Supply and demand are the core concepts of a market economy. Supply is the representation of the quantity of product or service available on the market at a given time. Demand illustrates the quantity necessary to satisfy the demand required to satisfy the needs of consumers. The relationship between supply and demand serves as a fundamental mechanism responsible for resource allocation. This process is best explained using the laws of supply and demand.
According to the law of demand, an increase in the price of goods leads to a decrease in the number of consumers willing to make a purchase. As the prices go up, a growing proportion of people will avoid buying the product in order to retain the possibility to buy something more valuable. Consequently, the law of supply postulates that a higher price of goods will prompt the suppliers to increase the quantity of goods at the market. Understandably, both principles are viewed in isolation from other important factors. In other words, the described outcome describes a hypothetical scenario in which all other factors remain equal.
As can be seen, it is possible to achieve a state in which the quantity of goods on the market matches the quantity demanded by the buyers. This state is known as the equilibrium and constitutes the most efficient distribution of goods. In equilibrium, the price set by the suppliers matches the price that is considered fair by the audience, creating a mutually satisfying setting. It should be understood that in a real-world setting, equilibrium is constantly adjusting to accommodate the changes in supply and demand. For instance, the existing supply can exceed the buying capacity of the consumers, leading to inefficient allocation of resources. In this scenario, some of the suppliers may seek a competitive advantage by lowering the price of their offering, creating a new equilibrium. Equilibrium can also shift when the quantity of the product changes independently from its price, creating deficits and surpluses.