What happens to prices when demand for a good exceeds its supply in a market economy?

• A. Prices rise when demand exceeds supply.
• B. Prices fall when demand exceeds supply.
• C. Prices remain unchanged.
• D. Prices are determined solely by production costs.

Answer: (A)

When demand exceeds supply, a shortage occurs and prices rise. In a market economy, prices act as signals that help balance how much people want to buy with how much producers are willing to offer. A higher price discourages some buyers and encourages others to increase supply or seek alternatives, so quantity demanded falls and quantity supplied rises. This adjustment continues until the market clears and the shortage disappears. That’s why the rising price is the natural response. The other options don’t fit because falling prices would worsen the shortage, unchanged prices wouldn’t relieve the imbalance, and prices aren’t set solely by production costs; they reflect the interaction of supply and demand.