Business Degree Certification Practice Test

What effect does an increase in market demand generally have on prices?

1. Prices decrease due to surplus

2. Prices increase due to greater competition

3. Prices remain stable without fluctuation

4. Prices increase due to higher demand

The correct answer is: Prices increase due to higher demand

An increase in market demand typically leads to prices increasing due to higher demand. When consumers desire more of a product or service than what is currently available, this heightened demand creates upward pressure on prices. Sellers recognize that their goods or services are more sought after and may raise prices to maximize revenue from the limited supply. This dynamic can be illustrated in the basic economic principle of supply and demand: as demand increases, especially if supply remains constant, the imbalance prompts sellers to adjust prices higher. Consequently, the increase in prices acts as a signal to producers to potentially increase supply, but in the short term, the immediate effect of increased demand is a rise in prices. Understanding this relationship is crucial for business operations, pricing strategies, and market analysis, highlighting the fundamental interactions in market economics.