Supply and Demand

Definition

Supply and demand are fundamental economic concepts that describe the relationship between the quantity of a good or service available in the market (supply) and the desire of consumers to purchase it (demand). When demand increases and supply remains unchanged, prices tend to rise, while if supply increases and demand remains unchanged, prices typically fall. This interaction between supply and demand influences market equilibrium, where the quantity supplied equals the quantity demanded.

5 Must Know Facts For Your Next Test

1. In a competitive market, an increase in demand typically results in higher prices if supply does not change, while an increase in supply usually leads to lower prices if demand remains constant.
2. The demand curve slopes downward, showing that as prices decrease, consumers are willing to buy more of a good or service.
3. The supply curve slopes upward, indicating that as prices rise, producers are willing to offer more of a good or service for sale.
4. Government interventions, such as price ceilings and floors, can disrupt the natural balance of supply and demand, causing surpluses or shortages.
5. Changes in external factors like technology, consumer preferences, or input costs can shift both supply and demand curves, impacting overall market dynamics.

Review Questions

• How does a shift in consumer preferences impact the supply and demand for a product?
  • When consumer preferences shift towards a particular product, the demand for that product increases. This shift causes the demand curve to move to the right, leading to higher prices if supply remains constant. Producers may respond by increasing their output to meet this new demand. Conversely, if preferences shift away from a product, demand decreases, which can result in lower prices and reduced production.
• Analyze how government interventions like price ceilings can affect market equilibrium in terms of supply and demand.
  • Price ceilings set below the market equilibrium price can create shortages because they prevent prices from rising to their natural levels. When the price is capped, more consumers want to buy the product at the lower price, increasing demand while suppliers are discouraged from providing enough goods due to reduced profitability. This imbalance leads to long lines, waiting lists, or rationing of the goods subject to price ceilings.
• Evaluate the long-term impacts of persistent mismatches between supply and demand on an economy's growth.
  • Persistent mismatches between supply and demand can hinder economic growth by creating inefficiencies in resource allocation. For example, if there is chronic overproduction leading to excess supply, businesses may incur losses, which could reduce investments and job creation. Alternatively, consistent shortages can lead to inflated prices and unmet consumer needs. These situations can destabilize markets and diminish overall economic welfare, ultimately impacting long-term growth potential.

Related terms

Market Equilibrium:

The point at which the quantity of a good or service supplied equals the quantity demanded, resulting in a stable market price.

Elasticity:

A measure of how much the quantity demanded or supplied of a good responds to changes in price, reflecting consumer sensitivity.

Price Ceiling:

A government-imposed limit on how high a price can be charged for a good or service, often leading to shortages when set below equilibrium price.