Equilibrium; Price Effects of Supply and Demand Curve Shifts; Price Controls and Floors

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The Power of Microeconomics: Economic Principles in the Real World

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University of California, Irvine

The Power of Microeconomics: Economic Principles in the Real World

865 notes

In this course, you will learn all of the major principles of microeconomics normally taught in a quarter or semester course to college undergraduates or MBA students. Perhaps more importantly, you will also learn how to apply these principles to a wide variety of real world situations in both your personal and professional lives. In this way, the Power of Microeconomics will help you prosper in an increasingly competitive environment. Note that this course is a companion to the Power of Macroeconomics. If you take both courses, you will learn all of the major principles normally taught in a year-long introductory economics college course.

À partir de la leçon

Supply, Demand and Equilibrium

The Law of Demand, Income/Substitution Effects, and Shift Factors6:40

Change in Demand vs. Change in Quantity Demanded; The Market Demand and Supply Curves; Supply Curve Shift Factors 5:43

Equilibrium; Price Effects of Supply and Demand Curve Shifts; Price Controls and Floors 5:04

The Market Allocates Goods & Resources- What, For Whom, and How; Some Cool Examples 10:01

Rencontrer les enseignants

Dr. Peter Navarro
Professor
Paul Merage School of Business

Now let's get to the really fun stuff, showing how the forces of supply and

demand lead to a so-called equilibrium in

the market and thereby set the market price.

And let's start out by defining what an equilibrium is.

The concept itself comes from physics.

Specifically classical mechanics. To say something is in equilibrium

is to say that the dynamic forces pushing on it cancel each other out.

In supply and demand analysis, equilibrium means that the upward pressure

on price is exactly offset by the downward pressure on price.

The equilibrium price is the price towards

which the invisible hand drives the market.

Let's illustrate this point with this figure.

Here we marry the supply and

demand curves that we developed in our corn flakes example.

Note that where the two curves cross, the price is 3 and the quantity is 12.

Now, my claim is that through the forces of supply and

demand, this is where the equilibrium price is going to be.

And let me prove that to you with a couple of experiments.

Let's first suppose that the price is 5 instead of 3.

In this case, firms are willing to supply 18 million boxes

of corn flakes, but consumers demand only 9 million at that price.

At this price then, we have a surplus in the market.

An excess of quantities supplied over quantity demanded.

This surplus by the way, is equal to point b

in the curve minus point a, or 9 million boxes.

So what you think happens next?

You guessed it.

With all those extra boxes of corn flakes piling up

in their warehouses, firms will start lowering their price, and

they will keep lowering it right up until a point

where the surplus disappears at point C in the graph.

Now, how about instead of the price being too high, it starts

out too low in the cornflakes market, say at 2 instead of 3.

In this case, consumer will demands 15 million boxes, but

firms will be willing to supply only 7 million boxes.

In this case, we have a shortage of 8 million boxes.

A excess of quantity demanded over quantity supplied.

So what you think firms are going to do in this situation?

With consumers clamoring for their product, the best guess is

that they will raise the price and they will keep on

raising the price right up until it reaches the point

where demand and supply are in balance in the market clears.

By now you should be getting to see just how powerful the apparatus of

supply and demand is in helping us to predict changes in our market system.

For example, suppose a drought in

the Midwest severely damages the wheat harvest.

Since wheat is a key ingredient of bread, this

will shift the supply curve for bread to the left.

This is illustrated in this figure. Where the bread

supply curve has shifted from S S to S prime S prime.

Note however that the demand curve has not shifted.

This is because people have the same desire for

their daily sandwich whether the harvest is good or bad.

So what do you think happens next?

Well, the bad harvest causes bakers to produce less bread at the old price.

So quantity demanded exceeds quantity supplied.

The price of bread therefore rises

encouraging production and thereby raising quantity supplied.

This simultaneously discourages consumption and lowers quantity demanded.

And the price continues to rise until at the new equilibrium price, the amounts

demanded and supplied are once again equal.

This new equilibrium is founded E double prime.

The intersection of the new supply curve, S

prime S prime and the original demand curve.

Thus a bad harvest or any leftward shift at the supply curve, raises

prices and by the law of downward slope in demand, lowers quantity demanded.

In contrast, suppose that a new baking

technology lowers costs and therefore increases supply.

This means the supply curve shifts down in to the right.

Try drawing this curve, and you see why the equilibrium price

is lower and the equilibrium quantity higher at E double prime.

This table summarizes the effect of price and quantity of different demand

and supply shifts. Try and replace the question marks with up

or down arrows. Does your table look like this?

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