A Summary of how Demand and Supply Changes Affect Prices and Quantities
The following summarizes the important relationships between changes in demand and supply and their corresponding equilibrium prices and equilibrium quantities changes. These are changes that take place in the short-term (usually several months to a year). Depending on the particular market, they may hold true for the long-term (longer than a year) also. However, most products (especially manufactured goods subject to a fair amount of competition) will experience further price and quantity changes in the long run (discussed elsewhere). When it states “price” it represents “equilibrium” price (or market price, meaning the price that the grocery store, department store, gas station, etc. charges in a free market), and when it states “quantity”, it represents “equilibrium” quantity (for example, the amount of a certain product sold in a grocery store).
When Demand Increases ==> Price Increases and Quantity Increases
When Demand Decreases ==> Price Decreases and Quantity Decreases
When Supply Increases ==> Price Decreases and Quantity Increases
When Supply Decreases ==> Price Increases and Quantity Decreases
A Simultaneous Increase in Demand and Supply
So we know that an increase in demand increases equilibrium price and quantity (and vice versa), and an increase in supply decreases equilibrium price and increases quantity (and vice versa). What happens if both demand and supply change at the same time?
Let’s analyze the following examples.
Problem: Suppose that you know that consumers’ incomes have gone up, and that an advance in technology has lowered the cost of making computers. Assuming that a computer is a normal good, what will happen to the equilibrium price and quantity of computers as a result of these two simultaneous changes?
Solution: An increase in consumers’ incomes increases the demand for computers (click the arrow in the diagram below; D shifts to the right). An advance in technology increases the supply (click the arrow again; S shifts to the right). Consequently, the equilibrium quantity increases because the equilibrium quantity increases in both instances. The market price will either increase, decrease, or stay the same, depending on the size of the shifts in the curves. If demand increases more than supply, then the price increases, and vice versa. If we don’t know the magnitude of the shifts, we say that the price is indeterminate.
Problem: Buyers expect videotape prices to increase in the near future, and at the same time, the government decides to tax the production of videotapes. What effect does this have on the market price and output of videotapes?
Solution: Current demand increases because buyers expect the price to increase in the future. Supply decreases because the increased tax makes it less attractive for firms to supply the product. Therefore, the price of videotapes increases, and the equilibrium quantity is indeterminate. When both demand and supply shift, one variable (price or quantity) experiences a definite change, and the other is indeterminate (unless you know the magnitude of the shifts). When only one curve shifts, both equilibrium price and quantity experience a definite change.
For video explanations of how changes in both demand and supply affect the equilibrium price and quantity of a product, please watch the following:
The labor market is a special case of supply and demand. The demand for labor is the businesses’ willingness and ability to hire workers. The supply of labor is the workers’ willingness and ability to work at certain wage rates.
For a labor market application of supply and demand changes and their effects on the equilibrium price of labor (the wage rate) and the equilibrium quantity (the number of workers hired), watch: