Unit - II

DEFINITION OF DEMAND

According to Ferguson, “Demand refers to quantities of a commodity that the consumers are
able and willing to buy at each possible price during a given period of time, other things
being equal.”

DEMAND FUNCTION:

In demand analysis, one should recognize that at any point in time the quantity of a
given product that will be purchased by the consumers depends on a number of key variables
or determinants. In technical jargon, it is stated in terms of demand function for the given
product. A demand function in mathematical terms expresses the functional relationship
between the demand for the product and its various determining variables.

Qd= f( P, I, Ps, Pc, A, T, S, S&W, Ep, Ei, O etc.)

Where

Qd= Quantity Demand

f= Functional Relationship
P = Price of the Commodity
I = Income level of consumer
Ps = Price of Substitute commodity
Pc = price of Complementary commodity
A = Amount spent on Advertisement
T= Taste and Preference of the consumer
S = Size and Composition of population
S&W = Season and Weather
Ep = Expected Price in future
Ei = Expected Income in future
O = Other Factors

Determinates of Demand

 Price of the product: The price of a product or service is generally inversely

proportional to the quantity demanded while other factors are constant. Rational
consumer always preferred to purchase more quantity when the price of the
commodity is low and vice versa.
 Income level of consumer: The level of income of individuals determines their
purchasing power. Generally, income and demand are directly proportional to each
other. This implies that rise in the consumers‟ income results in rise in the demand for
a commodity.

 Price of Substitute commodity: The related goods are generally substitutes and
complementary goods. The demand for a product is also influenced by the prices of
substitutes. When a want can be satisfied by alternative similar goods, they are called
substitutes, such as coffee and tea. If the Price coffee quantity is increases, the
demanded of tea also increases since consumer shift for coffee to tea leading to direct
relationship betweensubstitute goods.

 Price of Complementary Commodity: The demand for a product is also influenced

by the prices of complementary goods. The complementary goods are the goods
which are used by consumer together at same time. Whenever the price of one good
and the demand of another good are inversely related then the goods are said to be
complementary, such as car and petrol. If the price of the car increases, the quantity of
demanded of petrol is deceases and vice versa.
  Amount spent on Advertisement: In modern times, the preferences of consumers
can be altered by advertisement and sales propaganda. Advertisement helps in
increasing demand by informing the potential consumers about the availability of the
product, by showing the superiority of the product, and by influencing consumer
choice against the rival products. The demand for products like detergents and
cosmetics is mainly caused by advertisement. Hence amount spent on advertisement
is having direct relationship with quantity demanded of the commodity.

 Taste and Preference of the consumer: The demand for a product depends upon
tastes and preferences of the consumers. If the consumers develop taste for a
commodity they buy whatever may be the price. A favorable change in consumer
preference will cause the demand to increase. Likewise an unfavorable change in
consumer preferences will cause the demand to decrease.

 Size and Composition of population: Increase in population raises the market

demand, while decrease in population reduces the market demand. Composition of
population i.e. ratio of males, females, children and number of old people in the
population also affects the demand for a commodity.

 Season and Weather: Seasonal factors also affect the demand. The demand for
certain items purely depends on climatic and weather conditions. For example, the
growing demand for cold drinks during the summer season and the demand for
sweaters during the winter season.

 Expected Price in Future: One of the determinate demand buyers' expectations

about future price of the commodity. If a buyer expects the price of a good to go down
in the future, they hold off buying it today, so the demand for that good today
decreases. On the other hand, if a buyer expects the price to go up in the future, the
demand for the good today increases.

 Expected Income in future: If one expects an increase in future income, his demand
at present would also increase. On the other hand, if one expects a decline in future
income earnings, his demand at present would fall and he would rather want to save
some money to take care of future expenses and uncertainties.

