Equilibrium refers to a state where the quantity of supplied goods aligns with their existing demand, setting the equilibrium price. In other words, one can define equilibrium price – or market-clearing price – as the cost attached to a product so that the supply and demand are equal. Dynamic factors, such as changes in supply and demand, economic conditions, and consumer preferences, can shift the balance, often resulting in price adjustments.
Determining how to calculate equilibrium price involves a dynamic interplay between factors like supply, demand, and market conditions. This calculation ensures that the market reaches a point of equilibrium where neither surpluses nor scarcities disrupt the equilibrium price.
Understanding equilibrium
The point of equilibrium price occurs when the supply of goods aligns with demand. When a significant market index undergoes a consolidation phase or moves sideways, the supply and demand forces are relatively balanced, marking a state of equilibrium in the market.
Economists observe that prices tend to stay close to these equilibrium levels. Market dynamics prompt sellers to increase production when the price rises excessively. Conversely, more buyers join the fray if the price drops too low, driving the price upward. These actions contribute to maintaining the equilibrium level for prolonged periods.
Special considerations
Economists, including notable figures like Adam Smith, believe that an unregulated market would naturally gravitate towards a state of equilibrium. To illustrate the equilibrium meaning, envision a scenario where a scarcity of a particular good leads to an increase in its price. This prompts a decrease in demand, subsequently incentivising an increase in supply when appropriate motivations exist. Conversely, if an oversupply arises in a specific market, a parallel sequence of events unfolds, albeit in the opposite direction.
Contemporary economic thought emphasises that factors beyond simple supply and demand dynamics can influence the determination of equilibrium pricing. Cartels and monopolistic entities, for instance, can artificially maintain elevated prices, thereby retaining them at levels that optimise profits. A case in point is the diamond industry, where an ongoing demand for these precious gems coexists with a deliberately restricted supply. This calculated limitation, imposed by companies seeking to sustain elevated prices, exemplifies how equilibrium prices can be influenced in intricate ways.
Equilibrium vs disequilibrium in markets
A market is considered to be in equilibrium when supply and demand balance, resulting in stable prices. Conversely, disequilibrium occurs when this balance is disrupted. Such imbalances can manifest abruptly in otherwise stable markets or can be an inherent characteristic of specific market structures.
Disequilibrium in one market can often propagate to others. For example, shortages in transportation or resources can curtail the supply of goods like coffee in certain regions, thereby disrupting the equilibrium in coffee markets. Many economists contend that labour markets frequently operate in a state of disequilibrium due to the influence of legislation, public policy, and employment protections.
Types of equilibrium
Economic equilibrium: Economic equilibrium encompasses a state within the economy where opposing forces achieve a state of equilibrium. This can manifest in market prices where supply equals demand but also represent employment levels and interest rates.
Competitive equilibrium: Competitive equilibrium is achieved through competitive dynamics. Sellers strive to become low-cost producers to gain a larger market share, while buyers seek to secure the best deals through competition.
General equilibrium: General equilibrium transcends individual market forces and delves into macroeconomic dynamics. This principle, integral to Walrasian economics, aggregates forces at the broader economic level.
Underemployment equilibrium: Underemployment equilibrium highlights persistent unemployment despite reaching general equilibrium. In Keynesian economics, underemployment equilibrium occurs when the economy operates below its potential output. The inadequate demand leads to high unemployment or underutilisation of resources.
Lindahl equilibrium: Lindahl equilibrium proposes an ideal scenario where the optimal production of public goods aligns with equitable cost-sharing among individuals. Although rarely realised, this concept guides tax policy and holds significance in welfare economics.
Intertemporal equilibrium: Intertemporal equilibrium considers the temporal aspect of price fluctuations caused by supply and demand shifts.
Nash equilibrium: Nash equilibrium is a cornerstone of game theory and represents a strategic state where optimal decision-making involves considering the actions of other participants or opponents in a game.
Example of equilibrium
Suppose a new smartphone is launched in the market, generating substantial consumer excitement. Initially, the demand for the smartphone outpaces its supply. As a result, the smartphone’s price starts to increase due to high demand and limited availability. However, as time passes, manufacturers respond to the increased demand by ramping up production.
With more units becoming available, the supply gradually catches up with the demand. This leads to a stabilisation of the price as the market approaches equilibrium. At the equilibrium price, the quantity of smartphones supplied matches the quantity consumers demand. This balance between supply and demand prevents further drastic price fluctuations.
What happens during market equilibrium?
During market equilibrium, the supply and demand for a particular product or service align perfectly, resulting in a stable and balanced state. At this point, the quantity supplied equals the quantity demanded, leading to consistent pricing and market forces correcting any imbalances. Market equilibrium represents a point of harmony where buyers and sellers find mutual satisfaction, and the market operates with minimal fluctuations.
How do you calculate equilibrium price?
To calculate equilibrium price, you must equate the supply and demand functions and solve for the price. How equilibrium price is determined is by finding the point where the quantity demanded equals the quantity supplied, thus balancing market dynamics. It’s essentially the market price that naturally emerges when buyers and sellers reach a mutual agreement.
What is equilibrium quantity?
Equilibrium quantity represents the specific volume of a good or service exchanged in a market when supply and demand are perfectly balanced. This occurs at the intersection of the supply and demand curves, indicating a state of market equilibrium where the quantity of goods producers are willing to supply matches the quantity consumers are willing to purchase at a given price.
