SUPPLY AND DEMAND

Supply and demand is another central concept within macro- and micro-economics because it forms the main theoretical construct for determining and understanding the price of goods and services, as well as the amount of goods and services produced. Under normal conditions, optimal prices and quantities are determined at the equilibrium point where supply and demand are equally matched – any deviation from this would result is surpluses if supply exceeded demand, and shortage if demand exceeded supply.

This type of theoretical scenario assumes that the market itself is perfectly competitive, with the existence of many small buyers and sellers who individually are unable to affect the price of the goods or services being traded on their own.

Using these assumptions, we can generate the supply curve (which represents the amounts that sellers are willing to supply at given prices) and the demand curve (which represents the amounts that buyers are willing the purchase at given prices). Therefore, when the relative propensities to buy and sell are equated at point E, the market clearing price is generated at P* and the optimal level of production is determined at Q*.