A big portion of Economics boils down to one thing, The Law of Supply & Demand. Depending on whether supply or demand is higher than the other, prices will move, which will force supply and demand to rebalance, which will affect prices again. This constant re-balancing effect is sometimes called the “Invisible Hand of the Free Market” and it works predictably in most situations.
WHAT IS OVERSUPPLY?
When supply exceeds demand, prices will be drop because of the abundance of the product. Eventually the lower prices will start to increase demand, and once demand catches up with supply the prices will rise. This can happen if too many items are produced, or also if the demand for an item decreases rapidly. Example: The price of cable TV now that everything can be streamed.
WHAT IS UNDERSUPPLY?
On the other hand, when supply can't meet demand prices will rise because buyers will be competing over the limited supply of goods. The rising prices will reduce demand and in turn bring prices back down to normal levels. Undersupply can occur if there is a major reduction of supply or if demand for a product increases quickly. Example: the price of N95 masks at the start of the pandemic.
SHIFTS VS MOVEMENTS
Think of a Shift in supply or demand as a major event that moves the whole curve up or down very quickly. Movements are more gradual adjustments along the curve in response to a price change. In a very simple example it would look like this:
Downward shift in supply, causes an increase in price, which causes a downward movement in demand. An upward shift in Demand, causes a price increase, which causes an upward movement in supply as more people want to see that good.
RECORD INFLATION AN EXAMPLE OF OVERSUPPLY
The record inflation we are seeing now is really a decrease in value for each dollar, which is really a lower price people are willing to pay for each dollar in terms of goods & services they are selling. This is why it is hard not to connect the increased supply of US dollars generated by pandemic stimulus checks with their devaluation. So how does the Federal Reserve fight inflation? They can either increase the demand for US dollars (hard) or decrease the supply of US dollars (easy). They can decrease the supply of US dollars by either raising the prime interest rate that banks borrow money at, or they can sell bonds to pull cash out of the economy. (Still think these record low rates will last?)
HOW AN UNDERSUPPLY OF LUMBER CAUSED RECORD HIGH PRICES
Sawmills were shut down during the pandemic which caused a downward shift in supply, by May 2021 lumber prices skyrocketed to 3-4 times normal. Did it seem like a good time to build a tree house or chicken coop then? A lot of people decided to put off non-essential projects when prices were 4 times higher than normal. The original shift in supply caused a price increase, which caused a downward movement in demand. When supply shifted back up, prices came down to more normal levels which moved demand up again. Thankfully it was a sawmill shortage not a long term tree shortage, so the shift and price hikes were temporary. Of course, those prices are measured in dollars, which are now worth less so the price per piece of lumber is going back up.
WHAT SUPPLY AND DEMAND MEAN FOR THE HOUSING MARKET
The Law of Supply & Demand applies to almost every product or service, so how do we apply this to the overall housing market? We just need to take a look at the supply of houses and the demand for those houses to get an idea of where prices might head. Here are a few points of data for assessing the current state of supply and demand in the housing market.
This isn't a 100% accurate crystal ball, other major economic events could affect supply or demand while the re-balancing is happening. Pandemics, wars, natural disasters, government or other fiscal policy issues can have overnight effects on supply and demand so the future is never certain.
BONUS: HOW DOES SUPPLY AND DEMAND AFFECT CRYPTOCURRENCY
The most obvious takeaway is that to sustain any amount of value, a cryptocurrency must have a limited supply. If demand for Bitcoin increased, the price would increase ONLY if the supply didn't also increase. If you see a crypto-coin that doesn't have a limit to its supply, ask yourself how it would maintain any value. Bitcoin has a hard limit of 21 million bitcoins and a gradually tightening supply as it approaches that limit. So what did its price do when demand for Bitcoin increased? That's a question you should be able to answer now.
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