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Equilibrium price is the price at which the quantity demanded of a good or service is equal to the quantity supplied. A market that is in a state of equilibrium is considered to be efficient, and is a prerequisite condition of a healthy economy.
Solving for Equilibrium Price
To solve for the equilibrium price, one must either plot the supply and demand curves, or solve for their equations being equal.
An example may be:
Qd = 189 - 2.25*Price
Qs = 124 + 1.5*Price
→ 189 - 2.25P = 124 + 1.5*P -124 -124 → 65 - 2.25*P = 1.5*P +2.25*P +2.25*P → 65/3.75*P = 3.75*P/3.75*P Price = $17.33 In the diagram, depicting simple set of supply and demand curves, the quantity demanded and supplied at price P are equal. File links The following pages link to this file: Supply and demand Categories: GFDL images ...
At any price above P supply exceeds demand, while at a price below P the quantity demanded exceeds that supplied. In other words, prices where demand and supply are out of balance are termed points of disequilibrium, creating shortages and oversupply. Changes in the conditions of demand or supply will shift the demand or supply curves. This will cause changes in the equilibrium price and quantity in the market.
Consider the following demand and supply schedule:
- The equilibrium price in the market is $5.00 where demand and supply are equal at 12,000 units Image File history File links Supply_and_demand_table. ...
- If the current market price was $3.00 – there would be excess demand for 8,000 units, creating a shortage.
- If the current market price was $8.00 – there would be excess supply of 12,000 units.
When there is a shortage in the market we see that, in order to correct this disequilibrium, the price of the good will be increased back to a price of $5.00, thus lessening the quantity demanded and increasing the quantity supplied thus that the market is in balance.
When there is an oversupply of a good, such as when price is above $5.00, then we see that producers will decrease the price in order to increase the quantity demanded for the good, thus eliminating the excess and taking the market back to equilibrium.
Influences changing price A change in equilibrium price will occur through a change in either the supply or demand schedules. For instance, and increase in demand through an increase level of disposable income may produce a new demand and supply schedule, such as the following: Disposable income is the amount of an individuals total income left after taxes, plus any transfer payments (grants) received from the government or elsewhere. ...
Here we see that an increase in disposable income would increase the quantity demanded of the good by 4,000 units at each price. This has the effect of changing the price at which quantity supplied equals quantity demanded. In this case we see that the two equal each other at an increased price of $6.00. This increase in demand would have the effect of shifting the demand curve rightward. Note that a decrease in disposable income would have the exact opposite effect on the equilibrium market. Image File history File links Supply_and_demand_table2. ...
We will also see similar behaviour in price when there is a change in the supply schedule, occurring through changes in technological or through changes in business costs. An increase in technology or decrease in costs would have the effect of increasing the quantity supplied at each price, thus reducing the equilibrium price. On the other hand, a decrease in technology or increase in business costs will decrease the quantity supplied at each price, thus increasing equilibrium price.
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