The law of demand dictates or rather states that when all things are held constant, as prices decline the quantity demanded will rise and as prices rise the quantity demanded will decline or fall. In other words, there is an inverse relationship between prices and quantity demanded. (McConnell and Brue 40). The assumption that all other things are held constant is also essential as the demand could be affected by other factors rather than prices for instance the prices of substitutes.
Again, some goods are not price sensitive for instance the reduction in the price of salt would not translate to an increase in its demand. The law of demand stands due to the fact that in most cases prices act as a hindrance or barrier to people from purchasing goods and lower prices will attract higher demand as opposed to higher prices. People are also faced by the budget constraint or a constant disposable income and lower prices will leave them with more income to purchase more goods as opposed to higher prices.
The law of demand can also be explained by diminishing marginal utility which states that in a specified time period buyers will derive a higher satisfaction, benefit or utility from the initial unit consumed but this will decline with additional units consumed. Rational consumers would be willing to pay higher prices for the initial units consumed and this willingness reduces as the satisfaction or utility derived dwindles. (McConnell and Brue 40-41).
McConnell and Brue define supply as ‘a schedule or curve which shows the amounts of a given product that producers are willing and able to make available for sale at given prices and for a specified period of time’. (McConnell and Brue 40). The law of supply states that as prices rise, the quantity supplied will rise and as the prices fall the quantity supplied will decline. This is the case due to the fact that suppliers who are on the receiving end will rationally produce more when the prices are high to make more profits or increase their revenues.
(McConnell and Brue 45). Unlike the demand curve which is downward sloping, the supply curve is upward sloping. However, just like the law of demand, the law of supply holds on the assumption that other things are held constant. Combining individual demand and supply schedules, market demand and market supply are attained. Market equilibrium is attained when market demand is equated to market supply. The equilibrium price and quantity are at the intersection of the downward sloping demand curve and the upward slopping supply curve.
Equilibrium price is essential in the sense that the quantity demanded is equal to the quantity supplied and there is therefore no excess demand or supply. (Lowes and Pass 62). The equilibrium prices tends to prevail especially in competitive markets as when one firm raises the price consumers will opt for other producers offering the same products at lower prices. Reducing or rather lowering the price to a price below the equilibrium will attract a higher demand precipitating a shortage and consequently the prices will be raised.
A compromise is arrived at when market equilibrium is attained as suppliers will not produce more at higher prices precipitating a surplus and at the same time a shortage will not take place when consumers demand for more commodities at lower prices.
Campbell R. McConnell and Stanley L. Brue. McGraw-Hill Professional Publishers. 2005. P 39-48 C. L. Pass and Bryan Lowes. Business and Microeconomics: An Introduction to the Market Economy. Routledge Publishers. 1994. P 60-68