AQA A-Level Economics · Topic 1.1
Supply & Demand
The foundation of microeconomics — how markets allocate scarce resources
📘 15 slides
⏱ 25 – 30 min
🎯 Theme 1: Individuals, Firms & Markets
Learning Objectives
By the end of this lesson you will be able to…
Define demand and supply and state the law governing each
Draw and interpret demand curves and supply curves with correct labelling
Distinguish between a movement along a curve and a shift of a curve
Explain how markets reach equilibrium and predict the effect of shocks
Demand
What is Demand?
Key Definition
Demand is the quantity of a good or service that consumers are willing and able to buy at a given price over a given time period, ceteris paribus (all other things equal).
WHY "WILLING AND ABLE"?
You might want a Ferrari but if you can't pay for it, it doesn't count as economic demand.
CETERIS PARIBUS — WHAT DOES IT MEAN?
Latin: "all other things being equal."
In plain English: we only change one variable at a time (price) and assume everything else — income, tastes, other prices — stays the same. Without this assumption, we couldn't isolate cause and effect.
In plain English: we only change one variable at a time (price) and assume everything else — income, tastes, other prices — stays the same. Without this assumption, we couldn't isolate cause and effect.
Demand
The Law of Demand
Inverse relationship: As price rises, quantity demanded falls — and vice versa. All else equal.
Substitution effect: When a good becomes more expensive, consumers switch to cheaper substitutes (e.g. Pepsi → Coke).
Income effect: A higher price reduces real purchasing power, so consumers buy less even without changing preferences.
Demand
The Demand Curve
SHAPE
Downward sloping from left to right — reflecting the inverse P–Q relationship.
MOVEMENT VS SHIFT
A price change → movement along the curve.
A non-price factor → shift of the curve.
A non-price factor → shift of the curve.
EXAM NOTE
Always label axes P and Q (or specific good). Label the curve D.
Demand
What Shifts the Demand Curve?
Income — Rising incomes ↑ demand for normal goods; ↓ demand for inferior goods.
Substitutes — If price of Pepsi rises, demand for Coke shifts right.
Complements — If price of petrol rises, demand for cars shifts left.
Tastes & Fashion — Advertising or trends shift preferences and thus demand.
Population — More consumers means greater total market demand.
Expectations — If prices are expected to rise, consumers buy now → demand rises today.
Demand
Rightward Shift in Demand
RIGHTWARD SHIFT (D₁ → D₂)
At every price level, consumers now demand more. Caused by: ↑ income, ↑ substitute price, ↓ complement price, positive taste shift.
LEFTWARD SHIFT
The opposite: at every price consumers buy less. Caused by: ↓ income (normal good), ↓ substitute price, recession, negative taste shift.
Supply
What is Supply?
Key Definition
Supply is the quantity of a good or service that producers are willing and able to sell at a given price over a given time period, ceteris paribus.
PRODUCER PERSPECTIVE
Supply reflects the producer's side of the market — their capacity and willingness to produce at each price point.
CONTRAST WITH DEMAND
Demand is a consumer concept; supply is a producer concept. Together they determine the market price.
Supply
The Law of Supply
Positive relationship: As price rises, quantity supplied rises — producers earn higher profit margins and expand output.
Profit motive: A higher price makes production more financially attractive, incentivising existing firms to increase output.
New entrants: In the long run, higher prices attract new firms into the market, further increasing total supply.
Supply
The Supply Curve
SHAPE
Upward sloping from left to right — reflecting the positive P–Q relationship.
MOVEMENT VS SHIFT
Price change → movement along the curve.
Non-price factor → shift of the curve.
Non-price factor → shift of the curve.
EXAM NOTE
Label the curve S. An inward shift = S moves left. An outward shift = S moves right.
Supply
What Shifts the Supply Curve?
Costs of Production — Higher wages or raw material costs → leftward shift (less supplied at every price).
Technology — Better technology lowers costs → rightward shift (more supplied at every price).
