The Law of Demand and Supply
The Law of Demand
If all other factors remain the same, the higher the price of the product or service the less people will demand of that product or service. More simply, the higher the price, the less the quantity demanded.
The reason for this is based on the opportunity cost of the good. Consumers will naturally avoid purchasing products and services that force them to give up another product or service they value more. For example, if you get R100 a week and usually spend R60 on food and use the other R40 on social activities, what would you decide to give up if you needed to purchase airtime for R30? Would you give up anything at all? What if you could only purchase R55 airtime because the R30 airtime was all sold out?
Consumers make various decisions based on the opportunity cost of certain products and services, as well as their personal attitude towards the relationship between price and quality demanded.
Another good way to see this relationship is the concept of sales and discounts. Sometimes a lower price forces customers to purchase more of a certain product or service.
The Law of Supply
The law of supply illustrates the quantities that are offered for sale at a certain price.
It is, in essence, the opposite of the law of demand as the higher the price of the product or service, the greater the quantity supplied of that particular product or service. Producers are willing to offer or supply more products and services at a higher price as it offers greater revenues.
The Equilibrium Price and Quantity
Equilibrium price is determined when the demand and supply curves are joined and intersect at a specific point. It is at this point that the allocation of goods and services are at its most efficient. Here, the amounts of goods or services that are being demanded are the same as the amount of goods or services that are being supplied. This means that suppliers are selling all the goods or services being produced and consumers are obtaining all the products and services they are demanding.
This is a state where there is excess demand or excess supply.
Excess Supply occurs when the price is too high and not enough demand has occurred. Suppliers produce more in order to sell and increase profits; however those that consume the products or services end up consuming less due to the price increase making the product or service less attractive.
Excess Demand occurs when the price is set below the equilibrium price. This means that too many consumers demand the product or service while suppliers are not providing enough. This ends up stabilising in the long run as the price will eventually increase due to the competition between consumers. This brings the price closer to the equilibrium.
Changes in Demand and Supply
Changes in demand and supply can occur as movements or shifts occur in either the amount demanded and or supplied.
Movements are changes that occur along the curve. For example, on a demand curve, a movement along the curve implies that the relationship of demand is consistent. This movement is generally due to changes in the price of the product or service affecting the price demanded. Similarly for supply where movements along the supply curve denote consistency in the supply relationship but the movement has occurred because of changes in the quantity supplied in relation to price changes. All other factors stay constant.
Shifts occur when the quantity demanded or supplied changes even though the price stays the same. This means that shifts occur due to changes in other factors, not price changes.
Demand curves are usually drawn on the theory that the following factors remain constant:
- Consumer’s Tastes
- Consumer’s Incomes
- Amount of consumer’s in the market
- Prices of related products and services
If one of the above factors changed, a shift in the demand curve would result. An increase in wine consumers would increase the demand for wine, thus causing a shift.
Supply curve shifts are affected by changes in the following factors:
- Input or Resource Prices
If a change occurred in the technology for producing wine, or the resource prices incurred in producing wine changed, there would be a change in the cost of producing wine and the supply curve would shift. These changes can either be positive changes or negative, either shifting the graph to the left or to the right.