he amount of a particular economic good or service that a consumer or group of consumers will

want to purchase at a given price. The demand curve is usually downward sloping, since
consumers will want to buy more as price decreases. Demand for a good or service is determined
by many different factors other than price, such as the price of substitute goods and
complementary goods. In extreme cases, demand may be completely unrelated to price, or nearly
infinite at a given price. Along with supply, demand is one of the two key determinants of the
market price.

Supply and demand is perhaps one of the most fundamental concepts of economics
and it is the backbone of a market economy. Demand refers to how much (quantity)
of a product or service is desired by buyers. The quantity demanded is the amount
of a product people are willing to buy at a certain price; the relationship between
price and quantity demanded is known as the demand relationship. Supply
represents how much the market can offer. The quantity supplied refers to the
amount of a certain good producers are willing to supply when receiving a certain
price. The correlation between price and how much of a good or service is
supplied to the market is known as the supply relationship. Price, therefore, is a
reflection of supply and demand.

The relationship between demand and supply underlie the forces behind the allocation of
resources. In market economy theories, demand and supply theory will allocate resources in the
most efficient way possible. How? Let us take a closer look at the law of demand and the law of
supply.

A. The Law of Demand

The law of demand states that, if all other factors remain equal, the higher the price of a good,
the less people will demand that good. In other words, the higher the price, the lower the quantity
demanded. The amount of a good that buyers purchase at a higher price is less because as the
price of a good goes up, so does the opportunity cost of buying that good. As a result, people will
naturally avoid buying a product that will force them to forgo the consumption of something else
they value more. The chart below shows that the curve is a downward slope.
A, B and C are points on the demand curve. Each point on the curve reflects a direct correlation
between quantity demanded (Q) and price (P). So, at point A, the quantity demanded will be Q1
and the price will be P1, and so on. The demand relationship curve illustrates the negative
relationship between price and quantity demanded. The higher the price of a good the lower the
quantity demanded (A), and the lower the price, the more the good will be in demand (C).

B. The Law of Supply

Like the law of demand, the law of supply demonstrates the quantities that will be sold at a
certain price. But unlike the law of demand, the supply relationship shows an upward slope. This
means that the higher the price, the higher the quantity supplied. Producers supply more at a
higher price because selling a higher quantity at a higher price increases revenue.

A, B and C are points on the supply curve. Each point on the curve reflects a direct correlation
between quantity supplied (Q) and price (P). At point B, the quantity supplied will be Q2 and the
price will be P2, and so on. (To learn how economic factors are used in currency trading, read
Forex Walkthrough: Economics.)
Time and Supply
Unlike the demand relationship, however, the supply relationship is a factor of time. Time is
important to supply because suppliers must, but cannot always, react quickly to a change in
demand or price. So it is important to try and determine whether a price change that is caused by
demand will be temporary or permanent.

Let's say there's a sudden increase in the demand and price for umbrellas in an unexpected rainy
season; suppliers may simply accommodate demand by using their production equipment more
intensively. If, however, there is a climate change, and the population will need umbrellas year-
round, the change in demand and price will be expected to be long term; suppliers will have to
change their equipment and production facilities in order to meet the long-term levels of demand.

C. Supply and Demand Relationship

Now that we know the laws of supply and demand, let's turn to an example to show how supply
and demand affect price.

Imagine that a special edition CD of your favorite band is released for $20. Because the record
company's previous analysis showed that consumers will not demand CDs at a price higher than
$20, only ten CDs were released because the opportunity cost is too high for suppliers to produce
more. If, however, the ten CDs are demanded by 20 people, the price will subsequently rise
because, according to the demand relationship, as demand increases, so does the price.
Consequently, the rise in price should prompt more CDs to be supplied as the supply relationship
shows that the higher the price, the higher the quantity supplied.

