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Supply and Demand: Market Equilibrium

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Equilibrium When supply = demand, there is equilibrium in the market Equilibrium creates a single price and quantity for a good/service

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P Q S D p q Market Equilibrium

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P Q S D p q D1D1 p1p1 q 1 Increase in Demand If demand increases then price increases and quantity increases D.: P & Q Changes in equilibrium

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P Q S D1D1 p1p1 q1q1 D p q Decrease in Demand If demand decreases then price decreases and quantity decreases D.: P & Q Changes in equilibrium

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P Q S D p q Increase in Supply If supply increases then price decreases and quantity increases S.: P & Q S1S1 p1p1 q1q1 Changes in equilibrium

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P Q S D p q Decrease in Supply If supply decreases then price increases and quantity decreases S.: P & Q S1S1 p1p1 q1q1 Changes in equilibrium

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Simultaneous Changes in Supply and Demand If supply and demand both increase then price is indeterminate, but quantity definitely increases S & D.: P ? & Q

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P Q S D p q Simultaneous Increase in Supply & Demand S & D.: P ? & Q S1S1 p1p1 q1q1 D1D1 q2q2

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Simultaneous Changes in Supply and Demand If supply and demand both decrease then price is indeterminate, but quantity definitely decreases S & D.: P ? & Q

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P Q S D p q Simultaneous Decrease in Supply & Demand S & D.: P ? & Q S1S1 p1p1 q1q1 D1D1 q2q2

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Simultaneous Changes in Supply and Demand If supply decreases while demand increases, then price definitely increases while quantity is indeterminate S & D.: P & Q ?

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P Q S D p q Decrease in Supply w/ Simultaneous Increase in Demand S & D.: P & Q ? S1S1 p1p1 q1q1 D1D1 p2p2

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Simultaneous Changes in Supply and Demand If supply increases while demand decreases, then price definitely decreases while quantity is indeterminate S & D.: P & Q?

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P Q S D p q Increase in Supply w/ Simultaneous Decrease in Demand S & D.: P & Q? S1S1 p1p1 q1q1 D1D1 p2p2

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Disequilibrium If price occurs at some point where supply and demand are not =, then disequilibrium exists. If the price is higher than the equilibrium price, then a surplus (Q s >Q D ) occurs If the price is lower than the equilibrium price, then a shortage occurs (Q s <Q D )

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P Q S D pepe qeqe Market Disequilibrium (Price, p x, above Equilibrium Price, p e ) pxpx qsqs qdqd If price is p x, then q d < q s.: surplus exists (surplus = q s – q d )

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P Q S D pepe qeqe qdqd qsqs If price is p x, then q s < q d.: shortage exists (shortage = q d – q s ) pxpx Market Disequilibrium (Price, p x, below Equilibrium Price, p e )

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Causes of Disequilibrium Price floor – a minimum price for a good/service or resource determined outside of the market –Ex. Minimum wage Price ceiling – a maximum price for a good/service or resource determined outside of the market –Ex. Concert tickets sold by Ticket-master

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P Q S D pepe qeqe Effective Price Floor (ex. Minimum wage in competitive unskilled labor market) p mw qsqs qdqd If price floor is effective, then q d < q s.: surplus labor exists

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P Q S D pepe qeqe qdqd qsqs If price ceiling is effective then q s < q d.: ticket shortage exists ptpt Effective Price Ceiling (ex. Single price for admission to a popular concert )

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Conclusion Markets work best when supply and demand determine the price of goods/services or resources. When forces other than supply and demand determine the price of goods/services or resources, surpluses and shortages result. Over time, the forces of supply and demand undermine artificial price controls –Ex. Black markets, ticket scalping, undocumented workers

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