1.2.3 Markets and Equilibrium

Markets and Equilibrium

Key Definitions

Demand Curve: A line that shows the demand for a product or service when offered at different prices

Supply Curve: The line showing the quantity of goods that a firm wants to supply at a given price - the higher the price, the greater the supply. 

Equilibrium: The point in which supply and demand balance each other out to make the prices of the products stable.

Commodity Markets: Markets that cover undifferentiated products, in which every "kilo" is the same enabling traders of the resource to trade easily and without worry.

Market Price: The price of a commodity that has been established by the market in a situation where the supply is equal to the demand

Drawing a Supply-Demand Curve

A demand curve can only be drawn once evidence about the likely level of sales at different prices has been gathered. Once the evidence has been gathered and the curve has been drawn, then the business can work out what the right price to charge for the product is. This can be put with a supply curve to find what the most profitable combination of price and demand would be. An example of a supply-demand curve is below: 

The Interaction of Supply and Demand

The interaction between supply and demand is a highly important factor in many decisions made by businesses. Supply and demand has a huge impact on the price of goods, such as with oil. When oil supplies were low in 2008, the high demand for oil from China pushed the price up to $120 per barrel of oil. By 2010 a rise in supply and a recession-influenced decrease in demand allowed oil prices to slip back down to $65 per barrel. The table below shows how supply and demand impacts the price of products:

	The Impact of Supply upon Price
	Supply Down	Supply the Same	Supply Up
Demand Up	Price Up Sharply	Price Up	Price Unchanged
Demand Stays The Same	Price Up	Price Stays The Same	Price Down
Demand Down	Price Stays The Same	Price Down	Price Down Sharply

A well-run business is a business that is sensitive to changes in demand. The managers of this business are able to realise that demand is complex, and something that is an ever changing factor in business management. Most businesses will not only face variations in sales on a daily basis, but also seasonal variations too. If a business is close to its customers then they would make sure that seasonal variations do not cause any surprises. 

The best way to meet varying demand is to anticipate it by having a varying supply of stock in place, and a well managed system in place. Toy shops buy in extra supplies of stock and hires additional temporary staff in September to ensure that there is plenty of stock and staff are well-trained before the Christmas rush. 

Reaching Equilibrium

Equilibrium is reached when the supply of a product and the demand of a product "balance" each other out. In theory, markets are supposed to stabilize at equilibrium, with higher prices pulling forward more of a supply and bringing the price back down again. The same happens for lower prices, as the demand increases which pushes the price higher again. 

The Human Factor

It is important to remember that there is still the human factor involved, as markets are governed by people's decisions. When prices rise, speculators see opportunities - some of these are wealthy householders, so they decide that they want to buy a second home in order to take advantage of rising house prices after an economic crash. When speculators get involved there is the chance that higher prices can attract more demand instead of less, which creates the risk of a speculative bubble, something that can potentially create a crash when the bubble bursts. It happened in 1929; it happened in 1999; it happened in 2007; history suggests that it is inevitable that another economic crash will happen.