If, however, there are 30 CDs produced and demand is still at 20, the price will not be pushed up
because the supply more than accommodates demand. In fact after the 20 consumers have been
satisfied with their CD purchases, the price of the leftover CDs may drop as CD producers
attempt to sell the remaining ten CDs. The lower price will then make the CD more available to
people who had previously decided that the opportunity cost of buying the CD at $20 was too
high.

D. Equilibrium
When supply and demand are equal (i.e. when the supply function and demand function
intersect) the economy is said to be at equilibrium. At this point, the allocation of goods is at its
most efficient because the amount of goods being supplied is exactly the same as the amount of
goods being demanded. Thus, everyone (individuals, firms, or countries) is satisfied with the
current economic condition. At the given price, suppliers are selling all the goods that they have
produced and consumers are getting all the goods that they are demanding.
As you can see on the chart, equilibrium occurs at the intersection of the demand and supply
curve, which indicates no allocative inefficiency. At this point, the price of the goods will be P*
and the quantity will be Q*. These figures are referred to as equilibrium price and quantity.

In the real market place equilibrium can only ever be reached in theory, so the prices of goods
and services are constantly changing in relation to fluctuations in demand and supply.

E. Disequilibrium

Disequilibrium occurs whenever the price or quantity is not equal to P* or Q*.

1. Excess Supply
If the price is set too high, excess supply will be created within the economy and there will be
allocative inefficiency.

At price P1 the quantity of goods that the producers wish to supply is indicated by Q2. At P1,
however, the quantity that the consumers want to consume is at Q1, a quantity much less than
Q2. Because Q2 is greater than Q1, too much is being produced and too little is being consumed.
The suppliers are trying to produce more goods, which they hope to sell to increase profits, but
those consuming the goods will find the product less attractive and purchase less because the
price is too high.

2. Excess Demand
Excess demand is created when price is set below the equilibrium price. Because the price is so
low, too many consumers want the good while producers are not making enough of it.

In this situation, at price P1, the quantity of goods demanded by consumers at this price is Q2.
Conversely, the quantity of goods that producers are willing to produce at this price is Q1. Thus,
there are too few goods being produced to satisfy the wants (demand) of the consumers.
However, as consumers have to compete with one other to buy the good at this price, the demand
will push the price up, making suppliers want to supply more and bringing the price closer to its
equilibrium.

F. Shifts vs. Movement

For economics, the “movements” and “shifts” in relation to the supply and demand curves
represent very different market phenomena:

1. Movements
A movement refers to a change along a curve. On the demand curve, a movement denotes a
change in both price and quantity demanded from one point to another on
the curve. The movement implies that the demand relationship remains consistent. Therefore, a
movement along the demand curve will occur when the price of the good changes and the
quantity demanded changes in accordance to the original demand relationship. In other words, a
movement occurs when a change in the quantity demanded is caused only by a change in price,
and vice versa.
 Like a movement along the demand curve, a movement along the supply curve means that the
supply relationship remains consistent. Therefore, a movement along the supply
curve will occur when the price of the good changes and the quantity supplied changes in
accordance to the original supply relationship. In other words, a movement
occurs when a change in quantity supplied is caused only by a change in price, and vice versa.

2. Shifts
A shift in a demand or supply curve occurs when a good's quantity demanded or supplied
changes even though price remains the same. For instance, if the price for a bottle of beer was $2
and the quantity of beer demanded increased from Q1 to Q2, then there would be a shift in the
demand for beer. Shifts in the demand curve imply that the original demand relationship has
changed, meaning that quantity demand is affected by a factor other than price. A shift in the
demand relationship would occur if, for instance, beer suddenly became the only type of alcohol
available for consumption.

