Market equilibrium

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Market equilibrium

• Outline
• 1. Demand and supply
• 2. The interaction of demand supply
• equilibrium p, q
• 3. Movement to a new equilibrium
• 4. Impediments to the market mechanism

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1. The market - demand supply

• Exchange
• markets - prices act as a signal
• Producer (supply)
• Consumer (demand)
• Competitive market
• medium of exchange
• competition
• full information
• strong institutions social custom

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1.1 Consumer demand

• Determinants of consumer demand
• (a) price
• demand curve demand function
• Qd a - bP
• Movements along the demand curve
• Price rise move up
• Price fall move down

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Market demand for potatoes (monthly)
Market demand (tonnes 000s) 700 500 350 200 100
Price (pence per kg) 20 40 60 80 100
Point
E
A B C D E
D
C
Price (pence per kg)
B
A
Demand
Quantity (tonnes 000s)
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Consumer demand

• Determinants of demand (shifts)
• (b) income - level distribution
• (c) price of substitutes complements
• (d) demography age structure
• (e) tastes fashion - advertising
• (f) seasonal
• (b)-(f) lead to shifts in the demand curve

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1.2 Supply

• Determinants of supply
• price
• supply curve and supply function
• technological innovation - product and/or process
• change in price of factor inputs
• disasters - natural human
• strikes, regulation, organisation of the firm

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Supply

• The supply curve function
• Qs a bP
• Movements along the curve
• Shifts in the supply curve

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Market supply of potatoes (monthly)
Supply
P 20
Q 100
a
Price (pence per kg)
a
Quantity (tonnes 000s)
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2. The interaction of demand supply

• Equilibrium price and quantity
• D S i.e. market clearing
• Excess demand (shortages)
• Excess supply (gluts)
• Equilibrium - definition
• a point of balance or a point of rest a point
  to which there is a tendency to move.

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The determination of market equilibrium
(potatoes monthly)
E
e
Supply
d
D
c
C
Price (pence per kg)
a
A
Demand
Quantity (tonnes 000s)
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3. Movement to a new equilibrium

• A) A shift in demand
• e.g. a rise in consumer income
• demand schedule shifts right
• p and q rise
• e.g. a fall in the price of substitutes
• demand schedule shifts left
• p and q fall

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Effect of a shift in the demand curve
P
S
g
Pe1
D1
O
Qe1
Q
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3. Movement to a new equilibrium

• B) A shift in supply
• e.g. costs of production rise e.g. wages rise
• supply curve shifts left
• p rises and q falls
• e.g. an improvement in technology
• supply curve shifts right
• p falls and q rises

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Effect of a shift in the supply curve
P
S1
g
Pe1
D
O
Qe1
Q
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3. Movement to a new equilibrium

• C) Simultaneous shift in demand and supply
• price of a complement falls e.g. CD players AND
• cost of producing CDs falls
• what would happen?

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4. Impediments to the operation of markets

• Competitive markets
• What if government intervenes?
• A) price ceiling (e.g. rents) - under-supply
• B) minimum wage - unemployment - excess supply
• C) Taxes - e.g. pollution taxes - shift supply
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