Demand, supply and market equilibrium

Price in a market is determined by supply and demand forces.

The needs of producers and consumers are best met at a point called the market equilibrium. Market equilibrium occurs when the supply and demand for a product are equal and the prices charged for the product are relatively stable. The market equilibrium is established by combining the supply and demand curves for a product on the same graph. The point at which these two curves intersect is called the equilibrium point.

The demand for a product is the amount of a good that people are willing to buy over a given time period at a particular price. For most goods and services the amount that consumers wish to buy will increase as price falls.

The desired demand is the information showing the amount of the product that consumers are willing to buy at different prices - not what they actually do buy. The demand for a product is not only influenced by price. An individual may be influenced by factors such as personal tastes, the size of income, advertising and the cost and availability of credit. The total market demand will be affected by the size and age distribution of the population and government policy.

States of Demand

Marketing managers might face any of the following states of demand.

Negative demand. Marketers must analyse why the market dislikes the product, and whether product redesign, lower prices, or more positive promotion can change the consumer attitudes.

No demand. Target consumers may be uninterested in the product. The marketer must find ways to connect the product's benefits with the market's needs and interests.

Latent demand. Consumers have a want that is not satisfied by any existing product or service. The marketing task is to measure the size of the potential market and develop effective goods and services that will satisfy the demand.

Falling demand. Sooner or later, every organization faces falling demand for one of its products. The marketer must find the causes of market decline and restimulate demand by finding new markets, changing product features, or creating more effective communications.

Irregular demand. Demand varies on a seasonal, daily, or even hourly basis, causing problems of idle or overworked capacity. Marketers must find ways to change the time pattern of demand through flexible pricing, promotion, and other incentives.

Full demand. The organization has just the amount of demand it wants and can handle. The marketer works to maintain the current level of demand in the face of changing consumer preferences and increasing competition. The organization maintains quality and continually measures consumer satisfaction to make sure it is doing good job.

Overfull demand. Demand is higher than the company can or wants to handle. The marketing task, called demarketing is to find ways to reduce the demand temporarily or permanently. Demarketing involves such actions as raising prices and reducing promotion and service. Demarketing does not aim to destroy demand, but only to reduce it.

Demand is concerned with the buying side of the market. Supply is concerned with the firm's or producer's side of the market. Unlike demand, the quantity supplied of a good will increase as price rises.

Production decisions are affected by the costs of production and productivity. In figuring the costs of production, business owners are concerned with fixed costs and marginal costs.

Supply

The supply of a product is not only influenced by price. Supply will be affected by anything that helps or hinders production or alters the costs of production.

The prices of goods and services are continually changing and so is the amount that is bought and sold. In winter the price of tomatoes tends to be a lot higher than in the summer and fewer tomatoes are bought in the winter. Similarly, the price of turkey tends to increase at Christmas and so too does the number of turkeys bought. These changes can be explained by an increase in demand. To show the effect of an increase in demand on the market equilibrium consider what happens if there is a successful advertising campaign which increases demand by 20 units per week at each and every price.

Changes in the market equilibrium can also come about as a result of a decrease in demand, an increase in supply or a decrease in supply.

Changes in the costs of production can affect the supply of goods. Producers must pay the cost of production, which may change over time.

Production Costs

Production costs are generally divided into fixed costs, variable costs, and total costs. Producers also calculate the average total costs and marginal costs of production. Analyzing these costs of production helps producers determine production goals and profit margins.

Fixed costs. The costs that producers incur whether they produce nothing, very little, or large quantities are their fixed costs. Total fixed costs are called overhead. Fixed costs include interest payments on loans and bonds, insurance premiums, local and state property taxes, rent payments, and executive salaries. The significance of fixed costs is that they do not change as output changes.

Variable costs. The costs that change with changes in output are variable costs. Unlike fixed costs, which are usually associated with such capital goods as machinery, salaries, and rent, variable costs are usually associated with labor and raw materials. Variable costs reflect the costs of items that businesses can control or alert in the short run.

Total costs and average total costs. The sum of fixed and variable costs of production is the total costs. At zero output, a firm's total costs are equal to its fixed costs. Then as production increases, so do the total costs as the increasing variable costs are added to the fixed costs.

Producers are equally concerned with their per unit production costs. The average total costs of production are the sum of the average fixed costs and the average variable costs. Each of these average costs is calculated by dividing the cost by the total units produced.

Marginal costs. One final measure of costs is marginal costs, i. e. extra costs incurred by producing one more unit of output. Marginal costs are an increase in variable costs because fixed costs do not change. Marginal costs allow the business to determine the profitability of increasing or decreasing production by a few units.

Many economic factors affect the supply of a product. The major influence, however, is price because the quantity of a product offered for sale varies with its price. Profit is the key consideration when producers determine a supply schedule.