Other things equal, as price falls, the quantity demanded rises, and as price rises, the quantity demanded falls. Demand shows the quantities of a product that will be purchased at various possible prices, other things equal. In short, there is a negative or inverse relationship between price and quantity demanded. Economists call this inverse relationship the law of demand (MCConnell, Brue, & Flynn, 2009, p. 47). Basically, this means less is bought at higher prices, and more is purchased at lower prices. An example of the law of demand is how airlines respond to higher oil and jet fuel prices. Airlines needed to figure a way to buy less fuel but still offer the same number of flights. Airlines did this by buying more fuel-efficient planes; which made it possible to buy less fuel, devised a plan to fill all seats or at least more than previously, and changing operations to improve efficiency.
The result was raised seat-miles per gallon from 55 in 2005 to 60 in 2011 (Amadeo, 2014). Unfortunately, all other things were not equal during this time period, demand for jet fuel was further narrowed because the income of airlines also dropped at the simultaneously. The Global Financial Crisis and 2008 financial crisis meant that travelers not only needed but were also left with no other choice but to cut back on their demand for airline travel (Amadeo, 2014). Determinants of Demand
There are five main determinants of demand in reference to market demand: Tastes and Fashions: Tastes and fashions change and are also affected by advertising, trends, health considerations etc. Population: The size and makeup of the population affect demand. If there is a growing population more food is demanded. Income: As people’s income rises demand for goods and services rise too. Goods which obey this rule are called – Normal Goods. Expectations of future price changes: If people expect prices to rise in the near future they will try to beat the increase by buying early and vice versa. The number and price of related goods:
Substitutes – the higher the price of substitute goods, the higher the demand will be for this good. If the price of coffee rises then demand for tea will increase. Complements – as the price of complements rises, demand for the complement falls and so too will demand for the good in question. If the price of petrol rises then demand for cars will fall. Law of Supply
As price rises, the quantity supplied rises; as price falls, the quantity supplied falls. This relationship is called the law of supply. Other things equal, firms will produce and offer for sale more of their product at a high price than at a low price. This, again, is basically common sense. Supply is a schedule or curve showing the various amounts of a product that producers are willing and able to make available for sale at each of a series of possible prices during a specific period (MCConnell, Brue, & Flynn, 2009, p. 51). Beggs (2014), “Economic supply- how much of an item a firm or market of firms is willing to produce and sell- is determined by what production quantity maximizes a firm’s profits. The profit-maximizing quantity, in turn, depends on a number of different factors. For example, firms take into account how much they can sell their output for when setting production quantities. They might also consider the costs of labor and other factors of production when making quantity decisions (Supply and the Supply Curve). Economists break down the determinants of a firm’s supply into four categories: Price
Supply is then a function of these four categories (Beggs, 2014). In constructing a supply curve, we assume that price is the most significant influence on the quantity supplied of any product. But other factors (the “other things equal”) can and do affect supply. The supply curve is drawn on the assumption that these other things are fixed and do not change. If one of them does change, a change in supply will occur, meaning that the entire supply curve will shift. Determinants of Supply
The basic determinants of supply are:
taxes and subsidies,
prices of other goods,
producer expectations, and
the number of sellers in the market.
A change in any one or more of these determinants of supply, or supply shifters, will move the supply curve for a product either right or left (MCConnell, Brue, & Flynn, 2009, p. 47).
Efficient markets theory
The (now largely discredited) efficient markets theory says that all market participants receive and act on all of the relevant information as soon as it becomes available. If this were strictly true, no investment strategy would be better than a coin toss. Proponents of the efficient market theory believe that there is perfect information in the stock market. This means that whatever information is available about a stock to one investor is available to all investors (except, of course, insider information, but insider trading is illegal) (“Efficient Market Theory.investorwords.com”, 2014). According to Mishkin (1978), “the efficient markets theory implies that the macro-econometric models currently used for policy analysis and forecasting are deficient in a fundamental way.
The statement that prices fully reflect available information in an efficient market is so general that it is not empirically testable. Efficient market theory implies that no unexploited profit opportunities will exist in securities markets. In other words, at today’s price, market participants cannot expect to earn a higher than normal return by investing in that security” (p. 709). Surplus and Shortage
Surpluses, or excess supply, signify that the quantity of a good or service exceeds the demand for that particular good at the price in which the producers would wish to sell. This inefficiency is heavily linked in conditions where the price of a good is set too high, resulting in a diminished demand while the quantity available gains excess. Shortage is a term used to specify that the supply produced is below that of the quantity being demanded by the consumers. This disparity implies that the current market equilibrium at a given price is unfit for the current supply and demand relationship, noting that the price is set too low.
Amadeo, K. (2014). Law of demand: definition, explained, examples: law of demand explained using examples in the U.S. economy. Retrieved from https://www.useconomy.about.com/od/demand/a/aLaw-of-Demand.htm MCConnell, C. R., Brue, S. L., & Flynn, S. M. (2009). Economics: Principles, Problems, and Policies (18th ed.). Retrieved from The University of Phoenix eBook Collection database.. Beggs, J. (2014). The determinants of supply. Retrieved from http://economics.about.com/od/supply-and-the-supply-curve/ss/The-Determinants-Of-Supply.htm Efficient Market Theory.InvestorWords.com. (2014). Retrieved from http://www.investorwords.com/1672/Efficient_Market_Theory.html Mishkin, F. S. (1978). Efficient- Markets Theory: Implications for Monetary Policy. Brookings papers on economic activity, (3), 707-752. Boundless. “Impacts of Surpluses and Shortages on Market Equilibrium.” Boundless Economics. Boundless, 03 Jul. 2014. Retrieved 29 Nov. 2014 from https://www.boundless.com/economics/textbooks/boundless-economics-textbook/introducing-supply-and-demand-3/market-equilibrium-48/impacts-of-surpluses-and-shortages-on-market-equilibrium-180-12278/