In light of those comments, let me refine the definition of the "Law of Supply and Demand" as an equilibrium law which attempts to explain the various paths either "supply" or "demand" may take based on the perceived imbalance in that state of equilibrium. This is usually expressed as
an increase or decrease in prices based on the balance between the supply of goods/services and the demand. As Nicholas Horton pointed out, it is really a combination of two functions (law of supply and law of demand) that are superimposed to create an intersect that defines the
However, there is an important clarification that needs to be made, because the equilibrium isn't actually established based on price, but rather it is based on value, real and/or perceived.
Value is a bit more difficult to define, but it carries the connotation of something more than price since it has significance to the consumer of the goods or services. The significance could be related to quality, reliability, status, etc., but basically anything that may become a motivating factor in creating the demand can contribute to "value".
In addition, the concept of value will be further reinforced by the attitudes of the consumer for whom such choices may be highly variable. Any of these factors can create pressures to affect the equilibrium of the supply/demand relationship, but invariably much of the decision becomes
simply whether the consumer can afford it or not. That choice will often be based on the value judgement of the "demand" side.
On the "supply side", consider that the early production of a particular product may be quite exciting, but due to initial start-up costs the product is quite expensive. If the product is desirable, then only those individuals with larger amounts of disposable income will be able to
acquire this product.
At this point, the supplier potentially may have a choice in determining whether increased production is warranted which will tend to reduce the price to attract more consumers with less dispoable income. In many cases, this is achieved by economies of scale and advances in technology that reduce the price of manufacture. Therefore this choice will be driven by a desire to increase the consumer base and maintain market share rather than simply maintaining higher prices. The motivating factor for suppliers is the possibility that a competitor could enter the market at the lower prices and entice the existing customer base (as well as new customers) away and dominate the market.
If such a reduction isn't possible,then it may well remain a luxury product and retain it's relatively high price and lower demand. In many ways, this class of products is outside the influence of economic theory since there may be little or no competition at these levels since they tend to be quite specialized. Besides luxury items, this is also the general effect seen when a product becomes too specialized and no longer comamnds a significant market share. Therefore the price will tend to rise when new supply cannot readily be generated and competition occurs for the existing supply.
Another aspect of the supply/demand relationship is that many prices do not change directly as a result of supply or demand, but rather are influenced by a secondary or longer-term consideration. In particular, if the supply can not be readily expanded to accommodate demand, or if it is limited simply because of it's nature, then the demand will be the determining factor in the acceptable price regardless of whatever other forces are at work in the market. This is most readily seen when rare items are offered up for auction, since the competition is directly related to the number of buyers competing and their willingness to drive up the acceptable price. Bidding invariably closes at the equilibrium point.
However, if supply can be expanded, then prices will not arbitrarily rise to meet demand because such an action would provide an entry for competitors to gain market share. Therefore there is strong pressure on suppliers to ensure that their price is as close to equilibrium to ensure maximum demand and minimal opportunities for entry to competitors looking to undercut the prevailing price.
It is from this that the real risk of monopolies exists where the "demand" side is essentially fixed, usually because of necessity and then the "supply" side can manipulate prices because there is no competition to which the consumer can turn. In addition, the problem can be aggravated by companies that control their own supply and demand internally. This suggests a conflict of interest such as oil producers that cite refining capacity for higher prices, but similarly control the refineries on which they are dependent. In short, there is no incentive for them to increase capacity, since this would effectively undercut their own pricing. In the absence of any external competition that can influence the market share there is no reason to believe that such a move, like increasing capacity, would occur.
This is certainly a controversial element of economics and free market politics because it is clear that supply/demand predicts that any company that gains the upper hand in controlling all the elements of production (and thereby eliminates competition) would essentially be able to set any price it liked. This may be the most compelling argument that an unconstrained free market can result in disastrous consequences because the avoidance of totalitarian rule requires altruism on the part of the controlling economic entity. This is exemplified by the early implementations of the "company store" where both the supply and demand were totally controlled by a company.
In short, the supply/demand model isn't nearly as precise or predictable as expected. When products are first introduced they may have a high price and low demand, however as demand increases, so does supply, and economies of scale are realized resulting in increased supply and demand and lower prices. Similarly, many products experience a continuous increase in demand while market penetration increases, however the price remains stable or drops, because supply is continuously being introduced into the process.
Part of the problem is that demand is not uniform and will vary as the price changes either expanding or contracting the market share that a product realizes. So if one imagines demand as being a tiered system where the highest prices are paid by the wealthiest individuals, it
becomes easier to see that for a company to increase market penetration, it must reduce prices to cause increased demand. So we have the apparent contradiction that prices are reduced by increasing supply to result in increased demand.
Therefore while the supply/demand relationship can be useful to illustrate some aspects of these two market forces, the "graphs" can also be quite misleading since they represent a continuum where none exists and they lack the predictability to define what the equilibrium point is.
While supply/demand is central to many of the concepts in economic theory, it isn't nearly complete enough to address all the relationships experienced in the real world, so it should be used prudently when examining any given circumstance.