In this short video we focus on an important concept to help understand the working of the price mechanism – the idea of effective demand

Demand in economics must be effective. Only when a consumers' desire to buy a product is backed up by an ability to pay for it do we speak of demand.

Factors that can increase the level of effective demand in a market

1. When wages rise faster than the rate of consumer price inflation leading to higher real incomes
2. When state welfare benefit payouts such as the state pension rise more than inflation
3. When the cost of credit / loans falls e.g. cheaper mortgages can make housing more affordable
4. When new technology / innovation lowers prices leading to higher real incomes
5. When the government offer subsidies to producers (lowering their costs) and/or when subsidies are offered to consumers
6. When intense competition between firms drives prices lower e.g. during a price war!