Supply and demand are the two important concepts in economic theory. The determination of price in a free-market economy depends upon the interaction of supply and demand. Demand means the prevailing desire in the market for a particular product or a service. As the demand increases for a product or a service, its price also increases. As a result, suppliers increase the volume or quantity of that product in the market to maximise their profits. However, once there is ample supply in the market, the demand curve diminishes incrementally, and the prices also gets decreased with it. These methods determine the price and quantity of goods and services in the market. One important thing is the market equilibrium which is possible when the supply of goods and services equals the demand in the market. So, supply and demand analysis is an important concept in economic theory. It is a fundamental concept in microeconomics, and analysts examine the interaction of supply and demand. This article will elaborate on the concept of supply and demand analysis and explain how to do it.
What is supply and demand analysis?
Supply and demand analysis refers to examining the interaction between buyers and sellers and how their interaction determines the price and volume of goods in the market. The perceived value of prices of goods in the market has importance for the buyer and the seller. So, demand and supply analysis is an important concept in a free-market economy. Moreover, supply and demand analysisgenerates deep insights into the market and informs the major business decisions. Supply and demand analysis evaluates the patterns, trends and seasons in the market to accurately predict the impact of market shifts.
What are the foundational concepts of supply and demand analysis?
According to masters dissertation help firm, the underpinning concepts of supply and demand analysis have their origins in microeconomic theory. So, before delving into the details of how to perform demand and analysis, it is important to know about two fundamental concepts.
Consumer theory pertains to the factors that affect the demand for goods and services. The most important factor that affects the demand for goods and services is the consumption by people who want to maximise utility. Utility maximising people refers to those individuals who seek to enhance the pleasure derived from the consumption of goods in the present and the future.
Theory of Firms
The theory of firms is a microeconomic philosophy that argues that a business operates and tends to make choices that maximise profits. It follows that the rationale of a firm’s existence is only to maximise profits.
Both these theories are the founding concepts of supply and demand analysis. You can do supply and demand analysis by plotting supply and demand separately on a graph. Here is how to do it:
First, you will have to do demand analysis before going into supply analysis. You will represent the demand curve via charting the slopes on a graph chart. The downward slope of the demand curve will represent the wants and needs of the consumers and how much they can pay for goods. You will plot the demanded quantity on the horizontal axis and the price on the vertical axis. Price and demand have an inverse relationship. An increase in price leads to a decrease in the demand for a product. Customers make choices based on the perceived value of money they have to pay to maximise their utility. If the price of a product increases, then the customer’s purchasing power decreases, and subsequently, the demand for the product declines. When you plot the values on the graph, you will observe that a price increase will result in a downward slope for the demand.
Similarly, a price decrease will lead to an upward slope of demand. This analysis assumes that all other factors are equal and they do not have an impact on the demand for a product. However, in real-life situations, markets are constantly fluctuating, and there are a lot of factors that need to be considered.
You can do supply analysis by plotting the supply curve on the same graph. You will show the prices on the vertical axis and the quantity supplied on the horizontal axis. Supply analysis considers the perspective of the manufacturers than the consumers. Consumers’ perspectives are displayed in the demand curve. An increase in the prices of a product compels manufacturers to produce more goods for maximising their profits. You will show the price increase on the vertical axis, and a price increase will lead to more supply. The supply curve will have an upward slope if the prices of a product are increasing. Whereas if the prices of a product decrease, then the production and supply of a product decrease. The manufacturers stop producing the product because the input costs are too high, and the product becomes unprofitable. A decrease in prices leads to a downward supply curve, which means that manufacturers stop producing.
Supply and demand analysis also requires an evaluation of the equilibrium point. Buyers usually want the lowest price, but producers are incentivised to expand production only at increased prices. Presumably, the customer looks for optimal pricing for a product which means the lesser price is better. However, such a situation is untenable since producers would be unable to continue in business. Manufacturers, understandably, want to offer their products for the highest feasible price. However, when prices grow too high, consumers’ choices shift and abandon the product. A fair balance must be struck so that both sides may partake in continuing commercial activities that profit both buyers and sellers. In theory, the ideal price at which producers and consumers get the highest degree of aggregate utility happens at the cost where the supply and demand curves connect—variations from this threshold lead to an overall economic loss. Therefore, for supply and demand analysis, it is important for analysts to examine the equilibrium point in the market.
Supply and demand analysis is an important concept in microeconomics. Businesses usually do supply and demand analysis to understand the market dynamics. The insights gathered from this analysis help the management make informed decisions that lead to profit maximisation and customer utility.