1. Equilibrium and Disequilibrium
Mr. Messere
Gr. 12 Economics
CIA 4U1 1

2. Outline I. Changes in Equilibrium II. Market Disequilibrium
A. Change in Demand
B. Change in Supply
C. Change in Both Demand and Supply
II. Market Disequilibrium
A. Price Floors
Price Ceilings
Commodity Agreements 2

3. Market Dynamics
Equilibrium - where quantity demanded equals quantity supplied
Equilibrium Price (P*) - price where equilibrium occurs.
If price above equilibrium, then surplus occurs
If price below equilibrium, then shortage arises 26

4. Equilibrium/Surplus/ShortageD
Shortage Q Q* 27

5. Equilibrium in the Market
What Occurs at Equilibrium?
Demand Side - those who get the good are those willing and able (effective demand) to pay the P*.
Supply Side - only those firms which are able to produce at or below the cost of P* will remain in business. 28

6. Changes in Equilibrium
Remember that Supply and Demand are drawn under the ceteris paribus assumption.
Any factors which cause Supply and/or Demand to change will affect equilibrium price and quantity. 29

7. Change in Demand
Demand will change for any of the non-price determinants examined previously:
Tastes/Preferences
Income
Price of Substitute & Complementary goods
Expectations
Population
Ceteris paribus, let’s say the demand for CDs increased due to an increase in income. How would this affect market equilibrium price & quantity of CDs? 30

8. Increase in Demand P
SCDs
DCDs Q 34

9. Increase in Demand P
SCDs E’
P*’ P* E D’
DCDs Q Q*
Q*’ 35

10. Change in Supply
Supply will change for any of the the non-price determinants examined previously:
- Costs of Production – Input costs / taxes & subsidies
- Technology
- Nature and the environment
Number of producers
Complements & substitutes in production
Ceteris paribus, let’s say that the government lowers taxes on CDs. How would this affect the market equilibrium price & quantity of CDs? 38

11. Increase in Supply P
SCDs
DCDs Q 42

12. Increase in Supply P
SCDs S’ E P*
P*’ E’
DCDs Q Q*
Q*’ 43

13. Changes in Demand and Supply
To determine the impact of both supply and demand changing:
First examine what happens to equilibrium price and quantity when just demand shifts.
Second, examine what happens to equilibrium price and quantity when just supply changes
Finally, add the two effects together. 46

14. Changes in Demand and Supply
General Results:
When supply and demand move in the same direction
Equilibrium price is indeterminate
When supply and demand move in opposite directions
Equilibrium quantity is indeterminate 47

15. Supply & Demand Move in the Same Direction
Assume ceteris paribus:
Suppose that the barbecue season is at its peak. Also, the price of cattle decreases by 10% during this time. How would this affect the market equilibrium price & quantity of steak? 48

16. Supply & Demand Move in the Same Direction
SSteak S’ E1 P1 P? E P* E2 D’
DSteak Q Q* Q1 Q2 52

17. Final Equilibrium Quantity & Price when Demand & Supply move in the Same Direction
Since it is barbecue season, consumer preference for steak has increased, thus causing demand to increase from D to D’. This temporarily pulls up price and increases quantity demanded to P1 and Q1 respectively.
At the intermediate equilibrium level, E1, supply then increases from S to S’ as a result of lower cattle prices (a fall in the price of an input) which pushes the final market equilibrium quantity to E2 where the final equilibrium quantity is Q2 and equilibrium price is indeterminate.

18. Supply & Demand Move in Opposite Directions
Assume ceteris paribus:
Suppose that the price of lemons falls and lemon is considered an essential ingredient in preparing great tasting spinach. At the same time, many spinach farmers also reduce the amount of land used to produce spinach. How would this affect the market equilibrium price & quantity of spinach?

19. Supply & Demand Move in the Opposite Directions
SSpinach E2 P2 P1 E1 P* E D’ Q?
DSpinach Q Q* Q1 61

20. Final Equilibrium Quantity & Price when Demand & Supply move in Opposite Directions
As a result of the price of lemons falling (a complimentary good) the demand for spinach increases from D to D’ and temporarily raises the price from P* to P1 and quantity from Q* to Q1.
At the intermediate equilibrium level, E1, supply then decreases from S to S’ because there are fewer farmers growing spinach which pushes the final market equilibrium quantity to E2 where the final equilibrium price is P2 and equilibrium quantity is indeterminate.