Nature and Types of Demand

1. Consumer Goods Demand Vs Producer Goods Demand:

Consumer goods refers to such products and services which are capable of
satisfying human need. Goods can be grouped under consumer goods and producer
goods. Consumer goods are those which are available for ultimate consumption.
These give direct and immediate satisfaction. Example are bread, apple, and rice and
so on. Producer goods are those which are used for further processing or production
of goods/services to earn income. Example are machinery or a tractor, and such
others.
2. Autonomous Demand Vs Derived Demand: .
Autonomous demand refers to the demand for products and services directly.
The demand for the services of a super speciality hospital can be considered as
autonomous whereas the demand for the hotels around that hospital is call a derived
demand. In case of a derived demand, the demand for a product arises out of the
purchase of a parent product. If there is no demand for houses, there may not be
demand for steel, cement, bricks and so on. Demand for houses is autonomous
whereas demand for these inputs is derived demand.

3. Durable Goods Demand Vs Perishable Goods Demand:

Here the demand for goods is classified based on their durability. Durable
goods are those goods which give service relatively for a long period. The life of
perishable goods is very less may be in hours or days. Example of perishable goods
are milk, vegetables, fish, and such. Rice , wheat , sugar, and so on. such others can
be examples of durable goods.
4. Firm Demand Vs Industry Demand:
The firm is a single business units whereas industry refers to the group of
firms carrying on similar activity. The quantity of goods demanded by a single firm is
called firm demand and the quantity demanded by the industry as a whole is called
industry demand. One construction company may use 100 tonnes of cement during a
given month which is firm demand. The construction industry in a particular state
may have used ten million tonnes which is industry demand.

5. Short – run Demand Vs Long – run Demand:

Joel Dean defines short – run demand as the demand with its immediate
reaction to price changes, income fluctuations and so on. Long run demand is that
demand which will ultimately exist as a result of the changes in pricing, promotion or
product improvement, after enough time is allowed to let the market adjust itself to
the given situation.

6. New Demand Vs Replacement Demand:

New demand refers to the demand for the new products and it is the addition
to the existing stock. In replacement demand, the item is purchased to maintain the
asset in good condition. The demand for cars is new demand and the demand for spare
parts is replacement demand.

7. Total Market Vs Segment Market Demand:

Consider the consumption of sugar in a given region. The total demand for
sugar in the region is the total market demand. The demand for sugar comes from the
sweet making industry from this region is the segment market demand. The market
segmentation concept is very useful because it enables the study of its specific
requirements, if any, such as taste and preferences, and so on. A markets segment can
 be defined in terms of specific criteria such as location, age, sex or income and so on.
The aggregate demand of all the segment markets is called the total market demand.

LAW OF DEMAND

The law of demand is one of the most important laws of economics theory. According
to law of demand, other things being equal, if the price of a commodity falls, the quantity
demanded of it will rise and if the price of a commodity rises, its quantity demanded will
decline. Thus, there is an inverse relationship between price and quantity demanded, other
things being same.

Definition of law of demand

According to Marshal, “The law of demand states that other things being equal the quantity
demanded increases with a fall in price & diminishes when price increases.”

According to Ferguson, “According to the law of demand, the quantity demanded varies
inversely with price.”

The law of demand may be explained with the help of demand schedule.

Price of Apple (in. Quantity Demanded

Rs.) (in Units)

10 1

8 2

6 3

4 4

2 5
Assumptions of Law of Demand:

 No change in Income level of consumer

 No change in Price of Substitute commodity
 No change in Price of Complementary Commodity
 No change in the Amount spent on Advertisement
 No change in Taste and Preference of the consumer
 No change in Size and Composition of population
 No change in Season and Weather
 No change in Expected Price in Future
 No change in Expected Income in Future

Exceptions to the law of Demand:

There are certain exceptions to the law of demand in other words, the law of
demand is not applicable in the following cases.

 Giffen Goods: People whose incomes are low purchase more of a commodity such as
broken rice, barley, Java , bread, potato etc (which is their staple food) when its price
rises. Inversely when its price falls, instead of buying more, they buy less of this
commodity and use the savings for the purchase of better goods such as meat. This
phenomenon is called Giffen paradox and such goods are called Giffen goods.
 Veblen Goods: Products such as jewels, diamonds and so on confer distinction on the
part of the user. In such case, the consumers tend to buy more goods when price
increased and less purchase when price decreased. Such goods are called Veblen
Goods or prestige good which shows their status.
 Speculative Effect: If the price of the commodity is increasing the consumers will
buy more of it because they believe that it increase still further in future and vice
versa, example price of shares, etc.
 Fear Shortages: If the consumers fear that there may be shortage of goods, then law
of demand does not applicable. They may tend to buy more than what they require
immediately, even if the price of the product increases.
 In case of ignorance of price changes/ impulse buying: When the consumer is not
familiar with the changes in the price, he tends to buy even if there is increase in
price. Consumers tend to buy more even the price is high because of impulse
behaviour.
 Necessities: In the case of necessities like salt, match box etc., demand would not
change even price of these items changes.

