Chapter-5

MARKET EQUILIBRIUM
I.Choose the correct answer (each question carries 1 mark)
1. In perfect competition, buyers and sellers are:
a) Price makers b)Price takers
c)Price analysts d)None of the above
2. A situation where the plans of all consumers and
firms in the market match
a)Inequilibrium situation b)equilibrium situation
c) maximisation situation d)partial equilibrium
3. As a result of increase in the number of firms there is
an increase in supply, then supply curve
a)shifts towards left b)shifts towards right
c)shifts towards both sides d) none of the above
4. The firms earn supernormal profit as long as the price
is greater than the minimum of
a)marginal cost b)total cost
c)average cost d)fixed cost
5. The government imposes upper limit on the price of
goods and services is called
a)price ceiling b)selling price
c)price floor d)none of the above

6. The government imposed lower limit on the price off

goods and services is called
 a)goods floor b)service floor
c)price floor d)none of the above
II. Fill in the blanks (each question carries 1 mark)
1. In a perfectly competitive market, equilibrium occurs
when the market demand equals market supply.
2. If the supply curve shifts rightwards and the demand
curve shifts leftward equilibrium price will be decreased.
3. Wage rate is determined at the point where the
demand for labour and supply of labour curves intersect.
4. In labour market households are the suppliers of
labour.
5. Due to rightward shift in both demand and supply
curves the equilibrium price may increase, decrease or
remain unchanged.
6. It is assumed that, in a perfectly competitive market
an Invisible hand is at play.
III. Match the following (each question carries 1 mark)

A B
1. Adam smith Operation of invisible
hand
2. Price ceiling Upper limit on price
3. Market equilibrium QD=QS
4. Possibility of Attraction of new firms
supernormal profit
 5. Price floor Lower limit on price
IV. Answer the following questions in a sentence/word.
(each question carries 1 mark)
1. Define market equilibrium.
Equilibrium is defined as a situation where the plans of all
consumers and firms in the market match and the market
clears.
2. What is equilibrium price?
The price at which equilibrium is reached is called
equilibrium price.
3. What is Price ceiling?
Government fixes a maximum allowable price for certain
goods. The government imposed upper limit on the price
of goods or services is price ceiling.
4. What is Price floor?
The government sets floor or minimum prices for certain
goods and services. The government imposed lower limit
on the price that may be changed for a particular goods or
services is called floor price.
5. Through which legislation, the government ensures
that the wages rate of the labourers does not fall below a
particular level?
The Minimum Wage Legislation of the government
ensures that the wage rate of the labourers does not fall
below a particular level.
V. Answer the following question in 4 sentences. (each
question carries 2 marks)
1. Define equilibrium Price and Quantity.
The price at which market demand equals market supply
or the price at which equilibrium is reached is called
equilibrium price.
The quantity bought and sold at equilibrium price is a
called equilibrium quantity.
2. How price is determined, when fixed number of firms
exists in perfect competition.
For a perfectly competitive market with a fixed number of
firms price is determined at equilibrium. Equilibrium
occurs at the intersection of the market demand curve DD
and market supply curve SS.
i.e. QD = QS
3. Write any two possible ways in which simultaneous
shift of both demand and supply curves.
The simultaneous shift can happen in four possible ways:
I. Both supply and demand curve shift rightwards.
II. Both supply and demand curve shift leftwards.
III. Supply curve shifts leftward and demand curve shifts
rightwards.
IV. Supply curve shifts rightward and demand curve shifts
leftward.
4. What is Marginal Revenue Product of labour
( M RP L ).
The extra output produced by one more unit of labour is
its Marginal Product ( M P L ) and by selling each extra unit
of output, the additional earning of the firm is the Marginal
Revenue (MR) from that unit. Therefore M RP L is the
additional made to total revenue product by employing
one more unit of labour.
M RP L = MR × M P L

5. Distinguish between excess demand and excess

supply.
If at a price, market supply is greater than market demand
we say that there is excess supply in the market at that
price.
q S ( p* )> q D ( p* )
If the market demand exceeds market supply at a price, it
is excess demand in the market at that price.
q D ( p* )> q S ( p* )
6. How wage is determined in the labour market?
In the labour market households are the suppliers of
labour and the demand for the labour comes from firms.
The wage rate is determined at the intersection of the
demand and supply curves of labour where the demand
for and supply of labour balance.
VI. Answer the following questions in 12 sentences. (each
question carries 4 marks)
1. What is the implication of free entry and exit of firm
on market equilibrium. Briefly explain.
The implication of free entry and exit of firm on market
equilibrium implies that no firm earns supernormal profit
or incurs loss by remaining in production or equilibrium
price will be equal to minimum average cost of firms.

