Supply and Demand

The law of supply and demand describes how prices will vary based on the balance between the supply of a product and the demand for that product (Wikipedia, 2005). If there is a balance between the supply, (the availability of the product), and the demand, (how much product the consumers want), then the price for the product would be considered good. If there is an imbalance, the price will change. According to Adam Smith, the invisible hand is a self-adjusting force in the market that corrects the price of a product through supply and demand (Colander, 2006).

When a product is in short supply and there is significant demand for the product, the price will increase (Colander, 2006). When the quantity of the product is greater than the demand, the price will decrease (Colander, 2006).

This assumes there exist a competitive marketplace. This process of price variability based on the supply of a good and the demand for it will continue until a balance is once again reached (Wikipedia, 2005). At that point, equilibrium is said to be established between the supply and the demand.

Kirzner (2000) commented: "The theory of supply and demand is recognized almost universally as the first step toward understanding how market prices are determined." Furthermore, this theory also explains how the price of a product shapes production and consumption decisions (Kirzner, 2000).

Scarcity means there is less of something than is demanded or wanted (Investopedia Inc., 2005). For a nation, for example, scarcity may refer to natural resources, technology, labor, etc. Resources are always limited in one way or another, therefore, individuals, companies, and nations must make decisions related to what the scarce resources are.

Choice may involve a trade-off, for example, a worker needs more money, which he or she can obtain by working longer hours. The trade-off would be less leisure time, less family time. This is viewed as the opportunity cost in making the choice. It is the benefit forgone of the next best alternative to the activity you’ve chosen. In economic reasoning, that cost is less than the benefit of what you’ve chosen (Colander, 2006).

The law of supply and demand and the concepts of scarcity and choice are interdependent of each other. If supply and demand are in balance, there is no scarcity, and the only decision a consumer makes is whether or not they want the product and they have the means to pay for it. There are always choices being made and these choices have a direct impact on the supply of a product. Consumers face more serious choices when there a product is scarce and the price is increased because most consumers will have to give up something else to pay the higher price. The question is whether or not it is worth it.

People have become very accustomed to living a certain lifestyle and they expect the quality of life they are accustomed to. One good example would be to look at the price elasticity of auto fuel and the American consumer's reaction and response. We all saw huge price increases during the year and by all that is sound and logical, Americans should be rushing out to buy the most fuel-efficient vehicle they can find and they should be demanding automakers to dramatically increase fuel economy. But, they don't, not in large numbers. They instead absorb the significant