Econ: Equilibrium

In the real world, demand and supply operate together. As the price of a good or service goes down, the quantity demanded rises and the quantity supplied falls. As the price goes up, the quantity demanded decreases and the quantity supplied increases. The quantity demanded and the quantity supplied meet at the equilibrium price. At this price, the quantity supplied by the sellers is the same as the quantity demanded by the buyers. Put the demand and supply curves on one graph and the point where the two curves intersect is the equilibrium point.

shortage v surplus D-S graph
Demand and supply interact to drive prices for goods and services to the equilibrium level. The equilibrium price is also known as the market clearing price or the “right” price. Disequilibrium occurs when prices are set above or below the equilibrium price. When prices are too low, excess demand leads to shortages. When prices are too high, excess supply leads to surpluses.

One of the benefits of the market economy is that when it operates without restrictions, it eliminates shortages and surpluses. Whenever shortages occur, the market ends up taking care of itself and the price goes up to eliminate the shortage. Whenever surpluses occur, the market again ends up taking care of itself and the price falls to eliminate the surplus.

Government sometime implements price controls when prices are considered unfairly high for consumers or unfairly low for producers. Price floors prevent prices from going too low, but lead to excess supply. Price ceilings prevent prices from going too high, but lead to shortages. These shortages often lead to nonmarket ways of distributing goods and services. The government may resort to rationing or limiting items that are in short supply. The shortages may also lead to a black market, in which illegally high prices are charged for items that are in short supply.

1) Read Chapter 6.1-6.3 pp.99-105



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