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07-Equilibrium chapter 10 interaction supply and demand (1)

Equilibrium interaction supply and demand

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6 views11 pages

07-Equilibrium chapter 10 interaction supply and demand (1)

Equilibrium interaction supply and demand

Uploaded by

p young
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© © All Rights Reserved
We take content rights seriously. If you suspect this is your content, claim it here.
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EQUILIBRIUM

4 December 2024

OBJECTIVES
To understand the concept of equilibrium in economics
and how a market will ‘naturally’ find its equilibrium
price.

 ECONOMICS YEAR ONE


 ECONOMICS YEAR ONE
The word equilibrium means a state of balance.

A market is in equilibrium when supply = demand.

The equilibrium price is the price at which the quantity of a good that
buyers are planning† on buying exactly matches the quantity of that
good that sellers are planning † on selling.

Sellers would always prefer a higher price. Buyers would always like a
lower price. Equilibrium is found where these opposing forces find a
happy medium.

[† there is an important difference between what economic agents


plan to do (market plans) and what they end up doing in response
to price and other agents (market action).]

 ECONOMICS YEAR ONE


At a low price (P1), not many sellers wish to/are able to sell (Q1), but
there’s lots of demand (Q2). This is disequilibrium.
Price

price likely
D to rise

excess demand
(or supply shortage)
P1 short long

The economic agents


on the short side can
Q1 Q2 Quantity fulfil their plans.
Here it is the sellers
willing to sell at P1 who
will be happy. But lots
of buyers will be
disappointed
 ECONOMICS YEAR ONE
At a high price (P2), not many buyers wish to/are able to buy (Q3), but
there’s lots of sellers wanting to sell (Q4). This is disequilibrium again.
Price

D excess supply
(or demand shortage)
S
P2 short
long

price likely
to fall

The economic agents


Q3 Q4 on the short side can
fulfil their plans.
Here it is the buyers
willing to buy at P1 who
will be happy. But lots
of sellers will be left
 ECONOMICS YEAR ONE with unsold goods.
At the equilibrium price (P*), the quantity available matches the
quantity being sought (Q*). This is equilibrium.
Price

P* no pressure for
price to rise or fall

Q*

 ECONOMICS YEAR ONE


How is equilibrium reached?
In order that the market adjusts itself and finds equilibrium, rather
than sitting in an unbalanced state with an excess of either supply or
demand, we have to make assumptions about the behaviour of firms
and consumers.

Where there is excess supply, we assume that firms will reduce prices
in order to sell goods rather than stockpile them. (Think about
supermarkets selling off goods at reduced prices before they go out of
date.)

When there is excess demand/a shortage of supply, the risk of losing


out will prompt some buyers to offer a higher price. (Think
about re-sale prices for tickets for popular concerts.)

 ECONOMICS YEAR ONE


A shift in the supply curve
What happens to equilibrium when the supply curve shifts right?
Price

At the previous equilibrium


D price (P1), there is now too
S1 S2
much supply.

So producers lower their


P1 prices rather than getting
stuck with unsold stock.
P2
The price falls until a new
equilibrium is reached at
price (P2) and quantity (Q3).

Q1 Q3 Q2 NB: movement along the


demand curve.

 ECONOMICS YEAR ONE


A shift in the demand curve
What happens to equilibrium when the demand curve shifts right?
Price

At the previous equilibrium


price (P1), there is now too
S
D1 D2 much demand/too little
supply.
P2

P1 So sellers increase their prices


knowing that customers will
pay rather than be
disappointed.

The price rise until a new


equilibrium is reached at
Q1 Q3 Q2 price (P2) and quantity (Q3).

NB: movement along the


demand curve.

 ECONOMICS YEAR ONE


Does it actually work?
So, in theory, this process means that the equilibrium or market
clearing price, where there is no excess of either supply or demand,
will be found. Free market forces will make this happen.
Think about markets that you are aware of. Does the invisible hand
really guide the market to finding the equilibrium price?

This is controversial. Neo-classical free market economists would say


that markets do tend towards equilibrium. Keynesian economists and
others argue that market forces are too weak in some markets (or too
interfered-with by legislation, etc.), for instance, the labour market is
one where there are lots of barriers (protections?) against free
movement of price.

 ECONOMICS YEAR ONE

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