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The word “equilibrium” means “balance.” If a market is at its equilibrium price and quantity, then it has no reason to move away from that point. However, if a market is not at equilibrium, then economic pressures arise to move the market toward the equilibrium price and the equilibrium quantity.

Imagine, for example, that the price of a gallon of gasoline was above the equilibrium price—that is, instead of $1.40 per gallon, the price is $1.80 per gallon. This above-equilibrium price is illustrated by the dashed horizontal line at the price of $1.80 in [link] . At this higher price, the quantity demanded drops from 600 to 500. This decline in quantity reflects how consumers react to the higher price by finding ways to use less gasoline.

Moreover, at this higher price of $1.80, the quantity of gasoline supplied rises from the 600 to 680, as the higher price makes it more profitable for gasoline producers to expand their output. Now, consider how quantity demanded and quantity supplied are related at this above-equilibrium price. Quantity demanded has fallen to 500 gallons, while quantity supplied has risen to 680 gallons. In fact, at any above-equilibrium price, the quantity supplied exceeds the quantity demanded. We call this an excess supply    or a surplus    .

With a surplus, gasoline accumulates at gas stations, in tanker trucks, in pipelines, and at oil refineries. This accumulation puts pressure on gasoline sellers. If a surplus remains unsold, those firms involved in making and selling gasoline are not receiving enough cash to pay their workers and to cover their expenses. In this situation, some producers and sellers will want to cut prices, because it is better to sell at a lower price than not to sell at all. Once some sellers start cutting prices, others will follow to avoid losing sales. These price reductions in turn will stimulate a higher quantity demanded. So, if the price is above the equilibrium level, incentives built into the structure of demand and supply will create pressures for the price to fall toward the equilibrium.

Now suppose that the price is below its equilibrium level at $1.20 per gallon, as the dashed horizontal line at this price in [link] shows. At this lower price, the quantity demanded increases from 600 to 700 as drivers take longer trips, spend more minutes warming up the car in the driveway in wintertime, stop sharing rides to work, and buy larger cars that get fewer miles to the gallon. However, the below-equilibrium price reduces gasoline producers’ incentives to produce and sell gasoline, and the quantity supplied falls from 600 to 550.

When the price is below equilibrium, there is excess demand    , or a shortage    —that is, at the given price the quantity demanded, which has been stimulated by the lower price, now exceeds the quantity supplied, which had been depressed by the lower price. In this situation, eager gasoline buyers mob the gas stations, only to find many stations running short of fuel. Oil companies and gas stations recognize that they have an opportunity to make higher profits by selling what gasoline they have at a higher price. As a result, the price rises toward the equilibrium level. Read Demand, Supply, and Efficiency for more discussion on the importance of the demand and supply model.

Key concepts and summary

A demand schedule is a table that shows the quantity demanded at different prices in the market. A demand curve shows the relationship between quantity demanded and price in a given market on a graph. The law of demand states that a higher price typically leads to a lower quantity demanded.

A supply schedule is a table that shows the quantity supplied at different prices in the market. A supply curve shows the relationship between quantity supplied and price on a graph. The law of supply says that a higher price typically leads to a higher quantity supplied.

The equilibrium price and equilibrium quantity occur where the supply and demand curves cross. The equilibrium occurs where the quantity demanded is equal to the quantity supplied. If the price is below the equilibrium level, then the quantity demanded will exceed the quantity supplied. Excess demand or a shortage will exist. If the price is above the equilibrium level, then the quantity supplied will exceed the quantity demanded. Excess supply or a surplus will exist. In either case, economic pressures will push the price toward the equilibrium level.

Problems

Review [link] again. Suppose the price of gasoline is $1.00. Will the quantity demanded be lower or higher than at the equilibrium price of $1.40 per gallon? Will the quantity supplied be lower or higher? Is there a shortage or a surplus in the market? If so, of how much?

Got questions? Get instant answers now!

References

Costanza, Robert, and Lisa Wainger. “No Accounting For Nature: How Conventional Economics Distorts the Value of Things.” The Washington Post . September 2, 1990.

European Commission: Agriculture and Rural Development. 2013. "Overview of the CAP Reform: 2014-2024." Accessed April 13, 205. http://ec.europa.eu/agriculture/cap-post-2013/.

Radford, R. A. “The Economic Organisation of a P.O.W. Camp.” Economica . no. 48 (1945): 189-201. http://www.jstor.org/stable/2550133.

Questions & Answers

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Omben Reply
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Alex Reply
What is an indifference curve?
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different levels of utilities of a person in a given set of bundles of goods
RAM
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Jean
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The Law of Diminishing (Marginal) Returns simply states that at some point in time a business/operation/etc.'s increased productivity will begin to decline.
The
For example, if a small pizza shop currently has 3 workers in the kitchen at any given time,and hiring 1 more worker will increase productivity, at some number of workers hired will the business see a decrease in productivity because the capital resources that the pizza shop has is not infinite.
The
Five social benefits of building a hospital, in my opinion and depending on where it's built, would be 1) Increased care for neighboring residents, 2) Potential jobs for individuals, 3) May decrease the travel time residents need to endure in order to reach the nearest hospital
The
4) May create work-study programs for individuals who aspire to be future Doctors, Nurses, Physicians, etc. 5) Assuming there are local pharmaceutical businesses nearby, the hospital may decide to purchase supplies local, increasing the business' sales. Thus, generating more income.
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5 costs of building a hospital would be 1) Increased noise and waste pollution from service vehicles and hospital visitors, 2) May require large amounts of space, possibly jeopardizing nearby animal habitats, 3) May see an increase in traffic and possibly car accidents from frantic individuals
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racing to see their injured friends, family members, etc. 4) Constructing a hospital and hiring staff is very expensive 5) To use funds, private or public, to finance the construction of a hospital cannot be used to fund any other projects. (The concept of opportunity costs.)
The
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Mugen
We use a Supply and Demand graph to illustrate at what price level will the market for a certain good or service be at equilibrium. If the price for a good or service is set too high, consumers will be less inclined to buy that product Thus, creating a surplus.
The
This surplus will eventually drive the price back down to it's equilibrium point. Similarly, if a price for a good or service is set too low, individuals would be more inclined to buy more of a certain product, creating a shortage. This shortage will cause sellers to drive the price back up to the
The
equilibrium point.
The
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Wisdom Reply
no
Oigebe
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nondumiso Reply
1.Explicit Collusion: Also termed overt collusion, this occurs when two or more firms in the same industry formally agree to control the market .
Gafar
2.Implicit Collusion: Also termed tacit collusion, this occurs when two or more firms in the same industry informally agree to control the market, often through nothing more than interdependent actions. A prime example of implicit collusion is price leadership .
Gafar
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Panashe
implicit collusion this occurs when two or more firms in the same industry illegally agree to control the market
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Godwin
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Victoria Reply
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Pam Reply
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EWAH Reply
An industry is the production of goods and related services within an economy
Prabhu
an industry is place where goods and services are produced for human consumption....
Usman
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economics is a social sciences that deals with the production distribution and consumption of goods and services produced.its study of behaviour between economic agents
rkesh
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change in demand/change in variable variable may be price, income,
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seasonal unemployment
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example agriculture
lungku
want and scarcity
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What is monopoly
Gadrey
monopoly
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monipoly ..where one firm controls all the market
RAM
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demand is what one willing and enable to purchase at a given price over period of a time.
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just

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Source:  OpenStax, Principles of economics. OpenStax CNX. Sep 19, 2014 Download for free at http://legacy.cnx.org/content/col11613/1.11
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