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How is it possible that supply increases with an increase in price? According to law of demand, as prices increases, the demand will decrease. So how can it be possible that supply increases with increases in price?

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Doug Carroll, Ed.D. eNotes educator | Certified Educator

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We typically think of the economic model of supply and demand in terms of pricing. The influence of price is certainly a factor in the decision of determining supply. Market demand on goods that are commodities is a function of the pricing decision made by consumers. However, not all markets function within the realm of consumer demand in relation to pricing. Supply and demand reflect market perception by consumers. All retail type transactions involving commodities fall into this category. Supply and demand also must encompass production costs. In theory, as production becomes more efficient, the costs to produce an item decline. The retail price may fall, encouraging more consumer purchasing, or the price may fluctuate. The market reacts when it is saturated with a product and prices fall when there is a surplus of an item.

Items which are not retail commodities do not necessarily function the same. Real estate transactions, for example, are impacted by location, interest rates, employment, and availability of loans to complete the transaction. A new neighborhood in a highly desirable area may attract buyers willing to pay higher prices for homes, even though a glut of equally attainable properties may be available in other neighborhoods.

A better example is healthcare services. In many parts of the country, there is a shortage of health care providers and services. In other parts of the country, there is an overcapacity of services. Because of the inequality of distribution of services, the cost for health services continues to rise above the rate of inflation. Unlike commodities, market forces or consumer choice has little effect on the rise in cost. Interesting is the fact health providers continue to shift more services to outpatient physician offices or surgical centers, and the cost to provide services continues an upward trend. Drug costs function similarly.

The idea is supply and demand curves are like icebergs. There is a lot more complexity below the surface than what you may see!

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For this, please keep in mind that the price you are referring to is the price at which suppliers can SELL the good are service.  Once you remember this, it should make more sense.

Think about it like this: let's think about lawyers.  If legal services could be sold for $10 an hour, not very many people would want to be lawyers and the supply would be low.  Now think what happens if (all other things remaining equal) legal services can be sold for $100 per hour.  Imagine how many more people would want to become lawyers because the pay would be so good.

So: supply goes up as the price of SELLING that good or service goes up.  That's because people will be more interested in providing a good or service the more money they can get for doing so.

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krishna-agrawala | Student

Supply and and demand are both related to the market price of goods. In economics, supply refers to the quantities of a good that manufacturers or suppliers are willing go sell, and demand refers to quantities of a good that consumers are willing to buy. Both supply and demand are related to the price, but there are many other factors that affect supply and concept. As a result demand decreases with increase in price, but demand increases with increases with increase in supply. Thus demand follows the law of downward sloping demand curve, while supply follows law of upward sloping demand curve.

It is not that supply and demand are always equal. These are equal only for the market equilibrium price. As a matter of fact market equilibrium price may be defined as the price at which supply equal demand. Depicted graphically this is the point at which demand curve intersects the supply curve. At this equilibrium price market is in equilibrium because the demand and supply is equal and therefore suppliers cannot increase prices without reducing demand, which would result in surplus production they cannot sell. Also they have no compulsion to reduce the price as they find that they are already selling all that they produce at a price they consider in their best interest. If they reduce price they will need to increase production and the marginal cost of production is likely to exceed the additional revenue generated by higher sales.