Course: Fundamentals of Financial Planning
Lesson 2: Economic Concepts and Consumer Protection Laws

Student Question:

Hi,

Can you please provide an explanation for the correlation between demand and the equilibrium price? I’m aware that demand is influenced by price increases or decreases; however, I’m having a hard time deciphering the relationship between demand and the equilibrium price.

Kind regards,

Austin


Instructor Response:

Hi Austin,

Happy to help here.  Let’s start with the equilibrium price.  This is where supply and demand lines cross, meaning the demand for a product is equal to the supply.  That creates what we call an equilibrium price – a price at which the demand for that product meets the supply.

Now what happens if we increase demand?  If you increase demand without increasing supply, you have a lot of people wanting a product but not enough of the product for everyone to buy it.  So, if we were to increase the price, we can decrease the demand as not everyone would be willing to pay the higher price.  Therefore, as demand increases, that equilibrium price will also increase.

The opposite is also true.  If the demand for a product decreases, that equilibrium price will go down as well.

In short, as demand increases, the equilibrium price increases.  As demand decreases, so does equilibrium price.  And again, this all assumes supply does not change.

Does that help clarify?

Dan