ELASTICITY OF DEMAND

Prof. Marshall introduced the concept of elasticity of demand to measure the change in
demand. Thus elasticity of demand is the measurement of the change in demand in response
to a given change in the price of a commodity. It measures how much demand will change in
response to a certain increase or decrease in the price of a commodity.

Elasticity of demand is defined as the ratio of the percentage change in quantity demanded to
the percentage change in the demand determinant under consideration.

DEFINITIONS OF ELASTICITY OF DEMAND

According to E.K. Estham “Elasticity of demand is measure of the responsiveness of

quantity demanded to a change in price”

According to Prof. Benham “The concept relates to the effect of a small change in price
upon the amount demanded”.

According to Prof. Boulding. “The elasticity of demand may be defined as the percentage
change in the quantity demanded which would result from percent change in price.”

TYPES OF ELASTICITY OF DEMAND:

1. Price elasticity of demand

2. Income elasticity of demand
3. Cross elasticity of demand
4. Promotional elasticity of demand

1. Price elasticity of demand: Elasticity of demand in general refers to price elasticity of

demand. In other words, it refers to the quantity demanded of a commodity in response to a
given change in price. Price elasticity is always negative which indicates that the customer
tends to buy more with every fall in the price, the relationship between the price and the
demand is inverse.

OR
Where:

Q1 = Quantity demand before change

Q2 = Quantity demand after change

P1 = Price before change

P2 = Price after change

2. Income elasticity of demand: Income elasticity of demand refers to the change in

quantity demand of a commodity in response to a given change income.

OR
Where:

Q1 = Quantity demand before change

Q2 = Quantity demand after change

I1 = Income before change

I2 = Income after change

3. Cross elasticity of demand: Cross elasticity of demand refers to the change in quantity
demanded of a one commodity in response to a change in the price of a related good, which
may be substitute or complementary.

OR

Where:

Qx1 = Quantity demand of X commodity before change

Qx2 = Quantity demand of X commodity after change

Py1 = Price of Y commodity before change

Py2 = Price of Y commodity after change

4. Promotional/Advertising elasticity of demand: It refers to increase in the sales revenue
because of change in the advertising expenditure. In other words, there is a direct relationship
between the amount of money spent on advertising and its impact on sales. Advertising
elasticity is always positive.

OR

Where:

Q1 = Quantity demand before change

Q2 = Quantity demand after change

A1 = Advertising expenditure before change

A2 = Advertising expenditure after change

Measurement Elasticity of Demand

1. Perfectly elasticity of demand

2. Perfectly inelasticity of demand
3. Relatively elasticity of demand
4. Relatively inelasticity of demand
5. Unity elasticity of demand

1. Perfectly Elastic Demand (Ep = ∞): When any quantity can be sold at a given price and
when there is no need to reduce price, the demand is to be perfectly elastic. In such cases,
even a small increase in price will lead to complete fall in demand. The shape of demand
curve is horizontal. In simple words where no reduction in price is needed to cause an
increase in quantity demanded.

2. Perfectly Inelastic Demand (Ep = 0): In perfectly inelastic demand the demand of a
commodity does not changes, whatever be the change in its price. Arithmetically, it is known as zero
elastic demand. The shape of demand curve is vertical. In simple words where a change in price,
however large, causes no change in quantity demanded.

3. Relatively elastic of demand (Ep > 1): Demand changes more proportionately than to change
in price. i.e., a small change in price leads to a very big change in the quantity demanded. The shape
of demand curve is semi – horizontal or flat. In simple word the demand is said to be relatively
elastic when the change in demand is more than the change in the price.
Relatively inelastic of demand (Ep < 1): The quantity demanded changes less proportionately
than to a change in price, a large change in price leads to a small change in amount demanded. The
shape of demand curve is steep. In simple word the demand is said to be relatively inelastic when
the change in demand is less than the change in the price.