Taxes & Subsidies — A tax raises costs (S left); a subsidy lowers costs (S right).
Climate & Natural Factors — Good harvests increase agricultural supply; disasters reduce it.
Number of Firms — More firms in the market increases total market supply.
Expectations — If prices are expected to rise, producers may withhold supply now → S shifts left today.
Equilibrium
Market Equilibrium
Equilibrium Defined
The price (P*) at which quantity demanded equals quantity supplied. The market clears — no surplus, no shortage.
THE PRICE MECHANISM
If P > P*: surplus → price falls back down.
If P < P*: shortage → price rises back up.
If P < P*: shortage → price rises back up.
Equilibrium
Changes in Equilibrium
| Shock | Curve Shifts | New Price | New Quantity |
|---|---|---|---|
| Demand rises | D → right | ↑ Higher | ↑ Higher |
| Demand falls | D → left | ↓ Lower | ↓ Lower |
| Supply rises | S → right | ↓ Lower | ↑ Higher |
| Supply falls | S → left | ↑ Higher | ↓ Lower |
EXAM TECHNIQUE
Always identify which curve shifts first, then trace the new equilibrium. Use diagrams — examiners award marks for correct labelled diagrams even if written explanation is incomplete.
Real-World Application · Oil Markets
Supply & Demand in Action: The Oil Market
John D. Rockefeller
Standard Oil, 1870
Standard Oil, 1870
SUPPLY DOMINANCE
By 1880 Rockefeller's Standard Oil controlled 90% of US oil refining. By restricting supply to the market, he could shift the supply curve left — forcing prices up and maximising profit.
1973 OPEC OIL EMBARGO
OPEC nations cut oil production → global supply fell sharply. With demand unchanged, the supply curve shifted left, pushing equilibrium price from $3 → $12 per barrel in just months — a textbook supply shock.
DEMAND SIDE: THE CHINA EFFECT (2000s)
China's rapid industrialisation massively increased global demand for oil. With supply slow to respond, the demand curve shifted right → oil hit $147/barrel in 2008. Both the Rockefeller era and OPEC show the same model — just from different sides of the market.
🛢️ STRAIT OF HORMUZ — THE WORLD'S MOST IMPORTANT CHOKEPOINT
~20% of the world's oil passes through this 33km-wide strait between Iran and Oman. Iran has repeatedly threatened to close it during sanctions disputes — in 2019, tanker seizures and attacks caused immediate price spikes. A full closure would instantly shift the global supply curve sharply left, triggering a price shock far larger than 1973. Markets price in this geopolitical risk even without a closure — demonstrating that expectations alone can shift supply curves.
Glossary
Key Terms
Demand
Quantity consumers are willing & able to buy at a given price, ceteris paribus.
Supply
Quantity producers are willing & able to sell at a given price, ceteris paribus.
Ceteris Paribus
Latin: "all other things equal." Used to isolate one variable at a time.
Equilibrium
Price at which Qd = Qs. The market clears with no surplus or shortage.
Substitution Effect
Consumers switch to cheaper goods when the price of a substitute falls.
Income Effect
A price rise reduces real purchasing power, decreasing quantity demanded.
Normal Good
Demand rises as income rises (positive income elasticity of demand).
Inferior Good
Demand falls as income rises (negative income elasticity of demand).
Price Mechanism
The system by which price signals coordinate supply and demand in a market.
Evaluation
Evaluating the Price Mechanism
Strengths
- Automatic — no central planner needed; prices adjust spontaneously
- Efficient — resources flow to highest-valued uses via profit signals
- Dynamic — new information is rapidly incorporated into prices
- Global — works across international markets without coordination
Limitations
- Market failure — externalities, public goods, information asymmetry
- Inequality — ability to pay determines allocation, not need
- Short-termism — price signals may not reflect long-run social costs
- Volatility — speculative bubbles can distort price signals
Essay Tip: For a 25-mark essay on markets, always conclude with whether the price mechanism achieves allocative efficiency (P = MC). Acknowledge government intervention as a corrective mechanism but evaluate its own limitations (government failure). A balanced, well-evidenced evaluation secures Level 4.
