Supply, Demand, and the Invisible Hand: Introduction

Introduction

Transactions—payments of money in return for goods and services—occur because various consumers, businesses, and government agencies have various wants and needs. In GDP and the Players Three, you learned that these transactions all add up to gross domestic product, or GDP. Economists also refer to GDP as total demand. Economists not only analyze total demand; they also analyze demand for specific goods and services. The demand for a specific item depends on many factors, including its uses and importance, the size and age of the population, the prevailing fashions and tastes, and, of course, its price.

In a market economy, if there is demand for something there will surely be people willing to supply it. In that sense, supply is the flip side of demand. Economists think and talk in terms of the supply of cars and housing, the supply of labor and materials, and so on. The supply of a product or service depends on many things including the resources and productive capacity devoted to producing it and, again, its price.

In a market economy, the interaction of demand—wants and needs—and supply—resources and productive capacity—largely determine what is produced and how it is allocated.

This section examines the dynamics of supply and demand and the interaction of these two essential market forces. It also shows how these forces determine prices in a market.