What will happen to equilibrium market price and quantity if increase in supply decrease in demand?

Consider a farmers market, where the farmers are selling cantaloupes. On the first day, they offer their cantaloupes for $5 apiece, but few people buy them, so as the end of the day draws near, the farmers find that they have a surplus of cantaloupes. Consequently, the farmers drop the price of their cantaloupes to $1, quickly selling their surplus. For most products, as their price increases, the supply increases but the demand decreases. If the sellers raise their price too high, where the demand is less than what they have to offer, then they will have a surplus that will force them to lower their price until they can sell their entire supply.

On the other hand, if the sellers set their price too low, then they will sell their entire supply before they can satisfy the demands of the market, thereby causing a shortage for the buyers and lesser profits or greater losses for the sellers. Some people who wanted to buy the product will be unable to obtain it. Surpluses and shortages reduces the allocative efficiency of the economy, because the distribution of goods and services is less than optimal.

Supply increases with prices because the suppliers earn greater profits and can easily cover their costs; higher prices increase the producer surplus for the sellers. Demand increases with lower prices because the products become more affordable and the buyers get more value for their money, i.e. consumer surplus. Because people only buy a product if the benefit at least equals its cost, and because people's preferences vary widely, a lower product price will have a benefit worth the cost for more people, thus increasing demand. This is why when demand and supply quantities are plotted according to price, the supply curve moves upward with price, while the demand curve moves downward with price. When the amount demanded equals the amount supplied, then market equilibrium (aka supply-demand equilibrium) is achieved, where the quantity equals the equilibrium quantity and the price equals the equilibrium price. Furthermore, if prices are different from the equilibrium price, then the law of supply and demand states that the price of any product will adjust until the supply equals the demand.

In the short term, supply is inelastic. For instance, if farmers bring their product to market, then they have a specific quantity to sell, and they cannot change that quantity while they are at the market, so allocation efficiency is maximized only if the right price is set. If sellers price their product too low, then they may not be able to provide the quantity demanded by the buyers, since buyers demand more at lower prices, resulting in a supply shortage. If sellers price their product too high, then they will not be able to sell all that they have, since buyers demand less at higher prices, resulting in a supply surplus. In either case, sellers must adjust their price toward the market equilibrium price to maximize profits. The market equilibrium price is the highest price that sellers can charge and still be able to sell all that they have, with no surplus or shortage.

In a highly competitive market, sellers must set the price of their product so that they can sell what they have. Hence, prices have a rationing function in that those sellers willing to sell at the equilibrium price will be able to sell all their product, while buyers willing to pay the equilibrium price will be able to buy all they want. Sellers, who are unable or unwilling to sell their product for the equilibrium price, will stop producing it. Likewise, only the buyers who are willing to pay the equilibrium price will get the product. Those who do not desire the product as much will be unwilling to pay the equilibrium price. This is how the resources of an economy are allocated to produce the most desirable products.

How Market Equilibrium Changes in Response to Non-Price Changes in Supply and Demand

Although prices change both supply and demand quantities, demand and supply determinants other than prices can also change either demand or supply, in which case, they will also change the market equilibrium. If only prices change, then the law of supply and demand will cause both quantity and price to revert back to the equilibrium. However, if other determinants causes changes in either demand or supply, then the market equilibrium also changes, because either the demand curve or the supply curve or both shifts.

Supply determinants other than prices include the prices of the factors of production used to create the product, technology, taxes and subsidies, number of sellers, price expectations, and the prices of other related goods. If supply determinants increase supplies, while the demand remains constant, then the equilibrium price will decline, because it must adjust to the new, higher equilibrium quantity, which can only be sold at lower prices. Supply determinants that decrease supplies will cause the equilibrium price to rise, since it will take fewer buyers to buy the product at the higher price and only those willing to pay the higher price will buy it.