Question 1 of 8 · Supply & Demand
According to the Law of Demand, what happens to quantity demanded when price rises?
A
Quantity demanded rises
B
Quantity demanded falls
C
Quantity demanded stays the same
D
It depends on whether the good is normal or inferior
Answer · Question 1
According to the Law of Demand, what happens to quantity demanded when price rises?
A
Quantity demanded rises
B
Quantity demanded falls
C
Quantity demanded stays the same
D
It depends on whether the good is normal or inferior
Correct: B. The Law of Demand states there is an inverse relationship between price and quantity demanded, ceteris paribus. As price rises, consumers buy less — due to both the substitution effect (switch to alternatives) and the income effect (reduced real purchasing power).
Question 2 of 8 · Supply & Demand
Which of the following would cause the demand curve for coffee to shift rightward?
A
A rise in the price of coffee itself
B
A fall in consumer incomes (coffee is a normal good)
C
A rise in the price of tea (a substitute for coffee)
D
A rise in the price of coffee cups (a complement)
Answer · Question 2
Which of the following would cause the demand curve for coffee to shift rightward?
A
A rise in the price of coffee itself
B
A fall in consumer incomes (coffee is a normal good)
C
A rise in the price of tea (a substitute for coffee)
D
A rise in the price of coffee cups (a complement)
Correct: C. If tea becomes more expensive, consumers switch to coffee — a substitute. This increases demand for coffee at every price level, shifting the demand curve right. Option A causes a movement along the curve, not a shift. Options B and D would both shift demand leftward.
Question 3 of 8 · Supply & Demand
A new technology reduces firms' costs of production. What is the most likely effect on the supply curve?
A
The supply curve shifts leftward
B
The supply curve shifts rightward
C
There is a movement along the supply curve
D
The supply curve becomes perfectly inelastic
Answer · Question 3
A new technology reduces firms' costs of production. What is the most likely effect on the supply curve?
A
The supply curve shifts leftward
B
The supply curve shifts rightward
C
There is a movement along the supply curve
D
The supply curve becomes perfectly inelastic
Correct: B. Lower production costs make it more profitable to supply at every price, so firms increase output — shifting the supply curve rightward. Remember: a non-price factor causes a shift; only a price change causes a movement along the curve.
Question 4 of 8 · Supply & Demand
At market equilibrium, which of the following statements is true?
A
Quantity supplied exceeds quantity demanded — a surplus exists
B
Quantity demanded exceeds quantity supplied — a shortage exists
C
Quantity demanded equals quantity supplied — the market clears
D
The price is set by the government to avoid shortages
Answer · Question 4
At market equilibrium, which of the following statements is true?
A
Quantity supplied exceeds quantity demanded — a surplus exists
B
Quantity demanded exceeds quantity supplied — a shortage exists
C
Quantity demanded equals quantity supplied — the market clears
D
The price is set by the government to avoid shortages
Correct: C. Equilibrium (P*, Q*) is the price at which Qd = Qs. The market clears with no unsold stock and no unsatisfied buyers. If the price is above equilibrium there is a surplus; below equilibrium there is a shortage — in both cases the price mechanism pushes the price back to P*.
Question 5 of 8 · Supply & Demand
The government imposes a new tax on producers of petrol. What is the most likely effect on the market for petrol?
A
The supply curve shifts right; equilibrium price falls
B
The demand curve shifts left; equilibrium quantity falls
C
The supply curve shifts left; equilibrium price rises and quantity falls
D
Both curves shift left; the equilibrium price is unchanged
Answer · Question 5
The government imposes a new tax on producers of petrol. What is the most likely effect on the market for petrol?
A
The supply curve shifts right; equilibrium price falls
B
The demand curve shifts left; equilibrium quantity falls
C
The supply curve shifts left; equilibrium price rises and quantity falls
D
Both curves shift left; the equilibrium price is unchanged
Correct: C. A tax on producers raises their costs of production, making it less profitable to supply at every price — the supply curve shifts left. This raises equilibrium price and lowers equilibrium quantity. The demand curve is unaffected because consumer preferences have not changed.
