Question

Explain all the reasons why a decrease in a product's price would lead to an increase in purchases.

Short answer

A decrease in a product's price leads to an increase in purchases due to the law of demand, elasticity of demand, income effect, substitution effect, and psychological impact on consumers. Lower prices make the product more affordable, affecting the consumption patterns of consumers by increasing their purchasing power. Products with higher elasticity see a greater increase in purchases, and lower prices may attract consumers to choose the product over its substitutes. Additionally, consumers might perceive a lower price as a "good deal" or "bargain," leading to increased demand.

Step-by-step solution

1. Understand the Law of Demand

The law of demand is a fundamental principle in economics that states that, all other factors being equal, as the price of a product decreases, the quantity demanded of that product increases. This means that when a product's price goes down, more people will buy it because they find it more affordable. A graphical representation of this principle shows an inverse relationship between price and quantity demanded, with the curve sloping downward.

2. Explore the concept of elasticity of demand

The elasticity of demand is an economic measure of how sensitive the demand for a product is to a change in its price. Products with higher elasticity (elastic goods) will have a more significant increase in purchases when their prices decrease compared to products with lower elasticity (inelastic goods). Some reasons behind the differences in elasticity include the availability of substitutes, the necessity of the product, and how much the price change affects the consumers' budgets.

3. Income effect on demand

The income effect is the change in the consumption pattern of a consumer due to an increase in their purchasing power. When the price of a product decreases, it essentially increases the consumers' purchasing power, which leads to more purchases. This happens because now consumers can buy more of that product with the same amount of money, thus making it more attractive to buy.

4. Substitution effect on demand

When the price of a product decreases, it may become more attractive to consumers than other related products that are considered substitutes for that product. This occurs because of the substitution effect, in which consumers will replace a more expensive good with a less expensive substitute. Therefore, when a product's price Goes down, not only is it more in line with consumers' budgets, but it may also appear as a more sensible choice compared to other products, leading to an increase in purchases.

5. Psychological impact on demand

A decrease in a product's price can also have a psychological impact on consumers. A lower price might convey a feeling of a "good deal" or "bargain," which may lead consumers to buy more of the product. Similarly, with the fear of missing out (FOMO) or anticipation that the price may go up again, consumers might choose to purchase the good at the discounted price further leading to an increased demand. To conclude, there are several reasons why a product's price decrease can lead to an increase in purchases. These include the law of demand, elasticity, income and substitution effects, and the psychological impact on consumers.