In a free market system, buyers and sellers interact in a market to set prices.

When the market is characterized by perfect competition, many small companies sell identical products. Because no company is large enough to control price, each simply accepts the market price. The price is determined by supply and demand.

Supply is the quantity of a product that sellers are willing to sell at various prices.

Demand is the quantity of a product that buyers are willing to purchase at various prices.

The quantity of a product that people will buy depends on its price: they’ll buy more when the price is low and less when it’s high.

Price also influences the quantity of a product that producers are willing to supply: they’ll sell more of a product when prices are high and less when they’re low.

In a competitive market, the decisions of buyers and sellers interact until the market reaches an equilibrium price—the price at which buyers are willing to buy the same amount that sellers are willing to sell.