Market prices depend on levels of supply and demand. These levels rise and fall according to a number of factors, and can have a big impact on the success of a business.
Supply and demand
A market is any place where buyers and sellers meet to trade products. The market price is the amount customers are charged for items and depends on demand and supply.
Demand is the amount of a product customers are prepared to buy at different prices. Supply is the amount of a product businesses are prepared to sell at different prices.
There are many different types of market. The goods market is where everyday products such as DVDs are traded. The commodities market is where raw materials such as wheat are traded.
Market prices change when supply and demand patterns change.
- An increase in demand following a successful advertising campaign usually causes an increase in price.
- An increase in supply when a new business opens usually causes a fall in price.
Changing market prices affect a firm's costs. When the price of commodities such as oil and electricity increases, a business finds its own costs of production rise. Higher costs are either:
- Passed on to the consumer in the form of higher prices.
- Absorbed by the firm. This leaves prices unchanged but means lower profit margins for the company.
Credit is borrowed money. Many small firms depend on credit such as bank loans and overdrafts to help finance their business activities.
Interest is the reward for lending and the cost of borrowing. The interest rate is the percentage rate charged on a loan or paid on savings. For example, an annual interest rate of 5% means £5 is paid in interest for every £100 saved or borrowed.
An increase in interest rates can affect a business in two ways:
- Customers with debts have less income to spend because they are paying more interest to lenders. Sales fall as a result.
- Firms with overdrafts will have higher costs because they must now pay more interest.
The impact of a change in interest rates varies from business to business. Firms that make luxury goods are hit hardest when interest rates rise. This is because most customers cut back on non-essentials when their incomes fall as a result of interest rate rises.
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