6 Market Equilibrium

8/2/2019 6 Market Equilibrium

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Demand and supply

Equilibrium


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Supply and demand together

Put supply and demand curves on thesame graph

Intersection gives the equilibrium priceand quantity


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D

SPrice

Quantity

PE

QE

PE and QE represent the equilibrium price and

quantity


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What isEquilibrium Price?

The price that equates the quantity

demanded and the quantity supplied

1999 South-Western College Publishing


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Equilibrium

Equilibrium Price- the price at whichthe quantity demanded is equal to thequantity supplied. Other things being

unchanged, there is no tendency for thisprice to change.


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Equilibrium

A market is in equilibriumwhen thequantity demanded is equal to quantitysupplied at the market price.

At the equilibrium market price there areexactly the same number of goods that

suppliers are willing to sell as consumersare willing to buy.


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Equilibrium

When a market is in equilibrium there isno tendency for price or quantity to

change.

Economists often refer to equilibrium as

the "market clearing price" where allwilling sellers find all willing buyers.


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Market Equilibrium (Verbal)

The equilibrium price and quantity in amarket occur at the price where the quantitydemanded equals the quantity supplied.

Example: for the demand and supply curvesused, the equilibrium price is 17, where thequantity demanded, 23, equals the quantitysupplied, 23.


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Market Equilibrium (Table)

At a price of 17, the quantity demanded isequal to the quantity supplied, as thetable below illustrates.


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Market Equilibrium (Graph)

The market equilibrium occurs at theintersection of the supply and demand curves.

At price = 17, the quantity supplied = quantity

demanded = 23.


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Market Equilibrium (Equations)

The equilibrium price and quantity satisfyboth the demand and supply equationssimultaneously.


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REVIEW


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Product Demand, Supply and Market Prices

The market "clears"

at the point whereall the supply anddemand at a givenprice balance.

That is, the amountof a commodityavailable at a givenprice equals the

amount that buyersare willing topurchase at thatprice.

SD

S D


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It is assumed that there

is a process that willresult in the marketreaching this point, butexactly what the processis in a real situation is an

ongoing subject ofresearch.

Markets which do not

clear will react in someway, either by a changein price, or in theamount produced, or inthe amount demanded.

S

D

S D


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Graphically the

situation can berepresented bytwo curves:

one showing the

price-quantitycombinationsbuyers will payfor, or the demandcurve;

and one showingthe combinationssellers will sell for,or the supplycurve.

SD

S D


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The market clears

where the two arein equilibrium, thatis, where thecurves intersect.

In a generalequilibrium model,all markets in allgoods clear

simultaneouslyand the "price"can be describedentirely in terms oftradeoffs with

other goods.

SD

S D


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Disequilibrium

Non-equilibriumprices can occurin free marketsbecause of

imperfectinformation anduncertainty, but itusually doesn'tlast for long.


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What happens if price is below

equilibrium?

A shortage, or excess demand,

arises


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D

S

P2

19

QDQS

At P2, QD > QS, thus a shortage or excessdemand exists

Shortage


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How is the shortage

eliminated?The price rises, leading to a

decrease in quantity demanded

and an increase in quantitysupplied.


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Disequilibrium

When demandexceeds supply, themarket price will rise

If, at the currentprice, consumers areunable to buy asmuch as they wouldlike to buy, they

may offer higherprices in an effort toget more of theavailable supply forthemselves.


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What happens if price is

above equilibrium?

A surplus, or excess supply, arises


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D

SP1 Surplus

23

QD QS

At P1, QD < QS, thus a surplus or excess supply exists


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How is the surplus eliminated?

The price falls, leading to a

decrease in quantity supplied andan increase in quantity demanded.


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Disequilibrium

If there is excesssupply, it meansthat producerscannot sell all

that they wish tosell at thecurrent price.

When supplyexceeds demand,the market price

will fall


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Disequilibrium

If there is excesssupply, they maythen begin tooffer to sell at

lower prices, forexample throughclearance sales ordiscounts.


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Disequilibrium

If purchasersobserve the glutof unsold outputthey may begin tooffer lower prices.

For either(previous slide) orboth of these

reasons, the pricein the market willfall.


