Question

Understand how the interaction of demand

and supply determines the equilibrium

price and quantity

Short answer

Market equilibrium is determined by the interaction of market forces of demand and supply, at their intersection point.

Step-by-step solution

Step1. Introduction

Demand has a direct relationship while supply has an indirect one with the market price, and the opposite relationship exist for equilibrium quantity.

Step2. Explanation

Effect on Equilibrium Price:

When demand increases, and supply is assumed to be same, equilibrium price tends to go up as people are ready to pay higher prices for the limited supply available.

When supply increases, and demand is assumed to be same, equilibrium price tends to go down as people are ready to sell it out for the limited demand that exists in the market. So, demand has a direct relationship with equilibrium price (positive) and supply has an inverse relationship with equilibrium price (negative).

Effect on Equilibrium Quantity:

When equilibrium prices increase due to increased demand, the equilibrium quantity demanded automatically decreases as the law of demand comes in play and people demand less with higher prices.

Similarly, when equilibrium prices fall for higher supply. the equilibrium quantity shall automatically go up as the law of demand comes in play and people demand more with higher prices.

Hence, equilibrium price has an inverse relationship with equilibrium quantity demanded, and a direct one with equilibrium quantity supplied.