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Definition of Derived Demand:
Derived demand is the demand for a factor of production. It is determined by the demand for the final good or service produced.
Factors of production are the resources used in the ongoing production of goods or services, including
labor, capital, land, and entrepreneurial vision and talent. Factors of production have a derived demand, meaning their demand is directly related to the demand for the final product produced. For example, if the demand for automobiles increases, companies will need more workers, so the demand for labor will also increase. The demand for labor is "derived" from the demand for cars.
Hurricane Katrina caused more than $81 billion in damage to the Gulf Coast in August 2005. The demand for new homes and repaired infrastructure was enormous. The work and higher wages drew construction workers to the area. The demand for lumber and other natural resources used to build homes and infrastructure skyrocketed. In this example, the demand was for new homes, buildings, and infrastructure. The derived demand was for the labor and natural resources used to produce the new homes and infrastructure.
Why is the demand for all items sold in the factor market derived? The factor market—sometimes called the input market—is where a business buys the items used to produce the goods or services it sells. Ultimately, it is the demand for the final product that determines the amount a business is willing to produce. Since the factor market provides the resources needed to produce the final product, the demand for each factor is “derived” from the demand for the final product.
Dig Deeper With These Free Lessons:
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