Shifts in demand result in the demand curve moving position. These shifts will move the demand curve either to the left or right depending on whether there is an increase or decrease in demand.
A) INCREASE IN DEMAND B) DECREASE IN DEMAND
A – shows that the increase in demand (D2) at a price of £10 is from 30,000 to 35,000.
B – shows that the decrease in demand (D3) at the same price is from 30,000 to 25,000.
The fundamental law of supply is that when the price increases, the quantity supplied increase and when the price decreases the supplied decreases. This is shown below using a supply curve.
The market supply curve shows that, at a price of £10, firms are prepared to supply 30,000 items. Basically when a price is higher it makes sense for the business to supply more because they can make higher profit margins. Having said this often an increase in supply can result in a drop in price. This means house builders will supply less when we are in a recession because they know there profit margins will not be as high.
A change in supply will occur if the price of a good changes. This is determined by the demand for a good. This can be shown using a graph.
A) INCREASE IN SUPPLY B) DECREASE IN SUPPLY
A – a change from S1 to S2 shows that at a price of £10, businesses will supply 35,000 items.
B – a fall from S1 to S3 means that firms will only supply 25,000 items.
Ultimately the relevance of demand and supply curves is that when combined we can calculate the market price. The equilibrium market price is £10 and consumers demand and producers supply 30,000 items.
Prices can move freely. For example if the price rose to £15.
- Consumers demand 20,000.
- But producers supply 40,000.
- Thus creating a surplus.
- This causes the price to fall.
- This causes an increase in quantity demanded.
- And reduces quantity supplied.
- Equilibrium is re-established.
Although in this explanation of supply and demand I have looked at goods of a lower value than houses the same theory applies but on a larger scale.
In my application of theory I have spoken about certain things making demand rise. For experimental purposes I will follow through the idea of a drop in interest rates from 10 to 5%. We should note that 10% is not the current interest rate and that this sort of change is never likely to happen though it helps illustrate the effects on demand.
Firstly we should understand that a drop in rates makes housing more affordable. Therefore people can buy more expensive houses. Ultimately, in economic terms, it means that demand will rise. There are two types of markets in the housing industry. These are buyers and sellers. Basically a buyers market is where demand is low but supply is high. This makes the potential buyer able to fix a good price on a house that is being sold. Conversely a sellers market is where supply is very low, whilst demand is high. This makes the seller able to control the price of his/her property to a greater extent.
Demand 1 is the demand for property before the cut in interest rates. After the rise we can see there is an upward shift. This is illustrated by demand 2. Nevertheless we should note there is only a small change in supply. This is because the supply of housing in the market is fairly inelastic. This is because it takes people time to realise that they could make a good return on their property by putting it on the market. Also some people may want to wait until the market is at its peak. When there is such a shift in demand we can see a colossal rise in prices yet little change in the quantity of houses traded. It is only when the supply is increased that this rise in price is curbed. The diagram can observe this.
Clearly as supply is increased the price falls. This concept also draws on the issue that I have raised about house builders keeping supply low so that prices remain high. If they were doing this, it would make sense as most businesses objectives’ are predominantly about profit maximisation. This is the desire to make the greatest return on capital employed. Nevertheless I question whether they are deliberately doing this. I have argued this case further in my conclusions.
