Unit 8 Supply and demand: Markets with many buyers and sellers

8.14 Summary

  • Prices play an important role in markets because they convey information about demand and scarcity to buyers and sellers.
  • In a market with many buyers and sellers, the interaction of supply and demand determines the price of the product and the quantity sold in equilibrium.
  • Just as the demand curve depends on the buyers’ willingness to pay, the supply curve depends on the prices that sellers are willing to accept.
  • When the sellers are firms, the market supply curve represents the marginal cost of production.
  • In the equilibrium of a market with many buyers and sellers of identical goods, no individual can influence the price: they are all price-takers. We call this a competitive equilibrium.
  • Price-taking behaviour ensures that all gains from trade in the market are exhausted: there is no deadweight loss.
  • We can use the model of supply and demand to analyse how equilibrium prices and quantities will change in response to economic shocks.
  • When the market is not in equilibrium, buyers and sellers adjust prices in pursuit of rents until the equilibrium is reached.
  • Markets that satisfy the idealized conditions under which all buyers and sellers are price-takers are described as perfectly competitive.
  • Real-world markets are typically not perfectly competitive, but the supply and demand model can be useful when the conditions for competitive equilibrium are only approximately satisfied.
  • If a government levies a tax on a product or regulates its price, the market equilibrium changes. This leads to a deadweight loss, but may enable other beneficial objectives to be achieved.

Concepts and models introduced and applied in Unit 8