were verbally motivated to do so).

At the time of the experiment, the tablet was offered for 7023 CZK at the biggest Czech Internet online wholesaler Heureka.cz . The research was carried out among students of two courses ( Statistics and Mathematical methods in Economics ) at School of Business Administration, Silesian University in Opava, in the Czech Republic, in 2016. Only fully answered questionnaires were processed. From individual demand functions the market demand function was constructed as their sum. The total number of respondents was 121; including 89 women and 32 men. As for respondents age, 27 respondents were aged under 21 and 94 respondents were 21 and older.

The experiment was repeated in 2019 in Ecuador at Universidad Central del Ecuador, Escuela Politécnica Nacional and Universidad Nacional de Chimborazo; and in Spain at Universidad de Córdoba, Universidad Rey Juan Carlos and others. The experiment was conducted via online questionnaire similar to the one in Appendix A, the only change being a currency involved (US dollars and Euros respectively). Again, respondents were university students. In Ecuador, 142 respondents (68 women and 74 men) participated in the study, while the sample in Spain consisted of 114 respondents (69 women and 45 men).

In addition to the experimental derivation of the market demand curves (functions) at three aforementioned locations, the following two null hypotheses H 01 and H 02 dealing with respondents’ rationality were tested by the chi-square test for independence.

• • H 01 : “There is no difference in rationality between men and women”.
• • H 02 : “There is no difference in rationality between younger and older students”.

The level of statistical significance α was set to be 0.01. All tables and figures thereinafter are made by the authors.

3.1. Results of the experiment – Czech Republic

Results of the study in the form of the market demand are provided in Table 1 . Fig. 2 shows empirically derived market demand function and the inverse market demand function (the market demand function is not a function in terms of mathematical terminology in this case).

Table 1

Empirically derived data points of the demand curve (function), Czech Republic.

a) Data points of the inverse of the demand function of the experiment. The Czech Republic, price in CZK. b) Data points of the demand curve of the experiment. The Czech Republic, price in CZK.

From the Table 1 and Fig. 2 it's clear that the market demand is not monotonous. The data points suggest the demand is decreasing from 2,000 CZK to 6,000 CZK as expected by economic theory. However, between 100 CZK and 1,500 CZK the demand is increasing, and not decreasing as would the law of demand suggest. The turning point is 1,500 CZK. This point, the loss of confidence occurred, at the price of approximately 21% of the price offered by Heureka.cz online shop.

Respondents, who answered “YES” for a certain price, and also for all lower prices, were considered rational (as well as several respondents who answered “NO” to all prices). Out of 121 respondents, 58% respondents were rational and 42% respondents irrational (in terms of the experiment). Men were slightly more rational than women, while differences in rationality between younger students (under 21) and older students (21 and above) were smaller. Numbers of rational and irrational respondents with respect to their gender and age are provided in Table 2 .

Table 2

Numbers of rational and irrational respondents with respect to gender and age for the Czech Republic, Ecuador and Spain.

Note : The number 21/11 in the second row and column means that 21 men from the Czech Republic were rational, and 11 men were irrational, and so on in the rest of the table.

At last, both null hypotheses from the previous section where evaluated:

The critical value χ 0.01 2 ( 1 ) = 6.6 , test value G = 1.08; H 01 cannot be rejected.

The critical value χ 0.01 2 ( 1 ) = 6.6 , test value G = 0.075; H 02 cannot be rejected.

Hence, in the case of respondents from the Czech Republic, the differences in rationality between men and women, and between younger and older students, were found statistically insignificant.

3.2. Results of the experiment – Ecuador

The results of the experiment carried out among Ecuadorian undergraduate university students are presented in Table 3 and Fig. 3 a, b. It can be seen that the market demand is not monotonically decreasing, and the loss of confidence effect appears at the turning point of 150 USD (at approximately 49% of the price of the product at retailer's website).

Table 3

Empirically derived data points of the demand curve (function), Ecuador.

a) Data points of the inverse of the demand function of the experiment. Ecuador, price in USD. b) Data points of the demand curve of the experiment. Ecuador, price in USD.

Out of 142 respondents, 49% respondents were rational and 51% respondents irrational. Men were more rational than women, see Table 2 , while differences in rationality between younger students (under 21) and older students (21 and above) were negligible.

The null hypotheses were evaluated with the following results:

• • H 01 : The critical value χ 0.01 2 ( 1 ) = 6.6 , test value G = 13.77; H 01 was rejected.
• • H 02 : The critical value χ 0.01 2 ( 1 ) = 6.6 , test value G = 0.049; H 02 cannot be rejected.

