Microeconomics is considered the starting point of Macroeconomics, and deals with individual and small business economic decisions.
These individual decisions, in aggregate, affect the demand and supply of goods and services throughout the entire economy.
One of the most commonly analyzed topics in microeconomics is the model of supply, demand and equilibrium. Under this model, the producers and consumers of a good determine how its price and quantity is traded between them. In a free market, the price of goods will vary until it hits an equilibrium point, which is defined as the point at which the total quantity of goods demanded equals the quantity of goods supplied.
Using the model of supply and demand, economists are able to understand how individuals will price their goods and allocate their limited resources in the most efficient way.
To illustrate this, take the example of Lisa's Clothing Incorporated. Lisa's clothing is about to launch a new jacket in Northville, USA. This jacket helps their local customers stay warm in very low temperatures, and every single person in Northville wants one.
Lisa's wants to sell 10,000 jackets at $1,000 USD each, but no one in Northville is willing to pay that price. This creates an excess supply of jackets in Northville, since the supply is greater than the demand.
The locals of Northville would be happy paying $100 USD for the jacket, and would therefore buy all 10,000 jackets at this price. However, Lisa's thinks this price is too low for such an amazing jacket, so they're only willing to sell 10 jackets for $100. 10 jackets is not a large enough supply for the people of Northville, and they sell out almost instantly. The 10 low priced jackets create excess demand, as there is now more demand for $100 jackets than there is an actual supply of them.
Lisa's clothing then decides to increase the price above $100, until they find the maximum price they can charge while still being able to sell as many jackets as possible. In this case, 5,000 jackets at $500 each is that sweet spot - known as the equilibrium point.
In This Series
InsightsEquilibrium is a state of balanced supply and demand.
Personal FinanceMicroeconomics is the study of how individuals and businesses make decisions to maximize satisfaction. Microeconomic principles can describe many everyday experiences. We use renting a New York ...
Managing WealthFind out why investors are better off ignoring macroeconomic forecasts, and should instead focus on the lessons that microeconomics can teach them.
InsightsQuantity demanded describes the total amount of goods or services that consumers demand at any given point in time.
InvestingIt’s very different from what you have seen from Lululemon in the past.
InvestingDon't believe the water-cooler talk. Big oil companies aren't to blame for high prices.
InvestingSupply is the amount of goods a producer is willing to produce at a given price, and is one of the most basic concepts in economics.
TradingDiscover why controlled chaos can mean an exciting investment experience for you.
Managing WealthThese top five secrets of the rich and frugal that can help individuals spend better and reach their financial goals like true millionaires.