Post on 17-Dec-2015
MARKET EQUILIBRIUM
MARKET EQUILIBRIUM Market equilibrium exists when quantity
demanded (Qd) equals quantity supplied (Qs). It can be determined by the intersection
between demand and supply curves. At equilibrium, there is no tendency for the
market price to change. Equilibrium Price - The price that balances supply
and demand. On a graph, it is the price at which the supply
and demand curves intersect. Equilibrium Quantity - The quantity that balances
supply and demand. On a graph it is the quantity at which the supply
and demand curves intersect.
Price (RM) Quantity 0.00 0
0.50 0 1.00 1 1.50 4 2.00 7 2.50 10 3.00 13
Price (RM) Quantity 0.00 19
0.50 16 1.00 13 1.50 10 2.00 7 2.50 4 3.00 1
Demand Schedule
Supply Schedule
At RM2.00, the quantity demanded is equal to the
quantity supplied!
Supply
Demand
Price of Ice-Cream Cone
Quantity of Ice-Cream Cones
Equilibrium of Supply and Demand
21 3 4 5 6 7 8 9 10
12
11
0
RM3.00
2.502.00
1.501.00
0.50
Surplus When Qs exceeds Qd there is excess supply or a
surplus Happens when price is above the equilibrium
price. Suppliers will lower the price to increase sales,
thereby moving toward equilibrium
Shortage When Qd exceeds Qs there is excess demand or
a shortage. Happens when price is below the equilibrium
price. Suppliers will raise the price due to too many
buyers chasing too few goods, thereby moving toward equilibrium.
Price of Ice-Cream Cone
Quantity of Ice-Cream Cones
21 3 4 5 6 7 8 9 10 12
11
0
RM3.00
2.50
2.00
1.501.00
0.50
Supply
Demand
Surplus
Shortage
WHAT CAUSES A CHANGE IN MARKET EQUILIBRIUM?
A change in demandA change in supply
Three Steps To Analyzing Changes in Equilibrium
Decide whether supply or demand curve shifts (or both shift).
Decide whether the curve(s) shift(s) to the left or to the right.
Examine how the shift affects equilibrium price and quantity.
EFFECT OF CHANGES IN DEMANDIncrease in
DemandPrice (RM)
Qty (Unit)
P1
P0
Q1Q0
S0
D0
D1
- Increase in demand – D curve shift to the right (D0 to D1) e.g: increase in population.
- New equilibrium (E0 to E1)- Higher demand leads to
higher equilibrium price (P0 to P1) and higher equilibrium quantity (Q0 to Q1) .
E0
E1
EFFECT OF CHANGES IN DEMAND
Decrease in Demand
Price (RM)
Qty (Unit)
P0
P1
Q0Q1
S0
D1
D0
- decrease in demand – D curve shift to the left (D0 to D1)
- e.g: decrease in income.- New equilibrium (E0 to E1)- Lower demand leads to
lower equilibrium price (P0 to P1) and lower equilibrium quantity (Q0 to Q1).
E0
E1
EFFECT OF CHANGES IN SUPPLY
Increase in Supply
Price (RM)
Qty (Unit)
P0
P1
Q1Q0
S0
S1
D0
- increase in supply – S curve
shift to the right (S0 to S1)- e.g: increase in numbers of seller. - New equilibrium (E0 to E1)- Higher supply leads to lower equilibrium price (P0 to P1) and higher equilibrium quantity (Q0 to Q1).
E0
E1
EFFECT OF CHANGES IN SUPPLY
Decrease in Supply
Price (RM)
Qty (Unit)
P1
P0
Q0Q1
S0
S1
D0
- decrease in supply – S curve
shift to the left (S0 to S1)- e.g: increase in cost of
production - New equilibrium (E0 to E1)- Lower supply leads to higher equilibrium price (P0 to P1) and lower equilibrium quantity (Q0 to Q1).