Unitary elastic demand (Ep =1): In unitary elastic demand proportionate change in the price of a
commodity and proportionate change in its demand are equal. It is called as unitary elastic demand.
The shape of demand curve is rectangular hyperbola. In simple word the elastic in demand is said
to be unitary when the change in demand is equal to the change in price.
FACTORS DETERMINING ELASTICITY OF DEMAND

1. Nature of commodity: According to the nature of satisfaction the goods give, they
may be classified into luxury, comfort or necessary goods. In general, luxury and
comfort goods are price elastic, while necessary goods are price inelastic. Thus, for
example, the demand for food grains, cloth, salt etc. is generally inelastic while that
for radio, furniture, car, etc. is elastic.
2. Substitutes: Demand is elastic for those goods which have substitutes and inelastic
for those goods which have no substitutes. The availability of substitutes, thus,
determines the elasticity of demand. For instance, tea and coffee are substitutes. The
change in the price of tea affects the demand for coffee. Hence, the demand for coffee
is elastic.
3. Number of Uses: Elasticity of demand for any commodity depends on its number of
uses. Demand is elastic if a commodity has more uses and inelastic if it has only one
use. As coal has multiple uses, if its price falls it will be demanded more for cooking,
heating, industrial purposes etc. But if its price rises, minimum will be demanded for
every purpose.
4. Postponement: Demand is more elastic for goods the use of which can be postponed.
For example, if the price of silk rises, its consumption can be postponed. The demand
for silk is, therefore, elastic. Demand is inelastic for those goods the use of which is
urgent and, therefore, cannot be postponed. The use of medicines cannot be put off.
Hence, the demand for medicines is inelastic.
5. Raw Materials and Finished Goods: The demand for raw materials is inelastic but
the demand for finished goods is elastic. For instance, raw cotton has inelastic
demand but cloth has elastic demand. In the same way, petrol has inelastic demand
but car itself has only elastic demand.
6. Price Level: The demand is elastic of the goods at higher prices but inelastic of the
goods at lower prices.
7. Nature of Expenditure: The elasticity of demand for a commodity also depends as to
how much part of the income is spent on that particular commodity. The demand for
such commodities where a small part of income is spent is generally highly inelastic
i.e. newspaper, boot-polish etc. On the other hand, the demand of such commodities
where a significant part of income is spent, elasticity of demand is very elastic.
8. Habit farming characteristic: In case of habit farming characteristic goods like
tobacco, cigarettes, alcohol etc. demand is inelastic for the reason even price increases
the demand remain same.
Significance and Importance of Elasticity of demand

a. Planning the levels of output and price:

The knowledge of price elasticity is very useful to producers. The producer
can evaluate whether a change in price will bring in adequate revenue or not. In
general, for items whose demand is elastic, it would benefit him to charge relatively
low price. On the other hand, if the demand for the product is inelastic, a little higher
price may be helpful to him to get huge profits without losing sales.

b. Price fixation:
The manufacturer can decide the amount of price that can be fixed for his
product based on the concept of elasticity. If there is no competition, in other words in
the case of a monopoly, the manufacture is free to fix his price as long as it does not
attract the attention of the government. When there are close substitutes, the product
is such that its consumption can be postponed, it cannot be put to alternative uses and
so on, then the price of the product cannot be fixed very highly.
c. Price of factors of production:
The factors of production are land, labour, capital, organization and
technology. These have a cost: hence manufacturers have to pay rent, wages, interest,
profits and price for these factors of production. Elasticity of demand help to
determinant how much should be paid for these factors of production.
d. Government policies:
1. Tax policies: Government extensively depends on this concept to finalize its
polices relating to taxes and revenues. Where the product is such that the people
cannot postpone its consumptions, the government tends to increase its price, such
as petrol and diesel, cigarettes, and so on.
2. Raising bank deposits: If the government wants to mobilize larger deposits from
the consumer it propose to raise the rates of fixed deposits marginally and vice
versa.
3. Public utilities: Government uses the concept of elasticity in fixing charges for
the public utilities such as elasticity tariff, water charges, ticket fare in case of
road or rail transport .
e. Forecasting demand:
Income elasticity is used to forecast demand for a particular product or
services. The demand for the products can be forecast at a given income level. The
trader can estimate the quantity of goods to be sold at different income levels to
realize the targeted revenue.
DEMAND FORECASTING

Future is uncertain. There is great deal of uncertainty with regard to demand. Since
the demand is uncertain, production, cost, revenue, profit etc. are also uncertain. Through
forecasting it is possible to minimize the uncertainties.

