Supply and Demand Basics

Supply and demand are the fundamental forces that determine prices in a market economy.

The Law of Demand

As price increases, quantity demanded decreases (and vice versa), all else being equal.

Demand Curve

• Downward sloping
• Shows relationship between price and quantity demanded
• Shifts due to: income changes, preferences, related goods prices

The Law of Supply

As price increases, quantity supplied increases (and vice versa), all else being equal.

Supply Curve

• Upward sloping
• Shows relationship between price and quantity supplied
• Shifts due to: production costs, technology, number of sellers

Market Equilibrium

The point where supply equals demand:

• Equilibrium price: Price where Qd = Qs
• Equilibrium quantity: Quantity traded at equilibrium
• Market naturally moves toward equilibrium

Disequilibrium

Surplus: Qs > Qd (price too high)

• Pressure to lower prices
• Excess inventory

Shortage: Qd > Qs (price too low)

• Pressure to raise prices
• Not enough goods

Elasticity

Price Elasticity of Demand

Measures responsiveness of quantity demanded to price changes:

• Elastic: PED > 1 (luxury goods)
• Inelastic: PED < 1 (necessities)
• Unit elastic: PED = 1

Real-World Applications

• Setting optimal prices
• Predicting market responses to policy changes
• Understanding consumer behavior
• Analyzing market dynamics

Mastering supply and demand is essential for understanding how markets allocate resources.