Supply and Demand

The price of agricultural commodities fluctuates, foreign exchange rates change from minute to minute, interest rates and equity indexes rise and fall. Nothing stays the same. And that’s why futures are so useful and so essential to business operations all over the world.

Supply

Supply is defined as the quantity of a product that sellers are willing to provide to the market at a given price. When prices are high, sellers are willing to provide larger amounts of their products to the market. It’s human nature. When prices are low, sellers are willing to provide smaller amounts to the market. This relationship between product supply and its price is called the law of supply.

Many economic factors can cause supply to increase or decrease, and that causes the supply curve to shift. But let’s talk real life. When cattle prices are low, there’s not much incentive for cattle producers to provide cattle to the market. If cattle prices rise, so does the incentive to provide more cattle. Other things can happen to affect supply. The price of feed may be low, encouraging more cattle production, or too high, causing producers to cut back on production. Each commodity has its own supply factors, even currency, interest rate and equity stock index products. How much does it cost to borrow money? What are stock prices doing? But supply is only half the story.

Demand

Demand is defined as the quantity of a product that buyers are willing to purchase from the market at a given price. When prices are high, buyers are willing to buy less of the product. When prices are low, buyers are willing to buy greater quantities of the product. This relationship between product demand and its price is called the law of demand.

Many economic factors can cause demand for a product to increase or decrease, causing the demand curve to shift. You can imagine how the demand for beef can change depending on its supermarket price or how people feel about eating beef. And it’s fairly easy to see how economic conditions could change the demand for credit or the demand for a foreign currency. Each commodity has its own demand factors.

And the market price?

The price of a product or a commodity depends on the relationship between supply and demand. If the supply and demand curves are placed on the same graph, the point where they intersect is the product’s market price. Based on all the supply and demand factors, this is the price discovered as people buy and sell the commodity or trade futures.

Additional Lessons

Contents Courtesy of CME Group.