Demand forecasting can be defined as a process of predicting the future demand for
an organization’s goods or services. It is also referred to as sales forecasting as it involves
anticipating the future sales figures of an organization.

Demand forecasting helps an organization to take various business decisions, such as

planning the production process, purchasing raw materials, managing funds and deciding the
price of its products. Demand can be forecasted by organizations either internally by making
estimates called guess estimate or externally through specialized consultants or market
research agencies.

Definition of demand forecasting

According to Evan J. Douglas, “Demand estimation (forecasting) may be defined as a

process of finding values for demand in future time periods.”

According to Cundiff and Still, “Demand forecasting is an estimate of sales during a

specified future period based on proposed marketing plan and a set of particular
uncontrollable and competitive forces.”

Need of Demand Forecasting

 Fulfilling objectives: It implies that every business unit starts with certain pre-
decided objectives. Demand forecasting helps in fulfilling these objectives. An
organization estimates the current demand for its products and services in the market
and move forward to achieve the set goals.
 Preparing the budget: Demand forecasting plays a crucial role in making budget
by estimating costs and expected revenues. For instance, an organization has
forecasted that the demand for its product, which is priced at Rs. 10, would be
 1,00,000 units. In such a case, the total expected revenue would be 10* 1,00,000 =
Rs. 10,00,000. In this way, demand forecasting enables organizations to prepare their
budget.

 Stabilizing employment and production: It helps an organization to control its

production and recruitment activities. Producing according to the forecasted demand
of products helps in avoiding the wastage of the resources of an organization. This
further helps an organization to hire human resource according to requirement. For
example, if an organization expects a rise in the demand for its products, it may opt
for extra labor to fulfill the increased demand.

 Expanding organizations: It implies that demand forecasting helps in deciding about

the expansion of the business of the organization. If the expected demand for products
 is higher, then the organization may plan to expand further. On the other hand, if the
demand for products is expected to fall, the organization may cut down the investment
in the business.

 Taking Management Decisions: It helps in making critical decisions, such as

deciding the plant capacity, determining the requirement of raw material, and
ensuring the availability of labor and capital.

 Evaluating Performance: Helps in making corrections. For example, if the demand

for an organization’s products is less, it may take corrective actions and improve the
level of demand by enhancing the quality of its products or spending more on
advertisements.

Basis of demand forecasting:

Level of forecasting :

Firm level : It refers to forecasting of demand by an individual firm for its products. Most
important category for a manager for taking important decisions related to marketing and
production.

Industry level: It refers to demand forecasting of a product in an industry as a whole. It

provides insights into the growth pattern of an industry, relative contribution of the industry
in national income.

Economy (Macro) level: It refers to forecasting of aggregate demand in the economy. It

helps in various policy formulations at government level.

Time period involved:

Short-term forecasting: It involves anticipating demand for a period not exceeding one year.
It is focused on the short term decisions (for example, arranging finance, formulating
production policy, making promotional strategies, etc.) of an organization.
Long-term forecasting: It involves predicting demand for a period of 5-7 years and may
extend for a period of 10 to 20 years. It is focused on the long-term decisions (for example,
deciding the production capacity, replacing machinery, etc.) of an organization.

Nature of products:

Consumer goods: The goods that are meant for final consumption by end users are called
consumer goods. These goods have a direct demand. Generally, demand forecasting for
these goods is done while introducing a new product or replacing the existing product with
an improved one.