Demand determinants other than price include consumer preferences, income, prices of substitutes and complements, and the number of buyers. If the supply remains constant, but non-price demand determinants increase demand, then the equilibrium price will rise, since the equilibrium quantity will also increase, and the suppliers will only supply more product at a higher price. Likewise, if demand decreases because of factors other than price, then the equilibrium price will decline, since suppliers will only be able to sell the new, lower equilibrium quantity of their product.

These diagrams shows how changes in non-price demand and supply determinants can change the market equilibrium. In the first diagram, the supply curve shifts rightward, from

, representing an increase in supply caused by non-price supply determinants, causing the equilibrium price to decline from P1 to P2 and the equilibrium quantity to increase from Q1 to Q2. In the 2nd diagram, it is the demand curve that shifts rightward, from
D1
to
D2
, representing an increase in demand from demand determinants other than price, causing the equilibrium price to increase from P1 to P2 and the equilibrium quantity to increase from Q1 to Q2. Note that if the supply curve shifts leftward, from

, then the equilibrium price moves from P2 to P1 and the equilibrium quantity moves from Q2 to Q1; likewise, when the demand curve shifts from

If non-price determinants change both supply and demand, then how the market equilibrium will change will depend on how much the supply changes compared to the demand changes. If the change in supply exceeds the change in demand, then the same analysis applied to shifts in the supply curve while the demand remained constant applies here also. If the change in demand exceeds the change in supply, then the market equilibrium changes in the same direction as when the supply was held constant.

A good example of the economics of supply and demand can be found in how tickets are sold. When promoters of big events want to sell tickets, they price their tickets so that they can sell enough to fill the available seats. However, there are always some people willing to pay more, especially after the tickets have been sold out. Ticket scalpers seek to satisfy the needs of these people by providing tickets at higher prices. Like the big event promoters, ticket scalpers want to be able to sell all that they have — otherwise, they will have unsold tickets that will reduce their profits by the amount paid for the unsold tickets. Although some people consider scalping unethical, and in some places, it is even illegal, the ticket scalpers are simply providing a service to people who really want to see the event but were unable to get tickets for one reason or another. Although the late buyers are paying higher prices, they are willing to pay the higher prices to see the event. If ticket scalpers did not earn a profit, then they would not provide the service. Profit, after all, is the objective of most businesses.

In order to continue enjoying our site, we ask that you confirm your identity as a human. Thank you very much for your cooperation.

If you're seeing this message, it means we're having trouble loading external resources on our website.

If you're behind a web filter, please make sure that the domains *.kastatic.org and *.kasandbox.org are unblocked.

The law of supply and demand is an economic theory that explains how supply and demand are related to each other and how that relationship affects the price of goods and services. It's a fundamental economic principle that when supply exceeds demand for a good or service, prices fall. When demand exceeds supply, prices tend to rise.

There is an inverse relationship between the supply and prices of goods and services when demand is unchanged. If there is an increase in supply for goods and services while demand remains the same, prices tend to fall to a lower equilibrium price and a higher equilibrium quantity of goods and services. If there is a decrease in supply of goods and services while demand remains the same, prices tend to rise to a higher equilibrium price and a lower quantity of goods and services.

The same inverse relationship holds for the demand for goods and services. However, when demand increases and supply remains the same, the higher demand leads to a higher equilibrium price and vice versa.

Supply and demand rise and fall until an equilibrium price is reached. For example, suppose a luxury car company sets the price of its new car model at $200,000. While the initial demand may be high, due to the company hyping and creating buzz for the car, most consumers are not willing to spend $200,000 for an auto. As a result, the sales of the new model quickly fall, creating an oversupply and driving down demand for the car. In response, the company reduces the price of the car to $150,000 to balance the supply and the demand for the car to reach an equilibrium price ultimately.

Increased prices typically result in lower demand, and demand increases generally lead to increased supply. However, the supply of different products responds to demand differently, with some products' demand being less sensitive to prices than others. Economists describe this sensitivity as price elasticity of demand; products with pricing sensitive to demand are said to be price elastic. Inelastic pricing indicates a weak price influence on demand. The law of demand still applies, but pricing is less forceful and therefore has a weaker impact on supply.

