So, when I say equilibrium it sounds scary right? But we know what equilibrium means. It is derived from the word "equal". Furthermore you have just read the two previous pages on demand and supply. Equilibrium basically combines the demand curve and the supply curve and displays them on one chart. This is why the axes of both curves are always quantity (x axis) and price (y axis).
So, here's what the basic graph looks like:
We can see that equilibrium occurs for this particular market at p1,q1 and this means that the demand for a given product equals the supply of that product. Equilibrium may also be referred to as "Market Clearing" as every unit is sold to a consumer.
Therefore the supplier neither has a surplus of stock or a shortage. The market aims to achieve equilibrium for this reason and the fact that if the market moves away from this point there will be pressures on price. If a move occurs, the market aims to get back towards equilibrium by either altering the amount of supply to the market or manipulating demand (often by using prices.) This page explores the effects of moving away from market equilibrium.
A market operating outside of Equilibrium
The graph below appears scary, but don't worry it's simple.
NB. The new black lines indicate where the four red points meet the axes and are purely for reference purposes.
So take a point above the equilibrium. We can see that the quantity demanded seems to be a great deal below the quantity supplied to the market. Therefore the supplier cannot sell all of their units so may not break even. This is called a Surplus or a Glut. Naturally there is a need to get back to equilibrium and so there must be an increase in demand (extension) or a decrease in supply (contraction).
We can see that increasing demand is the more logical thing to do here or suppliers can just slow down production so that in the future they don't have as much surplus. The top two purple arrows show the movement along the two curves towards p1,q1 and this of course balances things out. One of the first things we learn as novice economists is that when supply outweighs demand, prices are relatively low (or there is downward pressure on price.) We've all seen retailers sell off unwanted surpluses of stock at discount prices to get rid of them. I should imagine the Justin Bieber album will be going cheap as there is a huge glut and nobody demands his music!
What about points below the equilibrium point?
This time the quantity demanded is greater than the quantity supplied. This is basically the opposite of a market operating above equilibrium. Thus means that there will be a shortage meaning that not everyone will be able to be supplied with the product they demanded and so the free market system uses prices again to sort out the problem.
There will of course be upward pressure on price which makes sense when we look at diamonds. There is lots of demand for diamonds but diamond supplies are extremely scarce which is why they are so expensive to buy.
So, supply needs to be increased (extension) or demand needs to be reduced (contraction) in order to return to operating near to the equilibrium point.
Page 1 - Demand , Page 2 - Supply
So, I hoped you enjoyed your introduction to demand & supply. But it's important to note that for policymakers, manipulating demand or supply isn't as easy as you might think. Now if you're ready, you might like to read about elasticity...
No comments:
Post a Comment