Question 6 of 8 · Supply & Demand
As consumer incomes rise, demand for bus travel falls. Bus travel is therefore best described as:
A
A normal good
B
A complement good
C
An inferior good
D
A substitute good
Answer · Question 6
As consumer incomes rise, demand for bus travel falls. Bus travel is therefore best described as:
A
A normal good
B
A complement good
C
An inferior good
D
A substitute good
Correct: C. An inferior good has a negative income elasticity of demand — as income rises, demand falls because consumers switch to preferred alternatives (e.g. buying a car). Normal goods have positive income elasticity. "Substitute" and "complement" describe relationships between goods, not the income relationship.
Question 7 of 8 · Supply & Demand
If market price is set above the equilibrium price, what will occur in a free market?
A
A shortage — quantity demanded exceeds quantity supplied
B
A surplus — quantity supplied exceeds quantity demanded
C
Equilibrium — the market already clears at any price
D
A surplus — quantity demanded exceeds quantity supplied
Answer · Question 7
If market price is set above the equilibrium price, what will occur in a free market?
A
A shortage — quantity demanded exceeds quantity supplied
B
A surplus — quantity supplied exceeds quantity demanded
C
Equilibrium — the market already clears at any price
D
A surplus — quantity demanded exceeds quantity supplied
Correct: B. Above equilibrium, the high price incentivises producers to supply more while consumers demand less — creating a surplus (excess supply). The price mechanism then pushes the price back down to P*. Note: below equilibrium the opposite occurs — a shortage forces the price up.
Question 8 of 8 · Supply & Demand
Demand for smartphones rises while, at the same time, a shortage of microchips reduces supply. What can we conclude about the new equilibrium?
A
Price definitely rises; the change in quantity is ambiguous
B
Price definitely falls; quantity definitely rises
C
Quantity definitely rises; the change in price is ambiguous
D
Both price and quantity definitely rise
Answer · Question 8
Demand for smartphones rises while, at the same time, a shortage of microchips reduces supply. What can we conclude about the new equilibrium?
A
Price definitely rises; the change in quantity is ambiguous
B
Price definitely falls; quantity definitely rises
C
Quantity definitely rises; the change in price is ambiguous
D
Both price and quantity definitely rise
Correct: A. A rise in demand pushes price up; a fall in supply also pushes price up — so price definitely rises. However, D↑ raises quantity while S↓ reduces it, so the net effect on quantity depends on the relative size of each shift — it is ambiguous. This type of "dual shift" question is a common A-Level exam trap.
Summary · Topic 1.1
What You've Covered
📉 DEMAND
- ›Law of Demand — inverse P–Q relationship
- ›Substitution & income effects explain the law
- ›Shifts: income, substitutes, complements, tastes, population, expectations
- ›Price change → movement; non-price → shift
📈 SUPPLY
- ›Law of Supply — positive P–Q relationship
- ›Profit motive drives supply decisions
- ›Shifts: costs, technology, taxes/subsidies, climate, firms, expectations
- ›Real world: OPEC, Strait of Hormuz, Standard Oil
⚖️ EQUILIBRIUM
- ›Equilibrium: Qd = Qs at price P*
- ›Price mechanism self-corrects surpluses & shortages
- ›D↑ → P↑ Q↑ | D↓ → P↓ Q↓
- ›S↑ → P↓ Q↑ | S↓ → P↑ Q↓
📝 KEY TERMS TO KNOW
Ceteris paribus · Willing & able · Normal good · Inferior good · Substitute · Complement · Price mechanism · Surplus · Shortage · Equilibrium
🎯 NEXT STEPS
Price Elasticity of Demand (PED) · Income Elasticity (YED) · Cross Elasticity (XED) · Price Elasticity of Supply (PES) · Consumer & Producer Surplus