E1
E0
Price (RM)
Qty (Unit)
P0
P1
Q1Q0
S0
S1
D1
E0
E1
CHANGES IN EQUILIBRIUM PRICE & CHANGES IN EQUILIBRIUM PRICE & OUTPUTOUTPUT
Simultaneous Change: Demand and Supply
D0
• The relative The relative magnitudes of change magnitudes of change in supply and demand in supply and demand determine the determine the outcome of market outcome of market equilibrium.equilibrium.
GOVERNMENT INTERVENTION IN MARKETSMAXIMUM PRICE/CEILING PRICE
Government-imposed regulations that prevent prices from rising above a maximum level
Price
Quantity
D S
P*
Q*
The equilibrium price is P* and the, quantity is Q*
P1
Price ceiling
The government imposes a maximum price of P1
Q1Q2
Suppliers reduce the amount offered to Q1 but demand would rise to Q2 creating a shortage
Shortages occur
Advantage:
• Consumers purchase at lower price
Disadvantages:• Shortages• Unfair to sellers (lower P)• Emergence of black market• Exploitation of customers• Hoarding activity
GOVERNMENT INTERVENTION IN MARKETS
MINIMUM PRICE/FLOOR PRICEGovernment-imposed regulations that prevent prices from falling below a minimum level
Price
Quantity
D
S
P*
Q*
P1 Pmin
The government imposes a minimum price of P1
Q1 Q2
Surplus
Disadvantages:• Unfair to consumers (Higher P)• Surplus-Waste of resources•Unfair to taxpayers – tax used to buy surplus
The equilibrium price is P* and the quantity is Q*.
Suppliers increase the amount offered to Q2 but demand drop to Q1 creating a surplus
Advantages:• Protects the producer’s income• Higher wage rate
PRODUCERS’ SHARE
CONSUMERS’ SHARE
The tax amount of RM4 is shared equally between buyer and seller
EFFECT OF TAXATION
INDIRECT TAXTax that is imposed by the government on producers or sellers but paid by or passed on to end-users
Price
Quantity
D
S
12
400
14
S1
200
The equilibrium price is RM12 and the quantity is 400
10
Tax
= RM4
The government imposes a sales tax of RM4 per carton
S curve shift to left from S to S1 and new equilibrium is RM14 and 200 units
S + tax (RM4)
S
0
12
15
400
D
CONSUMERS’SHARE
11PRODUCERS’ SHARE
P
Q
Demand less elastic than supply
S + tax
S
O
12
16
400
D
CONSUMERS SHARE
P
Q
Perfectly inelastic demandPerfectly inelastic demand
S + tax
S
O
9
12
13
400
D
P
Q
PRODUCERS’ SHARE
Demand is more elastic than supplyDemand is more elastic than supply
CONSUMERS' SHARE
S + tax
PRODUCERS’’ SHARE
P
Q O
18
12
400
D
S
Incidence of tax: elastic supplyIncidence of tax: elastic supply
PRODUCER’S SHARE
CONSUMER’S SHARE
EFFECT OF SUBSIDIES
SUBSIDYAn incentive from the government to encourage producers to produce more
Price
Quantity
D
S
45
20
50
S1
10
The equilibrium price is RM50 and the quantity is 10
40
Subs
idy
= RM10
The government provides a subsidy of RM10 per unit
SS curve shifts to the right from S to S1 and new equilibrium is RM45 and 20 units
The subsidy amount of RM10 is shared equally between buyer and seller
EFFECT OF SUBSIDIESDemand less elastic than supply
S +sub
S
O
40
4750
10
D
P
Q
CONSUMERS’ SHARE
PRODUCERS’ SHARE
S
0
43
50
10
D
CONSUMERS’ SHARE
40PRODUCERS ’ SHAREPRODUCERS’ SHARE’
P
Q
Demand less elastic than supply
S+ sub (RM4)
MARKET FAILURE
Market failure exists when a free market is unable to deliver an efficient allocation of resources which leads to a loss of economic efficiency.
Causes of market failure
1. Externalities
2. Existence of monopoly power
3. Public goods
4. Incomplete information