Capital goods: These goods are required to produce consumer goods; for example,
machinery. Thus, these goods have a derived demand. The demand forecasting of capital
goods depends on the demand for consumer goods. For example, prediction of higher
demand for consumer goods would result in the anticipation of higher demand for capital
goods too.
DEMAND FORECASTING METHODS
SURVEY METHODS
Survey methods are the most commonly used methods of forecasting demand in the
short run. This method relies on the future purchase plans of consumers and their intentions
to anticipate demand. Thus, in this method, an organization conducts surveys with consumers
to determine the demand for their existing products and services and anticipate the future
demand accordingly. As consumers generally plan their purchases in advance, their opinions
and intentions may be sought to analyze trends in market demand.

Survey of Buyers’ Intentions Method: It is also known as consumers expectations or

opinions survey. It is commonly used method for sales forecasting. A sale is the result of
consumer intention to buy the product. Many companies conduct periodical survey of
consumers buying interest to know when and how much they will buy.

Census Method: The census method is also called as a Complete Enumeration Survey Method
wherein each and every item in the universe is selected for the data collection. The universe might
constitute a particular place of group of people or any specific locality which is the complete set of
items and which are of interest in any particular situation.

The census methods is most commonly used by the government in connection with the national
population, housing census, agriculture census, etc. where the vast knowledge about these fields is
required. Whenever the entire population is studied to collect the detailed data about every unit, then
the census method is applied.

Sample Methods: Useful data for forecasting demand can also be obtained from surveys of
consumer plans. Unlike the complete enumeration method, under the sample survey method, only a
few potential consumers from the relevant market selected through an appropriate sampling method
are interviewed. The survey may be conducted either through direct interview or mailed questionnaire
to the sample consumers.

SALES FORCE METHODS: Sometimes, it is called sales force estimate method. Company
can ask, either all or some of salesmen, to estimate demand for a given time. Each sales
representative estimates how much each current and prospective customer will buy the
company’s product. They are offered certain incentives to encourage them better estimate.

Here, for estimating the future demand, the company’s sales force opinions are taken
as a base. Since salesmen have direct and close contact with customers, competitors, dealers,
and overall market environment, they can provide more reliable estimates of the future sales.

STATISTICAL METHODS

Statistical method is used for long run forecasting. In this method, statistical and
mathematical techniques are used to forecast demand. This relies on past data.
 1. Trend projection method: These are generally based on analysis of past sales
patterns.These methods dispense with the need for costly market research because the
necessary information is often already available in company files. This method is used in case
the sales data of the firm under consideration relate to different time periods, i.e., it is a time –
series data. There are five main techniques of mechanical extrapolation.

a. Trend line by observation: This method of forecasting trend is elementary, easy and
quick. It involves merely the plotting of actual sales data on a chart and then estimating
just by observation where the trend line lies. The line can be extended towards a future
period and corresponding sales forecast is read form the graph.

b. Least squares methods: This technique uses statistical formulae to find the trend line
which best fits the available data. The trend line is the estimating equation, which can
be used for forecasting demand by extrapolating the line for future.
The equation for straight line trend is
S= a+bT
the value of “a” and “b are calculate by using the following two normal equations.

S= forecasted sale
T = year number for which sales being forecasted.
n = number of years of data given the problem.

c. Time series analysis: Where the surveys or market tests are costly and time
consuming, statistical and mathematical analysis of past sales data offers another
method to prepare the forecasts, that is, time series analysis. One major requirement to
administer this technique is that the product should have actively been traded in the
market for quite some time in the past.
The following are the four major components analyzed from time series while
forecasting the demand:
Tends (T): It also called the long term trend. The result of basic developments in the
population, capital formation and technology. These development relate to over a
period of long time say five to ten years, not definitely overnight. The trend is
considered statistically significant when it has reasonable degree of consistency. A
 significant trend is central and decisive factor considered while preparing a long range
forecast.
Cyclic Trend (C): It is seen in the wave like movement of sales. The sales data is quite
often affected by swings in the levels of general economic activity, which tend to be
somewhat periodic. These could be related to the business cycles in the economy such
as inflation or recession.
Seasonal Trend (S): It refers to a consistent pattern of sales movements within the
year. More goods are sold during the festival seasons. The seasonal component may
be related to weather factors, holidays, etc.
Erratic Trend (E): It results from the sporadic occurrence of strikes, riots, and so on.
These erratic components can even damage the impact of more systematic
components and thus make the forecasting process much more complex.

