Demand is the quantity that buyers wish to buy at each price. Other things equal, the lower
the price, the higher the quantity demanded. Demand curves slope down.
Supply is the quantity of a good sellers wish to sell at each price. Other things equal, the
higher the price, the higher the quantity. Supply curves slope upwards.
The market clears, or is in equilibrium, when the price equates the quantity supplied and the
quantity demanded. At this point supply and demand curves intersect. At prices below the
equilibrium price there is excess demand (shortage), which itself tends to raise the price. At
prices above the equilibrium price there is excess supply (surplus), which itself tends to
reduce the price. In a free market, deviations from the equilibrium price tend to be self correcting.
Along a given demand curve, the other things assumed equal are the prices of related
goods, consumer incomes and tastes or habits.
An increase in the price of a substitute good (or decrease in the price of a complement
good) will raise the quantity demanded at each price. An increase in consumer income will
increase demand for the good if the good is a normal good but decrease demand for the
good if it is an inferior good.
Along a given supply curve the other things assumed constant are technology, the price of inputs and the degree of government regulation. An improvement in technology, or a
reduction in input prices, will increase the quantity supplied at each price.
Any factor inducing an increase in demand shifts the demand curve to the right, increasing
equilibrium price and equilibrium quantity. A decrease in demand (downward shift of the
demand curve) reduces both equilibrium price and equilibrium quantity. Any factor
increasing supply shifts the supply curve to the right, increasing equilibrium quantity but
reducing equilibrium price. Reductions in supply (leftward shift of the supply curve) reduce
equilibrium quantity but increase equilibrium price.
To be effective, a price ceiling must be imposed below the free market equilibrium price. It
will then reduce the quantity supplied and lead to excess demand unless the government
itself provides the extra quantity required. An effective price floor must be imposed above
the free market equilibrium price. It will then reduce the quantity demanded unless the
government adds its own demand to that of the private sector.
