Chapter 6 Equilibrium

Price at which the quantity demanded equals the quantity supplied. Intersection of Supply and Demand Curves. Represents the “market clearing price” because it clears the market of the good or service being sold. All buyers, who were willing to pay this price, were able to buy what they wanted. No one went home empty handed. All sellers, who were offering to sell at this price, were able to sell all that they wanted to sell. They didn’t have anything left over.

Equilibrium (continued) Number of points of equilibrium is always equal to the number of curves on your graph minus 1 (4 curves – 1 = 3 points of equilibrium in our example) E1 = S1 + D1 E2 = S1 + D2 or E2 = S2 + D1 E3 = S2 + D2

Equilibrium (continued) P Q D1D1 S1S1 P1P1 E1E1 Q1Q1 E 1 P = E 1 Q =

Equilibrium (continued) P Q D1D1 S1S1 P1P1 E1E1 Q1Q1 D2D2 P2P2 E2E2 E 1 P = E 1 Q = E 2 P = E 2 Q = Q2Q2

Equilibrium (continued) P Q D1D1 S1S1 P1P1 E1E1 Q1Q1 D2D2 P2P2 E2E2 Q2Q2 E 1 P = E 1 Q = E 2 P = E 2 Q =

Equilibrium (continued) P Q D1D1 S1S1 P1P1 E1E1 Q1Q1 D2D2 P2P2 E2E2 S2S2 E3E3 P3P3 Q3Q3 Q2Q2 E1P = E1Q = E2P = E2Q = E3P = E3Q =

Equilibrium (continued) If the price is set above equilibrium, a surplus will occur. A surplus is when the quantity supplied is greater than the quantity demanded. The easiest way to eliminate a surplus is to lower the price (have a sale!) The way to calculate the value of the surplus is to find the difference between the quantity supplied and the quantity demanded at that price. (QS – QD) P Q D1D1 S1S1 E1E1 P1P1 Q1Q1 P2P2 Surplus

Equilibrium (continued) P Q D1D1 S1 E1E1 P1P1 Q1Q1 If the price is set below equilibrium, a shortage will occur. A shortage is when the quantity demanded is greater than the quantity supplied. A shortage can not be eliminated, but it can be prevented from reoccurring again by raising the price. The way to calculate the value of the shortage is to find the difference between the quantity demanded and the quantity supplied at that price. (QD – QS) Shortage P3P3

Equilibrium (continued) P Q D1D1 S1 E1E1 P1P1 Q1Q1 Markets will tend toward their natural equilibrium, if left to their own devices. Sometimes, government actions interfere with the market finding its natural equilibrium. The government will set a price floor to protect the producer. The selling price is not allowed to drop below this price (minimum price). This happens with agriculture and their price supports. In order to make sure farmers can make a profit prices are set at a certain level (above the natural equilibrium). However, in many instances, consumers are not willing to pay these higher prices and an artificial surplus will be created. P2P2 Price Floor Surplus

Equilibrium (continued) P Q D1D1 S1 E1E1 P1P1 Q1Q1 On the other hand, the government sometimes sets a price ceiling to protect the consumer. Now the selling price is not allowed to rise above this level (maximum price). This happens with rent control. If the rents on affordable apartments in the big cities like New York were higher, many consumers would not be able to afford a home. Because these low rents (below natural equilibrium) prevent landlords from making much of a profit, they do not want to offer a lot of “low rent” apartments, so an artificial shortage occurs. P3P3 Price Ceiling Shortage

Equilibrium (continued) P Q D1D1 S1 E1E1 P1P1 Q1Q1 Remember, when you are working with Price Floors and Price Ceilings, that the house is upside- down. If you can remember that, you should not have any problem. It is the opposite from the way we are used to thinking of floors and ceilings. P3P3 Price Ceiling P2P2 Price Floor