Classical time series analysis involves procedures for decomposing the original sales
series (Y) into the components T,C,S,E. There are different models in the time series
analysis. While one model states that these components interact linearly, that is,
Y = T+C+S+E, another model states that Y is the product of all these component that
is,

d. Moving average method: A moving average is a technique that calculates the overall
trend in sales volume from historical data of the company. This techniques is very
useful for forecasting short – term trends. It is simply the average of select time
periods. It called moving as a new demand number is calculated for an upcoming time
period.

Moving Average = (n1+n2+n3+ …….)/n

e. Exponential smoothing: It uses all the time series values to generate a forecast with
lesser weights given to the observations further back in time. Exponential smoothing
is actually a way of “smoothing” out the data by eliminating much of the “noise”(
random effects).

2. Barometric Technique: Simple trend projections are not capable of forecasting turning
points. Under Barometric method, present events are used to predict the directions of change
in future. This is done with the help of economics and statistical indicators. Those are (1)
Construction Contracts awarded for building materials (2) Personal income (3) Agricultural
Income. (4) Employment (5) Gross national income (6) Industrial Production (7) Bank
Deposits etc.
3 Correlation and regression methods: Correlation and regression methods are statistical
techniques. Correlation describes the degree of association between two variable such as
sales and advertisement expenditure. When the two variable tend to change together, then
they are said to be correlated.
Regression method: An equation is estimated which best fits in the sets of observations of
dependent variables and independent variables. The best estimate of the true underlying
relationship between these variables is thus generated. The dependent (unknown) variable is
the forecast based on this estimated equation for a given value of the independent (known)
variable. The method of least squares is applied most in regression.

4. Simultaneous equation method: Under simultaneous equation model, demand

forecasting involves the estimation of several simultaneous equations. These equations are
often the behavioral equations, market-clearing equations, and mathematical identities.

The regression technique is based on the assumption of one-way causation, which means
independent variables cause variations in the dependent variables, and not vice-versa. In
simple terms, the independent variable is in no way affected by the dependent variable. For
example, D = a – bP, which shows that price affects demand, but demand does not affect the
price, which is an unrealistic assumption.

Other methods

Expert opinion methods:

Well informed persons are called experts; experts constitute yet another source of
information. These persons are generally the outside experts and they do not have any vested
interest in the results of a particular survey. As expert is good at forecasting and analysis the
future trend in a given product or service at a given level of technology. The service of an
expert could be advantageously used when a firm uses general economic forecasting or
special industry forecasting prepared outside the firm.

Delphi Method: It refers to a group decision making technique of forecasting demand. In

this method, questions are individually asked from a group of experts to obtain their opinions
on demand for products in future. These questions are repeatedly asked until a consensus is
obtained.

In other words the Delphi method is a structured communication technique, originally

developed as a systematic, interactive forecasting method which relies on a panel of experts.

Advantages:

 Opportunities for large number of people to participate.

 Focus is on “ideas” rather than “individuals”.
 Anonymity for participants which make contributions of ideas as safe activity.
 Opportunities for participants to reconsider their opinions.
 Allows for identification of priorities.
Limitations:

 Large amount of time to conduct several rounds.

 The complexity of data analysis.
 The difficulty of maintaining participant enthusiasm throughout the process.
 The problem of keeping statements value free and clearly defined.
 Self-reporting data is subject to respondent biases and memories.

Test marketing:

It is likely that opinions given by buyers, salesman or other experts may be, at times,
misleading. This is the reason why most of the manufactures favour to test their product or
service in a limited market as test – run before they launch their product nationwide.

Controlled experiments:

Controlled experiments refer to such exercise where some of the major determinants
of demand are manipulated to suit to the customers with different tastes and preferences,
income groups, and such others. It is further assumed that all other factors remain the same.

Judgmental approach:

When none of the above methods are directly related to the given product or service, the
management has no alternative other than using its own judgment. Even when the above
methods are used, the forecasting process is supplemented with the factor of judgment for the
following reasons

 Historical data for significantly long period is not available

 Turning point in terms of policies or procedures or causal factors cannot be precisely
determined
 Sale fluctuation are wide and significant
 The sophisticated statistical techniques such as regression and so on, may not cover
all.