Supply and Demand

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The law of supply and demand describes how prices will vary based on the balance between the supply of a product and the demand for that product (Wikipedia, 2005). If there is a balance between the supply, (the availability of the product), and the demand, (how much product the consumers want), then the price for the product would be considered good. If there is an imbalance, the price will change. According to Adam Smith, the invisible hand is a self-adjusting force in the market that corrects the price of a product through supply and demand (Colander, 2006).

When a product is in short supply and there is significant demand for the product, the price will increase (Colander, 2006). When the quantity of the product is greater than the demand, the price will decrease (Colander, 2006). This assumes there exist a competitive marketplace. This process of price variability based on the supply of a good and the demand for it will continue until a balance is once again reached (Wikipedia, 2005). At that point, equilibrium is said to be established between the supply and the demand.

Kirzner (2000) commented: "The theory of supply and demand is recognized almost universally as the first step toward understanding how market prices are determined." Furthermore, this theory also explains how the price of a product shapes production and consumption decisions (Kirzner, 2000).

Scarcity means there is less of something than is demanded or wanted (Investopedia Inc., 2005). For a nation, for example, scarcity may refer to natural resources, technology, labor, etc. Resources are always limited in one way or another, therefore, individuals, companies, and nations must make decisions related to what the scarce resources are.

Choice may involve a trade-off, for example, a worker needs more money, which he or she can obtain by working longer hours. The trade-off would be less leisure time, less family time. This is viewed as the opportunity cost in making the...
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