Hence, the difference in rationality between men and women was found statistically significant at p = 0.01 level.

3.3. Results of the experiment – Spain

The results of the experiment carried out among Spain undergraduate university students are presented in Table 4 and Fig. 4 a, b. In analogy to results from the Czech Republic and Ecuador, the market demand is not monotonically decreasing, and the loss of confidence effect appears at the turning point of 120 Euros (at approximately 44% of the price of the product at retailer's website).

Table 4

Empirically derived demand curve (function), Spain.

a) Data points of the inverse of the demand function of the experiment. Spain, price in Euro. b) Data points of the demand function of the experiment. Spain, price in Euro.

Out of 114 respondents, 59% respondents were rational and 41% respondents irrational. Men were more rational than women again, see Table 2 , while differences in rationality between younger students (under 21) and older students (21 and above) were much smaller.

• • H 01 : The critical value χ 0.01 2 ( 1 ) = 6.6 , test value G = 8.64; H 01 is rejected.
• • H 02 : The critical value χ 0.01 2 ( 1 ) = 6.6 , test value G = 0.038; H 02 cannot be rejected.

Hence, in case of Spanish respondents, the difference in rationality with respect to gender was found statistically significant at p = 0.01 level.

4. Discussion

According to Rabin (2013) or Harstad and Selten (2013) , little has been done to integrate insights of psychology on the limits of rationality into economics. The reason why the law of demand might not hold in its entire domains is that humans are not always totally rational ( Thaler and Sunstein, 2009 ). The literature on human cognitive bias and its effects on decision making is vast and growing quickly every year, see e.g. Tversky and Kahneman (1974) , Kahneman (2011) , Dvorsky (2013) , or Munger (2015) . Ariely (2008) argues that when making a decision to buy certain good, an anchor price plays a vital role. The anchor price affects the way consumers perceive the value of a good hence forth, as they are comparing it to the anchor price.

The price of a product, when no other information about the product is available, provides signal about its quality, with the higher price obviously meaning the higher quality. Therefore, in such a situation, a low price product might be avoided by consumers due to is assumed inferior quality, and the law of demand becomes invalid. Though there is no paper in the scientific research questioning the law of demand validity known to authors, there is plenty of evidence of its invalidity for low prices coming from marketers and producers, see for example Tuttle (2012) , D'Souza (2015) , or Clancy (2019) . Tuttle (2012) explains that product's low price provides two conflicting messages to consumers: “It is a bargain”, and “It is a product of bad quality”, and these two messages compete across the set of consumers. Moreover, Tuttle specifically mentions 80% sales as a threshold that can discourage some consumers. D'Souza (2015) explains the role of the anchor price, when no other information is available, and how consumers might avoid too low-priced products. Clancy (2019) provides an example of marketing strategy based on a large sale that failed to attract customers. To summon, findings of the aforementioned marketing experts indicate that consumers prefer modest prices close to the anchoring price, and are not generally inclined towards “too low” prices.

Therefore, the result of the presented study can be, to some extent, explained by the existence of the aforementioned anchor price. Customers buying a certain good (or service) have their own expectations of an appropriate price based on their previous experience and knowledge (an anchor price, or reference price), or prices paid by other people. If the real price is close to their expectations, or slightly below it, they are likely to buy the product. A price significantly higher than an expected one will probably discourage from a purchase. On the other hand, much lower price might lead to customers’ confusion. Why is it so cheap? Does it have some flaws? Is it out of order? Is its quality acceptable? Generally, this situation occurs when a cognitive structure of an individual is in a conflict with reality.

That's why a large portion of respondents refused to buy the tablet for a price too low, though they had answered “YES” for a higher price for the same item already. This was verified by seven questionnaires that contained explanation of “NO” answer for the lowest prices. Respondents unanimously wrote: “The price is too low; it must be a piece of junk.”

It should be noted that the anchor price effect does not provide the sole explanation of our results, as in our experiment respondents were provided specification of the product and its color picture. The anchor price effect demonstrates itself particularly in cases when a price is the only signal of quality.

Our findings contradict “conventional economic wisdom” that a demand curve has negative slope. Becker (1962, p. 6) argues that the fundamental theorem of rational behavior, that market demand curves are negatively inclined, is also valid for less rational consumers. He admits that some individual demand curves might not be negative, but he believes that by averaging over large number of consumers (time, price, households, etc.), erratic behavior cancels out. However, he does not consider a possibility that a demand curve might have a negative slope over one part of its domain, and a positive slope over another.