Suppose at the prevailing market price each firm is

earning supernormal profit, new firms will enter the
market and supply curve shifts rightward, demand
remains unchanged. This causes the market price to
fall. As prices fall supernormal profits are slowly wiped
out. At this point, all firms are earning normal profits
no more.
If firms are earning less than normal profits at the
prevailing price, some firms will exit which will lead to
an increase in price with sufficient number of firms
and each firm will be earning normal profit.
Thus with free entry and exit firm will always earn
normal profit at prevailing market price.
2. Write a table to show the impact of simultaneous
shifts on equilibrium.
Impact on simultaneous shifts on equilibrium

Shift in Shift in Quantity Price

demand supply
leftward leftward decrease May
increase,
decrease
or remain
unchanged
rightward rightward increase May
increase or
decrease
or remain
unchanged
leftward rightward May decrease
increase,
decrease
or remain
unchang
ed
rightward leftward May increase
increase,
decrease
remain
unchngd
3. Write a note on Price ceiling.
Price ceiling: the government imposed upper limit on
the price of a good or service is called price ceiling.
Price ceiling is generally imposed on necessary items
like wheat, rice, kerosene, sugar etc.
Price ceiling is fixed below the market determined
price. Since at the market determined price some
section of the population will not be able to afford
these goods.
The intention of the government is to help the
consumers.
GRAPH
 The equilibrium price p* and quantity q * , price ceiling
is pc gives rise to excess demand q c .
Price ceiling is accompanied by rationing of goods.
Negative effects:
1. Consumers have to stand in long queues to buy
goods from ration shops.
2. It may result in black market.
4. Write a note on Price floor.
Price floor:
For certain goods and services, fall in price below a
particular level is not desirable and hence the
government sets floors or minimum prices for these
goods and services.
The government imposed lower limit on the price that
may be charged for a good or service is called price
floor.
Well known examples of imposition of price floor are
agricultural prices support programmes and the
Minimum Wage Legislation.
The floor price is normally set at a level higher than the
market determined price of these goods.
GRAPH.

Market equilibrium is at price p* and quantity q * . But

when the government imposes floor price at pf and
demand is q f and supply is q1f .
Thereby leading to an excess supply in the market.
VII. Answer the following questions in 20 sentences.
(each question carries 6 marks)
1. Explain the simultaneous shifts in demand and
supply curve in perfect competition with help of
diagrams.
When both demand and supply curves shift
simultaneously it brings a change in equilibrium price
and quantity.
Diagramatic representation of simultaneous shifts:
Rightward shift in both demand and supply curve:

OX axis measures quantity.

OY axis measures price.
Initially the equilibrium is at E where the demand curve
DD0 and supply curve SS 0 intersect. If both the supply
curve and demand curve shift rightward in the same
proportion, the new supply curve SS 1 and new demand
curve DD1 intersect at F, the equilibrium quantity
increases from q 0 to q 1 but price P remains
unchanged.
Leftward shift in demand curve and rightward shift in
supply curve:

OX axis measures quantity.

OY axis measures price.
Initially equilibrium is at E where the demand curve
DD0 and supply curve SS 0 .
The supply curve shifts rightwards SS 1 and demand
curve shifts leftward DD1 . The new equilibrium is F at
which quantity is unchanged q but lower equilibrium
price p1 .
2. Explain the market equilibrium with the fixed number
of firms along with the diagram.
Market equilibrium for a perfect competitive market
with fixed number of firms is determined by the
intersection of market demand curve and market
supply curve.
GRAPH.

OX axis measures quantity demanded and supplied.

OY axis measures price.
SS denotes market supply curve.
DD denotes market demand curve.
The market supply curve SS shows how much of the
commodity the firms would wish to supply at different
prices.
The market demand curve DD tells how much of the
commodity the consumers are willing to purchase at
different prices. Equilibrium occurs at a point where
market supply curve intersects the market demand
curve. The equilibrium quantity is q * and the equilibrium
price is p* .
At a price greater than p* that is p2 there will be excess
supply equal to q21 q 2 .
At a price below p* that is p1 there will be excess
demand in the market equal to q21 q 1 .
3. Suppose the demand and supply curves of wheat are
given by: qD = 200-P and qS = 120 + P
a) Find the equilibrium price.
b) Find the equilibrium quantity of demand and
supply.
c) Find the quantity of demand and supply when
P> equilibrium price.
d) Find the quantity of demand and supply when
P< equilibrium price.
a) Equilibrium price:
P * is when q D = q S
qD = qS
200-P=120+P
200-120=P+P
80=2P
P=40
Therefore Equilibrium Price ( P * )=₹40
b) Equilibrium Quantity:
qD = qS
q D =200-P q S =120+P
When P=40 When P=40
q D =200-40 q S =120+40
q D =160 kg q S =160 kg
q * =160 kg
c) Find the quantity of demand and supply when
P>Equilibrium Price:
When P=50
q D =200-50 q S =120+50
q D =150 kg q S =170 kg
qS > qD
Excess Supply.
d) Find the quantity of demand and supply when
P<Equilibrium Price:
When P=30
q D =200-30 q S =200-50
q D =170 kg q S =150 kg
qD > qS
Excess Demand
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