Theory of Demand and Supply and the Impact of Income Increase on Inferior Goods: A Case Study of G.R

Theory of Demand and Supply

The theory of demand and supply is the one of the most significant stepping stones where the interaction between the buyers of a resource and sellers of a resource are explained. The relationship between the price of a commodity and the willingness of individuals to sell or purchase has been explained under the theory of demand and supply. It must be noted that in the event of a general price increase, there is a willingness of the sellers to supply more and consumers demand less of that product and vice versa is the case when the prices fall (CFA Institute, 2021).

In the given situation, the entity in question that is G.R. Dry Foods Distributors has a specialization in the wholesale distribution of products such as rice and dry beans. It has been provided in one of the latest articles that there is expected to arise change in business environment, wherein an increase by 10 percent over the next year expected to occur in the lowest income bracket. In the given situation, it is to be noted that the goods that are rice and beans are the inferior goods. There are three types of goods in economics namely the Normal goods, Inferior goods and Luxury goods. The behaviour of inferior goods is different from that of normal goods. It is imperative to note that the consumption of inferior goods is has a general association with individuals of the lower social economic class.

However it is to be noted that there is no direct relationship between the said goods and the perception of their low quality, despite being associated with the low income parts of the population. Some inferior goods may be products of good quality but may come with substitutes with a higher price. The affordability of the goods is a key feature that attracts consumers with low income. An inferior good is the one whose demand falls with the rise in the incomes of the consumers. In the event of contraction of economy or incomes falling, the inferior goods become a more affordable substitute instead of the expensive good and hence the name.

The impact of such a change in the external business environment would be that with the rise of incomes of lower bracket individuals, their preference would shift from inferior goods that are rice and beans to normal goods or superior goods. This means, in the case of the inferior goods, the rise in the income would lead to leftward shift in the demand, which would further result in a lower equilibrium price. In simple words, in order to maintain the business for the company, the company would have to further lower the prices of these goods to attract the demand for the same, which would affect the revenues of the entity in return.

The graphical representation of the shift in prices has been demonstrated hereunder.

For the assessment, it is imperative to regard D1 demand curve at the initial market conditions. With the rise in the income of the individuals, there would arise a shift in demand curve towards left that is D2 demand curve. Thus, if the income increases, the shift in the demand curve towards D2 would lead to fall in prices. This is because in order to buy the fixed quantity of Q1 of a product, the equilibrium price would shift from P1 to P2 that is on lower side on the vertical axis. However, the observation is with regards to assumption that consumers will cut the consumption of inferior goods with the increase income, in actual life the scenario could be different. In real life there are a range of factors such as traditions and geographic or climate characteristics that determine the consumer behaviour (Corporate Finance Institute, 2021).

Thus, with the help of the discussions conducted in previous parts, it can be concluded that the concern of the manager of G.R. Dry Foods Distributors is genuine with the indication of the rise in the incomes of the lower income individuals. The 10% increase in income would allow them to buy normal goods and as a result the demand for rice and beans would increase. Further the prices would need to be reduced to address the said demand reduction.

References

CFA Institute (2021). Demand and supply analysis. Retrieved from: https://www.cfainstitute.org/-/media/documents/support/programs/cfa/prerequisite-economics-material-demand-and-supply-analysis-intro.ashx

Corporate Finance Institute (2021). What are Inferior Goods? Retrieved from: https://corporatefinanceinstitute.com/resources/knowledge/economics/inferior-goods/