Nevertheless, it could be possible that for (very) large samples of consumers the loss of confidence effect cancels out as predicted by Becker (1962) , though there is no empirical research yet that would suggest it is the case. Without doubt, other experiments of a much larger scale could shed more light on the problem.

As for our choice of university students as respondents, they are a suitable population cohort due to their sociodemographic profile, since they are popular subjects of economic and sociological experiments ( Chen and Dubinsky, 2003 ; Lin, 2007 ; Bart et al., 2005 ). In addition, university students have great availability to cooperate and intelligence, and are users familiar with new technologies such as tablets and the Internet. Therefore, filling out a survey about buying a tablet should seem natural. Tablets are widely used in schools and universities to facilitate learning processes. For example, the Universidad Politécnica Salesiana from Ecuador offers each student a tablet similar to the one used in our experiment. Moreover, the main consumers of technology according to statistics provided by companies are young people ( Svoboda, 2019 ).

Based on empirical findings presented in the previous section, a new model of a market demand including the loss of confidence effect is proposed.

• • For rational consumers, the demand Q R is described by monotonically decreasing function Q R = f ( P ) as usual.
• • For less rational (irrational) consumers, the demand Q I is described by a function that should reflect the loss of confidence effect. It can be assumed that the demand function attains its maximum Q A when a price of a good is equal to an anchor price P A (the expected price by consumers), while the demand decreases with the increasing distance from the anchor price P A . Let us denote such function Q I = g ( P , P A ) .

Let α be the number of rational consumers, let β be the number of irrational consumers. Then the overall demand Q is given as the linear combination of both demands:

Fig. 5 provides illustrative example of relation (1) when demand functions are linear and in the form of hyperbola. The line ( a ) corresponds to the standard decreasing market demand; the curve ( b ) reflects the loss of confidence effect and anchoring effect: it decreases with the growing distance to the anchor price P A . And finally, the curve ( c ) is a composition of ( a ) and ( b ) and corresponds to the situation when a market demand is generated by both rational and irrational consumers.

A market demand generated by rational and irrational consumers. Source : authors. Note: the position of the curve (c) is only illustrative.

6. Conclusions

The law of demand is a statement about the market demand curve, and this experiment provides only a new (simplified) model of real markets, therefore, its results should be considered with caution. The aim of this paper was to carry out an experiment in order to demonstrate that a demand function presented in microeconomics literature might not be decreasing in its entire domain due to the lower extent of rationality (or “limited rationality”) of some customers who distrust prices that are too low.

The presented research shows that some students are “imperfect economists”, or “humans” in Thaler's sense, in some situations, which could lead, along with the anchoring effect mentioned above, to violation of the law of demand in some situations.

The experiment was performed in three countries, the Czech Republic, Ecuador and Spain, with university students being respondents of the questionnaires. At all three locations the same effect of the loss of confidence was found, strongly suggesting that for prices perceived by respondents (consumers) to be too low (when compared to an anchor price), the law of demand might not be valid indeed. Due to the nature of the experiment, respondents provided their responses rather quickly, and it is known that “fast thinking” is susceptible to various kinds of cognitive biases, see e.g. Kahneman (2011) . Hence, it would be interesting to compare results with an experiment where respondents would take more time (thus involving the more logical “slow thinking”) for their answers.

Furthermore, the study revealed that around 45% of undergraduate students were not able to make rational decision even when facing an easy task such as buying a given product. In addition, statistically significant differences in rationality between men and women were found for respondents from Ecuador and Spain (but not for respondents from the Czech Republic).

Declarations

Author contribution statement.

Jiří Mazurek: Conceived and designed the experiments; Performed the experiments; Analyzed and interpreted the data; Contributed reagents, materials, analysis tools or data; Wrote the paper.

Carlos Fernández, Cristina Pérez: conceived and designed the experiments; Performed the experiments; Analyzed and interpreted the data; Wrote the paper.

Funding statement

This work was supported by the Ministry of Education, Youth and Sports Czech Republic within the Institutional Support for Long-term Development of a Research Organization in 2019.

Competing interest statement

The authors declare no conflict of interest.

Additional information

No additional information is available for this paper.

Appendix A. Supplementary data

The following is the supplementary data to this article:

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