Price elasticity of a product may be caused by the presence of more affordable alternatives in the market, or it may mean the product is considered nonessential by consumers. Rising prices will reduce demand if consumers are able to find substitutions, but have less of an impact on demand when alternatives are not available. Health care services, for example, have few substitutions, and demand remains strong even when prices increase.

While the laws of supply and demand act as a general guide to free markets, they are not the sole factors that affect conditions such as pricing and availability. These principles are merely spokes of a much larger wheel and, while extremely influential, they assume certain things: that consumers are fully educated on a product, and that there are no regulatory barriers in getting that product to them.

If consumer information about available supply is skewed, the resulting demand is affected as well. One example occurred immediately after the terrorist attacks in New York City on September 11, 2001. The public immediately became concerned about the future availability of oil. Some companies took advantage of this and temporarily raised their gas prices. There was no actual shortage, but the perception of one artificially increased the demand for gasoline, resulting in stations suddenly charging up to $5 a gallon for gas when the price had been less than $2 a day earlier.

Likewise, there may be a very high demand for a benefit that a particular product provides, but if the general public does not know about that item, the demand for the benefit does not impact the product's sales. If a product is struggling, the company that sells it often chooses to lower its price. The laws of supply and demand indicate that sales typically increase as a result of a price reduction – unless consumers are not aware of the reduction. The invisible hand of supply and demand economics does not function properly when public perception is incorrect.

Supply and demand also do not affect markets nearly as much when a monopoly exists. The U.S. government has passed laws to try to prevent a monopoly system, but there are still examples that show how a monopoly can negate supply and demand principles. For example, movie houses typically do not allow patrons to bring outside food and beverages into the theater. This gives that business a temporary monopoly on food services, which is why popcorn and other concessions are so much more expensive than they would be outside of the theater. Traditional supply and demand theories rely on a competitive business environment, trusting the market to correct itself.

Planned economies, in contrast, use central planning by governments instead of consumer behavior to create demand. In a sense, then, planned economies represent an exception to the law of demand in that consumer desire for goods and services may be irrelevant to actual production.

Price controls can also distort the effect of supply and demand on a market. Governments sometimes set a maximum or a minimum price for a product or service, and this results in either the supply or the demand being artificially inflated or deflated. This was evident in the 1970s when the U.S. temporarily capped the price of gasoline around under $1 per gallon. Demand increased because the price was artificially low, making it more difficult for the supply to keep pace. This resulted in much longer wait times and people making side deals with stations to get gas.

While we've mainly been discussing consumer goods, the law of supply and demand affects more abstract things as well, including a nation's monetary policy. This happens through the adjustment of interest rates. Interest rates are the cost of money: They are the preferred tool for central banks to expand or decrease the money supply.

When interest rates are lower, more people are borrowing money. This expands the money supply; there is more money circulating in the economy, which translates to more hiring, increased economic activity, and spending, and a tailwind for asset prices. Raising interest rates leads people to take their money out of the economy to put in the bank, taking advantage of an increase in the risk-free rate of return; it also often discourages borrowing and activities or purchases that require financing. This tends to decrease economic activity and put a damper on asset prices.

In the United States, the Federal Reserve increases the money supply when it wants to stimulate the economy, prevent deflation, boost asset prices, and increase employment. When it wants to reduce inflationary pressures, it raises interest rates and decreases the money supply. Basically, when it anticipates a recession, it begins to lower interest rates, and it raises rates when the economy is overheating.

The law of supply and demand is also reflected in how changes in the money supply affect asset prices. Cutting interest rates increases the money supply. However, the amount of assets in the economy remains the same but demand for these assets increases, driving up prices. More dollars are chasing a fixed amount of assets. Decreasing the money supply works in the same way. Assets remain fixed, but the number of dollars in circulation decreases, putting downward pressure on prices, as fewer dollars are chasing these assets.