Conversely, if the price for a bottle of beer was $2 and the quantity supplied decreased from Q1
to Q2, then there would be a shift in the supply of beer. Like a shift in the demand curve, a shift
in the supply curve implies that the original supply curve has changed, meaning that the quantity
supplied is effected by a factor other than price. A shift in the supply curve would occur if, for
instance, a natural disaster caused a mass shortage of hops; beer manufacturers would be forced
to supply less beer for the same price.
The demand for a product is the quantity that buyers will be willing to purchase at a given price.
The supply of a good is the quantity that suppliers will be willing to bring to the market at given
prices.

The demand for air travel is in part determined by the prices charged. Over the last twenty years
the price of traveling by air has fallen substantially (in real terms) and with rising incomes far
more people are traveling abroad (and internally) than ever before. We can therefore say that the
demand for air travel has risen. At the same time we can see that the demand for other forms of
travel has fallen compared with previous centuries. For example, very few people today travel by
horse drawn carriage, and much fewer people cycle to work than was the case in Victorian times.

Supply chain

The supply of certain types of breakfast cereals by companies like Kellogg's has risen in recent
years in response to growing demand. This demands a level of market research. This is
particularly the case for healthy eating cereals such as variants of Special K. At the same time the
supply of certain consumer durable products has fallen as they have been replaced by more
sophisticated ones that better meet customer requirements. For example, the supply of
typewriters and black and white televisions have fallen, because it is more sensible for suppliers
to supply word processing computers, and colour television systems.

Demand, supply and price

A rise in demand for a particular product or service tends to exert an upward pressure on price.
However, if producers respond by supplying more to the market this may then go on to lead to a
fall in price, because producers are able to benefit from large scale production. The following
table illustrates some of the relationships between demand, supply and price:
even though the focus in economics is on the relationship between the price of a product and
how much consumers are willing and able to buy, it is important to examine all of the factors that
affect the demand for a good or service.

These factors include:

Price of the Product

There is an inverse (negative) relationship between the price of a product and the amount of that
product consumers are willing and able to buy. Consumers want to buy more of a product at a
low price and less of a product at a high price. This inverse relationship between price and the
amount consumers are willing and able to buy is often referred to as The Law of Demand.

The Consumer's Income

The effect that income has on the amount of a product that consumers are willing and able to buy
depends on the type of good we're talking about. For most goods, there is a positive (direct)
relationship between a consumer's income and the amount of the good that one is willing and
able to buy. In other words, for these goods when income rises the demand for the product will
increase; when income falls, the demand for the product will decrease. We call these types of
goods normal goods.

However, for some goods the effect of a change in income is the reverse. For example, think
about a low-quality (high fat-content) ground beef. You might buy this while you are a student,
because it is inexpensive relative to other types of meat. But if your income increases enough,
you might decide to stop buying this type of meat and instead buy leaner cuts of ground beef, or
even give up ground beef entirely in favor of beef tenderloin. If this were the case (that as your
income went up, you were willing to buy less high-fat ground beef), there would be an inverse
relationship between your income and your demand for this type of meat. We call this type of
good an inferior good. There are two important things to keep in mind about inferior goods.
They are not necessarily low-quality goods. The term inferior (as we use it in economics) just
means that there is an inverse relationship between one's income and the demand for that good.
Also, whether a good is normal or inferior may be different from person to person. A product
may be a normal good for you, but an inferior good for another person.

The Price of Related Goods

As with income, the effect that this has on the amount that one is willing and able to buy depends
on the type of good we're talking about. Think about two goods that are typically consumed
together. For example, bagels and cream cheese. We call these types of goods compliments. If
the price of a bagel goes up, the Law of Demand tells us that we will be willing/able to buy
fewer bagels. But if we want fewer bagels, we will also want to use less cream cheese (since we
typically use them together). Therefore, an increase in the price of bagels means we want to
purchase less cream cheese. We can summarize this by saying that when two goods are
complements, there is an inverse relationship between the price of one good and the demand for
the other good.

