It’s the process, stupid

Think about Gurgaon Gurugram.

There are apartments, or flats, available for sale in Gurugram. Hundreds, thousands of apartments. Some are in complexes that come with a swimming pool, gymnasium and the works. Others are plain vanilla, with maybe a security guard at the gate if you’re lucky.

And there are thousands, maybe hundreds of thousands of potential buyers. Some are millionaires, many times over, while others barely eke out a living, but want to buy a place of their own. The higher the price, the more flats will be up for sale in Gurugram – that’s supply. The lower the price, the more the people will be willing to buy flats in Gurugram – that’s demand.

But how will the price be decided at which the number of people willing to buy per year is exactly equal to the number of flats being made available for sale each year? It works something like this:

Builder A, B and C have made flats of approximately the same quality, in roughly the same neighbourhood, and at roughly the same price. They are all quoting a per square foot (per sq. ft.) rate of about 10,000 rupees. However, to their disappointment, they find out that nobody is willing to buy at this rate. Lots of potential buyers visit their sales office, but balk at the price and walk away. The occasional sale is completed, but things are way below target.

So next month, having waited long enough, builders A, B and C put up hoardings announcing a “never before rate, for a limited time period only”. Flats, they say, will be sold for the throwaway price of 8000 rupees per sq. ft., but only until the end of the month. They are gratified to see that demand picks up sharply.

Many more people visit their sales offices, and they sell all the flats on offer. But this leads to two problems. One, the builders realize that with so many people willing to buy at Rs. 8000, they could probably have sold at a higher rate. Second, having sold at Rs. 8000, they are left with lesser money to plough into future project. So next month, they raise rates to Rs. 9000.

And maybe they find that more people are willing to buy at Rs. 9000 than they were at Rs. 10,000 – but not quite as many as were willing to buy at Rs. 8000. And this process of adjustment continues, on and on, in a never ending dance between the buyer and the seller.

It is this market adjustment process that lies at the heart of economics, of which the demand and supply equilibrium diagram is only a static, fleeting representation. So one must analyze and understand the diagram, as indeed we will. But please do remember that the diagram is a very, very small part of the puzzle.

There are many other things to consider, and we shall look at them in the next post.

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