21. The Role of Prices Convey information Rationiong device
When the price of a Maple Leaf ticket increased from $120 last season to $150 this season (on average), it told us something about the popularity of the Maple Leafs
Rationiong device
The price is what determines who can have the good

22. Market Disequilibrium
Is it possible for the price and quantity to NOT be in equilibrium?
Yes - While the invisible hand may move price towards equilibrium, price controls tend to generate disequilibrium in the marketplace

23. Price Controls There are two types of price controls:
1) Price Ceilings
2) Price Floors

24. Price Ceilings
Price Ceiling - sets a maximum price that is allowed by law.
Result of Price Ceiling:
Stay at a permanent shortage situation
Note that a price ceiling can be any price the government chooses. It is, however only effective if it is below the equilibrium price 77

25. Price Ceiling Example of Price Ceiling
Rent controlled apartments
In New York City, San Francisco, Boston, and other cities the city or state determines the maximum amount that can be charged for rent on many apartments.
A maximum price is a price ceiling 78

26. Rent Controlled ApartmentsQ 82

27. Rent Controlled ApartmentsQ Q* 83

28. Rent Controlled Apartments
Pceiling D Q Qs Q*
Amount of Shortage Qd 84

29. Winners and Losers Who gains and loses with price ceilings?
1. Benefit - those who get rent controlled apartments
2. Loses - those who can’t find apartments due to the shortage.
3. Loses - landlords who must accept lower rent.

30. Price Floors
Price Floor - sets a minimum price that is allowed by law.
Result of Price Floor
Stay at a permanent surplus situation
Note that a price floor can be set at any price, but is only effective if it is above the equilibrium price 86

31. Price Floors Example of Price Floor
Minimum Wage Legislation
The minimum wage is a lowest price the government will allow firms to pay for labor.
A minimum price is a price floor 87

32. Price Floors
When we look at the labor market it is similar to other supply and demand diagrams except for the labels.
L - quantity of workers
w - wages (the price we pay workers)
It is also different because the suppliers of labor are households, not firms, and the demanders of labor are firms, not households

33. Minimum Wage LegislationD
# of Workers 93

34. Minimum Wage LegislationD
# of Workers L* 94

35. Minimum Wage Legislation
Amount of Unemployed
Workers
Wage S
wfloor w* D
# of Workers Ld L* Ls 95

36. Winners and Losers Who gains and loses with price floors?
1. Benefit - those who get higher wages
2. Loses - those who can’t find jobs at the higher wage
3. Loses - firms who must pay higher wages. 89

37. Commodity Agreements Market instability may arise due to:
Fluctuating prices due to changing market conditions
Changing prices due to changes in exchange rates
Changes in foreign government protectionist measures
Producers of commodities (eg. coffee, sugar, grains, tin) may cooperate to stabilize the market
eg. prices kept from falling below certain level

38. Production Quota System
An agreement by producers to limit the amount supplied to the market place & thus influence price
Individual cartel members produce portion of output according to their quota

39. Production Quota System
Price S2 S1 P2 P1 D Q2 Q1

40. Buffer Stock System
Group of producers (with support of gov’t) set a target price or price band (price floor & ceiling)
If market conditions lead to
Shortage (price above target price), buffer stock authority will sell off previously acquired stocks
Surplus (price falls below target price), buffer stock authority will agree to purchase surplus at intervention price

41. Buffer Stock System Price D S1 S2 S3 S4 S5 P4 P3 P2 P1 Q1 Q2 Q3 Q4 Q5
Shortage
Target Band P2 P1
Surplus D Q1 Q2 Q3 Q4 Q5

42. Buffer Stock System - Considerations
Surplus can be disposed of in several ways:
Stored for future use
Opportunity cost of storage facilities can be prohibitive for producers
Destruction of commodity
If food, normative issue arises in light of global poverty & hunger
Selling to other countries
If dumped in another country (priced below foreigners’ own prices in domestic market) can undermine domestic producers in countries where goods sold
Provision as overseas assistance
Food aid could lead to dependency culture

43. Use the last question page to complete the following.
Further Practice
Use the last question page to complete the following.
For each question indicate whether:
- price increased, decreased or it was indeterminate (impossible to determine)
- quantity increased, decreased or it was indeterminate (impossible to determine)
Practice Test