On the other hand, some goods are considered to be substitutes for one another: you don't
consume both of them together, but instead choose to consume one or the other. For example, for
some people Coke and Pepsi are substitutes (as with inferior goods, what is a substitute good for
one person may not be a substitute for another person). If the price of Coke increases, this may
make Pepsi relatively more attractive. The Law of Demand tells us that fewer people will buy
Coke; some of these people may decide to switch to Pepsi instead, therefore increasing the
amount of Pepsi that people are willing and able to buy. We summarize this by saying that when
two goods are substitutes, there is a positive relationship between the price of one good and the
demand for the other good.

The Tastes and Preferences of Consumers

This is a less tangible item that still can have a big impact on demand. There are all kinds of
things that can change one's tastes or preferences that cause people to want to buy more or less of
a product. For example, if a celebrity endorses a new product, this may increase the demand for a
product. On the other hand, if a new health study comes out saying something is bad for your
health, this may decrease the demand for the product. Another example is that a person may have
a higher demand for an umbrella on a rainy day than on a sunny day.

The Consumer's Expectations

It doesn't just matter what is currently going on - one's expectations for the future can also affect
how much of a product one is willing and able to buy. For example, if you hear that Apple will
soon introduce a new iPod that has more memory and longer battery life, you (and other
consumers) may decide to wait to buy an iPod until the new product comes out. When people
decide to wait, they are decreasing the current demand for iPods because of what they expect to
happen in the future. Similarly, if you expect the price of gasoline to go up tomorrow, you may
fill up your car with gas now. So your demand for gas today increased because of what you
expect to happen tomorrow. This is similar to what happened after Huricane Katrina hit in the
fall of 2005. Rumors started that gas stations would run out of gas. As a result, many consumers
decided to fill up their cars (and gas cans), leading to long lines and a big increase in the demand
for gas. This was all based on the expectation of what would happen.

The Number of Consumers in the Market

As more or fewer consumers enter the market this has a direct effect on the amount of a product
that consumers (in general) are willing and able to buy. For example, a pizza shop located near a
University will have more demand and thus higher sales during the fall and spring semesters. In
the summers, when less students are taking classes, the demand for their product will decrease
because the number of consumers in the area has significantly decreased.

Factors Affecting Demand

· The individual Demand Curve illustrates the price people are willing to pay for a particular
quantity of a good.

· The market demand curve will be the sum of all individual demand curves.
It shows the quantity of a good consumers plan to buy at different prices

· A change in price causes a MOVEMENT ALONG the Demand Curve,

· E.g. if there is an increase in price from p2 to p1 then there will be a fall in demand from Q2 to
Q1

Shifts in the Demand Curve

This occurs when, even at the same price, consumers are willing to buy a higher quantity of
goods. This will occur if there is a shift in the conditions of demand.
Diagram: Shift in Demand

A shift to the right in the demand curve can occur for a number of reasons:

1. An increase in disposable income, this can occur for a variety of reasons such as higher wages
and lower taxes

2. An increase in the quality of the good e.g. computers are now more powerful

3. Advertising can increase brand loyalty to the goods and increase demand

4. An increase in the price of substitutes, e.g. if the price of Kodak films increase the demand for
Fuji films will increase

5. A fall in the price of complements. E.g. a lower price of Play Station 2 will increase the
demand for compatible games.

6. Weather: In cold weather there will be increased demand for fuel and warm weather.

7. Expectations of future price increases.

Evaluation:

· For some luxury goods income will be an important determinant of demand. e.g. if your income
increased you would buy more CDs but probably not salt.

· Advertising is important for goods in which branding is important, e.g. coca cola but not for
bananas

Extra on Demand
· Effective demand: This occurs when a consumers desire to buy a good can be backed up by his
ability to afford it.

· Derived demand: This occurs when a good or factor of production such as labour is demanded
for another reason

· A giffen good is a good where an increase in price of a basic item leads to an increase in
demand, because very poor people cannot afford any other luxury goods.

· An ostentatious good, is a good where an increase in price leads to an increase in demand

because people believe it is now better.