Supply & Demand
Just the Facts
How do economists define demand?
Demand refers to the amount of a good or service that people are willing and able to buy at a specified price.
What is the difference between demand for a good and consumer interest in a good?
For economists, consumer interest in a good is broader and less reliable than actual demand for that good. People might have a vague interest in a good but neither the ability nor the willingness to actually purchase it at a specific price. In ascertaining demand, economists are looking for more precise information. They want to know how many people are actually willing and able to buy a good at a particular price.
What is the law of demand?
This fundamental economic principle states that as prices for a good or service rise demand falls, and as prices fall demand rises.
What factors influence demand?
Economists usually identify five main factors shaping demand: diminishing marginal utility, income, substitution goods, complementary goods, and consumer tastes.
What is diminishing marginal utility?
This is economic law stating that the amount of satisfaction derived from a particular good or service will diminish with each successive purchase of that good or service. The first donut you buy, for example, may satisfy your hunger, but each successive purchase will bring you less and less satisfaction.
How does income affect demand?
As incomes change demand changes. When a person’s income declines, his willingness and ability to purchase an item at a given price will also decline. When a person’s income increases, his willingness and ability to purchase an item at a given price will also increase.
What are substitution goods?
Substitution goods are goods that satisfy the same need as another good, such as Pepsi and Coke. When the price of one changes, demand for the other is affected.
What are complementary goods?
Complementary Goods are goods that go together or are related, such as cameras and film. Demand for one is linked to demand for the other. If the price of one increases, demand for the other will fall and vice versa.
How do consumer tastes affect demand?
As consumers’ tastes change, demand is affected. The demand for a particular item of clothing, for example, is highly sensitive to changing consumer tastes in fashion.
Is the demand for all goods equally sensitive to price changes?
No, the demand for some goods is less sensitive to price changes than others. Economists use the term “elasticity of demand” in referring to the price sensitivity of the demand for a particular good. If the demand for a good is sensitive to price changes, it is called elastic. If the demand for a good is not sensitive to price changes, it is called inelastic.
Why is the demand for some goods inelastic?
If a good is essential and we cannot do without it, demand for the good will remain constant regardless of changes in price. Medicine and milk are basic necessities; we will buy them even if the price rises. We will also continue to buy products if there is no substitute or alternative for that product. We can’t substitute water for gasoline; face power is white but it is no substitute for salt. And if a good is cheap, we will buy it even if its price rises. We would spring for a box of matches, even if the price jumped from 79 cents to $1.25.
How do economists define supply?
Supply refers to the amount of a good or service that producers are willing and able to supply at a specified price.
What is the law of supply?
This fundamental economic principle states that as prices for a good or service rise supply increases, and as prices fall supply decreases.
What factors influence supply?
Supply is influenced by several factors: production costs, technology, the number of competitors, and the expectations of producers.
What is the “equilibrium price?”
This is the price where the amount producers are willing and able to supply converges with the amount consumers are willing and able to purchase. In other words, the equilibrium price is where supply and demand meet and prices settle. If suppliers ignore demand, and continue to produce units and price them too high, they will not be purchased. Instead they will sit in warehouse. If they produce too few, demand will go unmet and consumers will demand for more.