Supply and Demand Summary
The Law of Demand represents the movement up and down the SAME demand
curve and that movement is CAUSED by a change in the price of the product or
service. When the price goes lower, quantity demanded increases. When the
price goes higher, quantity demanded decreases. Thus, we can say that under
“The Law of Demand,” quantity demanded is price sensitive and the price has an
inverse relationship with quantity demanded.
The “Law of Demand” is triggered when there is a shift in the supply curve. For
example, an increase in the supply curve is a shift of the supply curve to the right
and it can ONLY happen from an external event (See the list I gave you). Perhaps
more firms entered the industry or there were technological advancements. If the
supply curve shifts to the right and the demand curve stays the same, a new
equilibrium at a lower price is established at a lower point on the demand curve
and that new lower price then TRIGGERS the “Law of Demand.” The Law of
Demand states that at a lower price, quantity demanded increases. That increase
in quantity demanded buys up the increase in quantity supplied that was caused
by the shift in the supply curve to the right (increase in supply) and that
establishes the new equilibrium. The Law of Demand makes sure that there is no
surplus of the product with the increase in supply. The new supply is all bought up
due to the lower price and the triggering of the Law of Demand. The new
equilibrium is now achieved.
Increase in Demand
An increase in demand is when quantity demanded increases WITHOUT
decreasing the price. Quantity demanded is increased by some EXTERNAL event
or trend. For instance, quantity demanded will increase if a product gets great
reviews. If a restaurant that gets great reviews, then more people will make
reservations. But the restaurant did not decrease its prices to have that happen.
In fact, the restaurant may raise its prices!
Law of Supply Versus a Change in Supply
The “Law of Supply” is also price sensitive just like the “Law of Demand.” It is the
movement up and down the SAME supply curve due to a change in price. If the
price of the product increases, then producers will then increase quantity
supplied. If the price of the product decrease, then producers will then decrease
quantity supplied.
The Law of Supply is triggered when there is an increase or decrease in demand.
There will be a shift of the demand curve to the right or the left. For instance,
there can be an increase in demand when a product becomes more popular. That
will cause a shift of the demand curve to the right. The shifting of the demand
curve to the right will move the curve to a new higher point on the supply curve.
The increase in price due to the increase in demand (shift to the right) then
triggers the “Law of Supply” and increases quantity supplied because suppliers
will supply more at that higher price. The increase in quantity supplied is a
reaction to a higher price. That is the Law of Supply. People are willing to pay
more for the product due to the increase in demand and that has caused an
increase in quantity demanded. Suppliers will then increase quantity supplied to
satisfy people’s increased demand (shift of the demand curve) because the price
is higher. The new increase in quantity demanded is satisfied by an increase in
quantity supplied through the “Law of Supply.” A new equilibrium is then
achieved where quantity demanded equals quantity supplied.
So, in conclusion,
When an external event shifts either the demand curve or the supply curve,
a change in price occurs.
When there is a change in price, the Law of Demand or the Law of Supply is
triggered depending on which curve shifts. The laws are reactions to the
change in price due to some external event that changed the price. They
are price sensitive. The Law of Demand or the Law of Supply then finish the
establishing of the new equilibrium where quantity supplied equals
quantity demanded.
THIS IS IT IN A NUTSHELL.
The best way to remember this information is to draw out the four possible
graphs on one piece of paper. There are only four possibilities:
1.
2.
3.
4.
Demand curve shifts to the left
Demand curve shifts to the right
Supply curve shifts to the left
Supply curve shifts to the right.
If you draw out those four and keep them in front of you, it will help you
understand the mechanisms between a change in demand and supply (shifts) and
the Laws of demand and supply (riding up and down the same curve) which then
establishes a new equilibrium.
After you draw the four graphs, this is what you will notice:
An increase in quantity demanded is a result of a lower price (price sensitive) on
the SAME DEMAND CURVE. The lower price will happen when the supply curve
shifts to the right forming a new equilibrium.
A decrease in quantity demanded is a result of a higher price (price sensitive) on
the SAME DEMAND CURVE. The higher price will happen when the supply curve
shifts to the left for some external reason forming a new equilibrium.
An increase in quantity supplied is a result of a higher price (price sensitive) on
the SAME SUPPLY CURVE. The higher price will happen when the demand curve
shifts to the right for some external reason forming a new equilibrium.
A decrease in quantity supplied is a result of a lower price (price sensitive) on the
SAME SUPPLY CURVE. The lower price will happen when the demand curve shifts
to the left for some external reason forming a new equilibrium.