Supply and Demand

Demand

Demand - Quantity of a good or service that consumers are willing and able to buy at a given price in a given time period.

Effective Demand - When a desire to buy a product is backed up by an ability to pay.

Derived Demand - The demand for a factor of production used to produce another good or service, e.g. steel.

Law of Demand

Downward sloping/inverse relationship

The Income Effect - When the price of a normal good falls, ceteris paribus, the consumer can maintain the same consumption for less expenditure, increasing 'real income'.

The Substitution Effect - When the price of a good falls, ceteris paribus, the product is now relatively cheaper than an alternative and some consumers switch their spending from the alternative.

Non-Price Factors Influencing Demand (1)

Health benefits

Fashion/trends

Influencers/media

Quality

Promotion/marketing

Durability

Non-Price Factors Influencing Demand (2)

Religion/morality

Interest rates

Change in distribution of income

Change in the size and age structure of a population

Seasonal factors

Convenience/accessibility

Supply

Supply - Quantity of a good or service that producers are willing and able to supply at a given price in a given time period.

Law of Supply

Upward sloping/positive relationship

The Profit Motive - When market price rises following an increase in demand, it becomes more profitable for businesses to increase their output.

Production and Costs - When output expands, production costs tend to rise; so, a higher price is needed to cover extra costs.

New Entrants into the Market - Higher prices may create an incentive for other businesses to enter the market, leading to an expansion of supply.

Non-Price Factors Influencing Supply (1)

Change in the unit costs of production

Change in exchange rate

Level of productivity

Advancements in technology

New producers

Non-Price Factors Influencing Supply (2)

Weather conditions

Taxation

Subsidies

Regulations

Excess Demand

Quantity demanded > available supply

Happens when the current market price is set below the equilibrium price

Results in queuing and an upward pressure on price

Higher prices ration demand to consumers with effective demand

Higher prices - in theory - stimulate an expansion of supply as producers respond to higher prices

Excess Supply

A state of disequilibrium in a market

When supply > demand and there are unsold goods (sometimes called a 'glut')

Surpluses put downward pressure on the market price

As prices fall, there is an expansion of demand which cuts the surplus and takes the market towards equilibrium

The Price Mechanism

Signalling - Prices adjust to demonstrate where resources are required. Prices rise and fall to reflect scarcities and surpluses.

Incentives - Consumers send information about changing wants and needs through choice. Higher prices act as an incentive to raise output as suppliers stand to make a better profit.

Rationing - Prices ration scarce resources when demand outstrips supply. When there is a shortage, price is bid up - leaving only those with a willingness and ability to pay to purchase a product.