The law of supply and demand represents the interaction between manufacturers and consumers. This theory shows how these two concepts are interlinked, and the price of a product can affect its sales. The supply-demand curve represents this concept in a graphical manner for better understanding.
Supply and demand law are one of the fundamentals of economics that is related to almost every principle of economics. Moreover, this supply-demand principle also affects the equilibrium prices of a product and often determines its price. However, there are various reasons that can affect this principle.
Shift in Supply Demand Curve
If there are any changes in this curve, it has a direct effect on market equilibrium. Here are some notable factors that can affect supply and demand –
1. Change of Demand
The demand for a product changes due to one of the following factors –
Per capita income
Value of the essential commodities
Value of substitute items
Forecast of change in prices
2. Change in Supply
Supply of an item alters owing to the following reasons –
Number of manufacturers
Aim of the companies
Cost of factors of production
Cost of competitive products
Expectation of future price change
This offers a brief idea about the major factors that have an effect on supply and demand. However, to understand this concept in detail, one must understand how a market reacts when both supply and demand curve shifts.
When Demand Changes
Increase in demand and decrease in demand plays a crucial role in determining the price of a product. Here is a detailed discussion regarding that –
When supply remains constant, but the demand surges, it tends to shift the demand curve rightwards. If the demand for a product steadily rises, it ultimately affects the equilibrium price. Therefore, this price rise also increases competition among buyers, which also hikes the price of a product.
On the flip side, this rise in price serves as an incentive to the manufacturers. They will then increase production and supply that will result in falling demand. A point to note here is that this process stays operational until a new equilibrium is set. Resultantly, there is a hike in both the equilibrium price and quantity.
Similarly, if the supply remains constant, and demand for a product plummets, the demand curve will shift towards the left. In a situation like this, a condition of excess supply occurs at the equilibrium level. This situation leads to a competition between sellers, who want to sell their products due to this fall of prices.
Alternatively, once a product’s prices go down its market demand increases. This demand then leads to an increase in supply and manufacturing. This process then continues till a new equilibrium is in place. Resultantly, there is a reduction in the equilibrium price as well as quantity.
When Supply Changes
Supply-demand curve also observes a shift when there is any alteration in the supply of a product. Here are two phenomena regarding that –
When demand remains constant with a change in supply, it tilts the supply curve towards right. Therefore, when the supply of a product rises its demand at the equilibrium level also increases. This situation leads to a competition among sellers, which results in a drop in prices of a product.
Moreover, this lowering of prices also increases the demand for a product in the market, which also affects its production. This process continues till a new equilibrium is found, and at that point, the price of a product decreases and its quantity increases.
Similarly, when the demand of a product remains constant, but its supply plunges, it shifts the supply curve towards left. This reduction of supply creates an excess demand at the equilibrium level, which results in an increase in the price.
Contrarily, this price hike will be accompanied by a lowering of demand and excess supply. This process will also carry on until a new equilibrium is found. Thus, the equilibrium price of a product will rise, but its quantity will fall.
Change of Both Supply and Demand
The market situation is more complicated than the above-mentioned increase and decrease in supply and demand. Usually, supply and demand do not alter individually; instead, they change simultaneously. Here are four such occasions that arise in the real world –
Demand decreases and supply decreases
Demand increase and supply increases
Supply increase but demand decreases
Supply decreases and demand increases
A supply-demand curve is a pictorial representation of this discussion. This chapter of modern economics is vital for individuals to learn as it can help them comprehend the basis of economics. On e-learning platforms like Vedantu, they can access relevant study materials of this chapter. Also, they can register for an online class and doubt clearing session to enhance their preparations further.