Gold is one of the commodities that are trade in the financial markets. It is usually traded in the commodities market, and its price is normally determined by the laws of supply and demand. This paper will explain the laws of supply and demand relating them to the determination of prices of commodities in the market (Datta 2006). It will discuss the demand for gold and the factors that influence the demand for gold in the market. The paper will also discuss the supply for gold and the factors that influence the supply for gold in the market.
The prices of all the commodities that are traded in the financial markets have their downs and ups. The demand for gold is influenced by factors such as the discovery of new gold mines, the destruction of gold mines through natural disasters, the industry, investors and central bank (Dubner 2011). From the figure, it is evident that the price of gold is very volatile between July, 2011 and September, 2011. The volatility of the price of gold is usually as a result of the following factors: the interaction of the global financial systems, irrationality of the investors, interest rates and inflation, and alternative investments. The price of gold is described as being volatile when the prices are rising up and falling down within very short periods of time as indicated in the diagram.
The quantity of a good, which buyers are willing to buy depending on their ability at a given price over a given time period is referred to as demand. The ability to buy these commodities is referred to as the purchasing power (Lewis 2007). Demand for a product is influenced by various factors both internal within the customer and other external factors in the market. These are some of the factors that influence the demand for a product; price, price and availability of other related products, consumers’ income, consumers’ tastes and preferences, government policies, the size, structure and trends of the population, consumer expectations of changes in price and quantity supplied, income distribution, seasonal factors and sociological factors.
A demand curve slopes from left to right downward indicating that an increase in prices reduces the demand of a commodity and vice versa. The movements along the demand curve are determined by various variations in the price of a commodity (Gregory 2011). A shift in the demand curve is influenced by variations in various factors other than the price of the commodity in question. Elasticity of demand refers to the responsiveness or sensitivity of demand for a product due to a change in price or due to any other factor that influences the demand for that product. There are three types of demand, namely; joint demand, competitive demand, derived demand and composite demand.
The law of demand does not hold for all commodities and in all situations. There are cases where demand may increase with the increase in the commodity’s price and the vice versa. The following is some of the cases: goods of ostentation also known as Veblen goods, inferior goods, Geffen goods, expectation of future shortages, expectation of further increases in prices, necessities, and habitual goods and services (Mankiw & Gregory 2006). The demand for gold can be grouped under the abnormal demand curves. This is because gold is a good of ostentation. These are goods that are consumed for purposes of prestige other examples of these goods include jewels, expensive watches and expensive cars. For these goods, the higher the price, the exclusive the commodity and hence, more appealing to those seeking distinction. It means that, the demand for these goods will be higher at high prices contrary to the law of demand.
The quantity of a good, which producers or sellers are willing depending on their ability to supply to the market at a particular price over a given period of time is called supply. There are several factors that are known to influence the supply of a product (Skousen 2010). These factors include, price, prices of related products, cost of the factors of production, time element, state of technology, goals of the producers, future expectations of price changes, government policy, natural factors such as weather, and non-monetary benefits.
Supply curve shows the relationship between the quantity supplied of a product and the price. The supply curve slopes upwards from the left moving towards the right reflecting that at higher prices, more of the commodity is supplied, and the converse also holds. Movement along the supply curve is similar to that of the demand curve (Taylor 2009). A shift in the supply curve refers to relocation of the supply curve either outwards to the right or inwards to the left, as a result of variations of the factors affecting supply other than price. This means that, at each price, a different quantity will be supplied than was previously supplied.
Elasticity if supply is the responsiveness of supply for a product to changes in price. The following are the determinants of the elasticity of supply: time, nature of commodities, cost of production, method of production, and mobility of factors of production (Dubner 2011). The elasticity of supply enables the producers to know which commodities can be increased or reduced in supply in the short run due to change in demand for those goods. Consumers can use the knowledge of price elasticity of supply to plan their purchases.
Excess demand for a particular commodity in the market, may cause a shortage of the product in the market. This shortage causes consumers to compete for the limited commodity in the market thus making the price of that commodity to go up. As the price continues to rise, suppliers put more of the commodity into the market (Gregory 2011). On the other hand, the high price also discourages some consumers from buying the commodity. This scenario of increased supply and reducing demand continue until the equilibrium price and quantity are set.
In case of an excess supply of the good in the market, the price of a commodity might begin to fall. As the price falls more consumers purchase the commodity. The suppliers also reduce the amount of the commodity they are releasing into the market due to the falling prices (Skousen 2010). The scenario of falling supply and demand continues until the equilibrium price and quantity are set.
In the case of an abnormal supply curves, the change in equilibrium points following a shift in supply curves where the demand is abnormal will depend on the elasticity of the demand comparative to the elasticity of supply (Taylor 2009). Where the supply is more elastic as compared to demand, an increase in supply will result into a decrease in equilibrium price and also the equilibrium quantity. On the other hand, if demand is more elastic than supply, an increase in supply will result into an increase in equilibrium price and also in equilibrium quantity.