Supply and demand explained simply: curves, equilibrium and real examples

TUREFF• •0

Supply and demand is the most basic model in economics, and it explains a surprising amount of everyday life: why concert tickets resell for more than face value, why strawberries are cheaper in summer, and why hotel prices jump during a big event. Here is how it works, without the jargon.

Demand: what buyers want

Demand describes how much of something people are willing and able to buy at different prices. The key idea is the law of demand: other things being equal, when the price of a good rises, people buy less of it, and when the price falls, they buy more. Why? At a higher price, some buyers switch to substitutes, some cut back, and some can no longer afford it at all. If coffee at your local café doubles in price, you might make it at home more often. On a graph, with price on the vertical axis and quantity on the horizontal axis, this gives a demand curve that slopes downwards from left to right.

Supply: what sellers offer

Supply describes how much producers are willing to sell at different prices. The law of supply says that, other things being equal, a higher price encourages producers to offer more, because selling becomes more profitable and it becomes worthwhile for more firms to produce. The supply curve therefore slopes upwards.

Equilibrium: where they meet

Where the two curves cross is the equilibrium: the price at which the amount buyers want to buy equals the amount sellers want to sell.

If the price is above equilibrium, sellers offer more than buyers want. There is a surplus, unsold stock piles up, and sellers tend to cut prices.
If the price is below equilibrium, buyers want more than is available. There is a shortage, queues form or items sell out, and prices tend to rise.

In a competitive market, these pressures push the price towards equilibrium. Real markets are messier, but the tendency is a useful guide.

Movements along a curve vs shifts of the curve

This is the distinction students most often mix up. A movement along the demand curve happens when the good's own price changes. A cheaper price leads to a higher quantity demanded; that is a slide along the same curve. A shift of the whole curve happens when something other than the price changes, so people want more or less at every price. Things that shift demand:

Income: when people earn more, they usually buy more of most goods.
Prices of related goods: if tea gets more expensive, demand for coffee (a substitute) may rise.
Tastes and trends: a viral recipe can increase demand for an ingredient.
Expectations: if people expect prices to rise next month, they may buy now.
The number of buyers, for example from population growth or tourism.

Things that shift supply:

Production costs, such as wages, energy and raw materials.
Technology that makes production cheaper or faster.
Weather and natural events, especially for farming.
Taxes and subsidies.
The number of sellers in the market.

Real examples

Seasonal fruit: in the harvest season, supply rises, the supply curve shifts right, and prices tend to fall. Out of season, supply is lower and prices are usually higher.
Event weekends: when a big festival comes to town, demand for hotel rooms shifts right while the number of rooms stays roughly fixed, so prices climb.
Concert tickets: when tickets are sold below the price fans would pay, demand exceeds supply. They sell out instantly and resale prices rise, which is the shortage described above.
New technology: as a product becomes cheaper to make, supply increases and prices tend to fall over time.

Elasticity in one paragraph

Some goods respond strongly to price changes and some barely at all. Demand for essentials with few substitutes, such as basic medicines or petrol in the short run, tends to be inelastic: people keep buying even when prices rise. Demand for luxuries or goods with many substitutes tends to be elastic. This helps explain why a supply disruption to an essential can cause a large price spike.

What the model leaves out

Supply and demand assumes many buyers and sellers, good information and no single player able to set prices. Monopolies, price controls, government regulation and behavioural quirks all complicate the picture. It is a starting point, not the whole story. What everyday price change would you like to see explained with supply and demand? Ask in the comments below.