Supply and Demand
The model economists use to explain how prices and quantities are determined in competitive markets.
Supply and demand is the foundational model of microeconomics: it explains how prices and traded quantities emerge from the interaction of buyers and sellers. The demand curve shows, for each price, the quantity buyers are willing and able to purchase, holding everything else constant; it normally slopes downward because a lower price attracts more buyers and makes each unit cheaper relative to alternatives. The supply curve shows the quantity sellers are willing to offer at each price and normally slopes upward, since higher prices make production profitable enough to cover rising marginal costs. The market clears where the curves cross: the equilibrium price and quantity.
A crucial discipline of the model is the distinction between movements along a curve and shifts of the curve. A change in the price of the good itself moves the market along both curves. A change in anything else that affects buyers — income, tastes, the prices of substitutes and complements, expectations, population — shifts the demand curve; a change in input costs, technology, taxes, or sellers' expectations shifts the supply curve. Equilibrium then moves to a new crossing point. For example, a drought shifts the supply of wheat left, raising its price; a rise in the price of coffee shifts demand for tea to the right.
When price is above equilibrium, quantity supplied exceeds quantity demanded and a surplus pushes the price down; when it is below, shortage pulls it up. This adjustment story is why economists describe price as the signal that coordinates millions of independent decisions, a point central to the arguments of Adam Smith and later market theorists. The strength of the responses depends on how sensitive quantities are to price, measured by price elasticity of demand.
The model also predicts the effects of interventions. A price ceiling below equilibrium — rent control is the classic example — creates persistent shortage; a price floor above equilibrium — a binding minimum wage — creates surplus labor. A tax shifts the supply curve up by the tax amount, and who bears the burden depends on relative elasticities, not on who legally pays it.
Economists emphasize that supply and demand is a model, not a law of nature. It describes idealized competitive markets where products are similar, participants are numerous and informed, and entry is free. Real markets with monopoly power, information asymmetries, or transaction costs deviate from the prediction — which is why the interesting questions in economics usually concern how far real markets are from this benchmark and what institutions do about it.