Chapter 3
The Market Mechanism
– Supply and Demand
An Introduction To Pricing
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The Market Mechanism – Supply and Demand
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The Market Mechanism
The demand for a product means the number of units
of the product that people are willing to buy at a given
market price.
The supply of a product means the number of units of
the product that producers are willing to make
available for sale at a given market price.
The price of any product, in the long run, is
determined by the interaction of the supply of and the
demand for that product.
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The Market Mechanism – Supply and Demand
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The Market Mechanism
The price of a product will go up if the demand for it is
greater than its supply.
D > S  P
The price of a product will go down if the supply of it
is greater than the demand for it.
S > D  P
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The Market Mechanism
People (consumers) tend to buy more units of a
product at a low price than at a high price, as the
product gives better value for money at the low price.
Therefore, as the price of a product goes up
consumers tend to buy fewer units of it and vice versa.
This is normally shown on a demand curve, which is a
simple graph showing the number of units of a good
consumers are willing to purchase at any given price
at any given time.
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Demand Curve
Example of a demand curve showing the demand
for a product at €5 and at €3.
Price
D
€5
€3
D
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Quantity
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The Market Mechanism – Supply and Demand
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The Market Mechanism
As the price of a product goes up, producers tend to
increase the supply of it as it becomes more profitable to
do so.
Therefore, as the price of a product goes up producers
tend to supply more units of it and vice versa.
This is normally shown on a supply curve, which is a simple
graph showing the number of units of a good made
available for sale at any given market price at any given
time.
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The Market Mechanism – Supply and Demand
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Supply Curve
Example of a supply curve showing the supply of a
product at €5 and at €10.
Price
S
€10
€5
S
€
4
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Quantity
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The Market Mechanism – Supply and Demand
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The Market Mechanism
Therefore, when the number of units of a product
available for sale (supply) is equal to the number of
units that people want to purchase (demand), price
will stabilise.
This price is the market price.
Therefore, the price of a product is determined by the
interaction of the supply of and the demand for it.
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The Market Mechanism
If the demand for
this product
increases, it will lead
to a new market
price.
D2
Price
S
D
€9
€7
D2
S
D
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6
8
Quantity
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Understanding Economics, © Richard Delaney, 2008, Edco
¥
The Market Mechanism – Supply and Demand
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The Market Mechanism and Consumer Surplus
An individual consumer may be willing to pay a price
higher than the market price rather than do without a
product. In this case he or she is receiving a consumer
surplus.
Thus consumer surplus is the difference between the
market price and the higher price a consumer would be
willing to pay for a product rather than do without it.
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The Market Mechanism – Supply and Demand
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The Market Mechanism
Therefore, to understand how prices are determined
we must understand the factors that govern the
demand for and supply of goods.
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Understanding Economics, © Richard Delaney, 2008, Edco
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