How to Explain Economics

economic image by Jaroslav Machacek from

Economics is simply the study of financial behavior. Its foundation begins with the laws of supply and demand and extends to such complicated topics as game theory, marginal analysis, and the Nash Equilibrium. In economics, the first assumption is that resources are scarce, and that we all face sacrifices when allocating the money we have to spend. We all have to decide what is most valuable to us, and trade things we deem less valuable.

Explain the law of demand. The law of demand is a simple explanation of consumer behavior. The law of demand states that: All things equal, the quantity that consumers demand increases as the price for a product decreases. Graphically, demand is depicted as a downward sloping line on a graph with Price on the Y axis and Quantity on the X axis. The downward slope indicates the inverse relationship between price and quantity purchased. This relationship holds true for most all products, however, factors such as the number of substitutes for a product, the perishability of a product, and the income of the buyers also affect quantity demanded for products.

Explain the law of supply. The law of supply is a simple explanation of seller behavior. The law of supply states that: All things equal, the quantity that sellers are willing to sell increases as price increases. Graphically, supply is depicted as an upward sloping line on the same graph with price and quantity on the axes, indicating the positive relationship between price and quantity. The reason for this relationship is simple: the higher the price of a product, the more lucrative it is to sell. Existing suppliers ramp up production and more sellers enter the market to get a piece of the action. Again, the extent to how price and quantity are related is affected by other factors, such as manufacturing technology, barriers to entry, and sellers’ expectations about the future of the product.

Explain equilibrium. Equilibrium is the concept that brings the laws of supply and demand together. When the supply and demand lines (called curves in economics) are combined, the point at which the two intersect is called equilibrium. This is the price and quantity at which the buyers and sellers agree. In essence, it is a mass negotiation not unlike a negotiation when buying a car. For example, if the price of eggs is higher than its equilibrium price, some buyers will walk away, and choose to buy a different form of protein. The surplus product on the shelves will prompt sellers to reduce the price. Similarly, if the price is less than the equilibrium price, the shelves will clear quickly leaving some buyers without eggs. This will prompt suppliers to raise the price.