Microeconomics Foundations (ECON 101) · Module 2 of 9
Supply & Demand Fundamentals
The two curves that set prices, what shifts them, and how a market finds its balance.
The Law of Demand & Demand Curve Shifters
- The law of demand states that, all else equal, as price rises, quantity demanded falls, creating a downward-sloping demand curve.
- A change in the good's own price causes a movement along the demand curve; a change in income, tastes, prices of related goods, expectations, or the number of buyers shifts the entire curve.
If consumer income rises and a good is a normal good, what happens to its demand curve?
Solution. The demand curve shifts to the right (demand increases), since consumers with more income want to buy more of a normal good at every price.
The Law of Supply & Supply Curve Shifters
- The law of supply states that, all else equal, as price rises, quantity supplied rises, creating an upward-sloping supply curve.
- A change in input costs, technology, the number of sellers, expectations, or prices of related goods in production shifts the entire supply curve.
If the cost of a key input used to produce a good rises, what happens to that good's supply curve?
Solution. The supply curve shifts to the left (supply decreases), since producers are willing to supply less at every price when their production costs rise.
Market Equilibrium
- Equilibrium occurs where the supply and demand curves intersect — the price and quantity at which quantity supplied equals quantity demanded, with no natural tendency to change.
- A surplus (quantity supplied greater than quantity demanded) occurs above equilibrium price and pushes price down; a shortage (quantity demanded greater than quantity supplied) occurs below equilibrium price and pushes price up.
If the market price is set above equilibrium, what happens, and why does this create pressure to change the price?
Solution. A surplus occurs, since sellers want to sell more than buyers want to buy at that price; this excess inventory pressures sellers to lower prices back toward equilibrium.
Shifts vs. Movements Along a Curve
- A change in a good's own price causes a movement along its own curve (a change in quantity supplied or demanded); a change in any other relevant factor shifts the entire curve (a change in supply or demand itself).
Distinguish between "a change in quantity demanded" and "a change in demand.".
Solution. "A change in quantity demanded" refers to a movement along a fixed demand curve caused by a change in the good's own price; "a change in demand" refers to the entire curve shifting due to a change in some other factor, like income or tastes.
Check yourself
2 of this module's 5 quiz questions. Pick your answers, then check them in the app, with an explanation for every question.
1. What does the law of demand state?
2. What happens to the supply curve if production costs rise?