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Disequilibrium

This law of price adjustment makes considerablesense and conforms with common experiences ofhow markets workshortages of any producttend to lead to price rises while gluts tend to leadto price falls.

Most importantly, it implies that prices will movetowards the level at which demand and supplywill be equal.


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Disequilibrium

The combination of a negatively sloped demandcurve and a positively sloped supply curve withthe law of price adjustment will guarantee astable market, so long as any market in thisproduct exists (that is, provided the demand

and supply curves intersect at some positiveprice and quantity).


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The equilibrium price

The term equilibrium means a state ofbalance; it occurs when desired purchasesequal desired sales and there are no

forces tending to make anything change.


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When quantity demanded equals quantitysupplied, we say that the market is inequilibrium.

The equilibrium price corresponds to theintersection of the demand and supply

curves.


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At pricesaboveequilibrium

there isexcesssupply anddownward

pressureon price.


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At pricesbelowequilibrium

there isexcessdemand

and upwardpressure onprice.


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D

S

P3

Q3

P1 Surplus

P2

Shortage


Summary, shortages, surpluses, and equilibrium


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Conclusion

Whatever the market in which we areinterested, the analysis of how demandand supply interact to determine the

market-clearing price is an essential tool.

It is applicable to all situations in which

some maker or owner of a product wishesto exchange the product with a potentialuser.


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How shifts in S and D affect

equilibrium price and quantity


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S

D2P1

Right Shift in Demand

P2

Q2Q1D1



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Summary, demand changes

Increased demand, price and quantity

both rise


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S1

D1

Left Shift in Demand

D2

P2

Q2

P1

Q1391999 South-Western College Publishing


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Summary, demand changes

Decreased demand, price and quantityboth fall


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S1

S2P1

Right Shift in Supply

P2

Q2Q1D

4

1



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Summary, supply changes

Increased supply, price falls, quantity rises


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S2

S1P2

Left Shift in Supply

P1

Q1Q2D

4

3



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Summary, supply changes

Decreased supply, price rises, quantityfalls


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If both curves shift, you canpredict price or quantity, but not

both unless the magnitude ofthe shifts are known

E l hift i b th S d


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Examples: shifts in both S andD curves

Say both S and D increase, what can wesay about equilibrium P and Q?


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Q will increase, but P isindeterminate

ANSWER

E l hift i b th S d


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Examples: shifts in both S andD curves

Say S increases but D decreases, what canwe say about equilibrium P and Q?


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P will decrease, but Q isindeterminate

ANSWER:


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Supply and demand problems

Suppose apples and oranges are substitutes toconsumers:

Bad weather destroys many apple orchards--what happens to equilibrium price andquantity in the apple market?

In the Orange market??

Illustrate graphically.

S1S


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P P

Q Q

S

D

D1P1

P2

Q1Q2

Apple market, supply

decreases, price rises,

quantity falls

D

S

Orange market, demand

increases, price and

quantity rise

P1

P2

Q1 Q2


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Oprah Winfrey says on tv that

she will never eat anotherhamburger. What might

happen to the equilibrium price

and quantity in the beef

market? Show graphically

with supply and demandcurves.

Decrease in demand in the bee

f


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S1

D1

Decrease in demand in the beef

market, price and quantity fall

D2

P2

Q2

P1

Q153


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The demand for computers has clearly

increased over time, due to higher incomes

and changing preferences towardscomputers.

Despite the increased demand, the price ofcomputers has continued to fall.

Show graphically with supply and

demand curves how this could happen, andgive some possible explanations.


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S

S1

D

D1

P1

P2

P3

If supply increases more than demand, price

falls--greater supply due possibly to lower input

costs, better technology, more firms

An increase in the wages paid to


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An increase in the wages paid tofishermen will have what effect on thefish market equilibrium?

a. Price will decrease, and quantitywill decrease.

b. Price will increase, and quantitywill increase. c. Price will decrease, and quantity

will increase. d. Price will increase, and quantity

will decrease. e. Price and quantity will stay the

same.

Over the past couple of years prices for personal


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Over the past couple of years, prices for personalcomputers have fallen dramatically, but suppliershave offered more and more of them for sale.

Does this refute the law of supply? Explain.


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6 Market Equilibrium