Supply and Demand

This section covers the following topics:

  • The demand curve
  • The supply curve
  • Market equilibrium
  • Price restrictions and taxes
  • Economic decision-making

Section Summary

Understanding of the forces of supply and demand is the foundation on which the rest of microeconomics is built.

The demand curve is downward sloping, because the cheaper something is, the more you buy. As prices rise, people tend to substitute related goods. Changes in price cause a movement along the demand curve, while changes in average income or other factors shift the demand curve. Demand changes depending on whether the good is normal or inferior.

The supply curve is upward sloping, because the more you can sell a good for, the more you will produce to sell. As the price rises, the opportunity cost of not selling increases. Again, there is a difference between movement along the supply curve and a shift in supply.

The equilibrium price is the price that equalizes supply and demand. When demand exceeds supply, prices will rise, causing supply to increase and demand to decrease. This process (which also works in reverse if supply exceeds demand) continues until the price reaches equilibrium.

Artificial limitations on price, such as price ceilings or price floors, can create surpluses or shortages of goods. Excise taxes and tariffs cause shifts in the supply curve and raise the price of a good, but keep supply and demand aligned.

Economic decision making, which is intended to maximize total utility, relies on an understanding of marginal utility. Utility is maximized when marginal utility per dollar for two goods is the same. The income and substitution effects help explain why the supply and demand curves are shaped the way they are.



What does it mean to demand something? In the economic sense, you demand a good or service when you are willing to pay all the costs required to get it. If you see a TV in a store you might want it, but only when you... Sign up to continue reading Supply and Demand >