2.

4 Equilibrium Market Prices

and
2.5 Linear Equilibrium (HL)
IB Economics
Equilibrium Market Price – Success Criteria:
I can
1. Draw any market in equilibrium using a supply and demand
diagram and label the equilibrium price and quantity.
2. Analyse how changes in the determinants of D&S result in
downward pressure on market price? (Excess Supply)
3. Analyse how changes in the determinants of D&S result in
upward pressure on market price? (Excess Demand)
4. What can cause a market equilibrium price to change? Draw
this happening in two separate ways.
 The concept of the equilibrium price
• Equilibrium means a state of equality between
demand and supply
• The equilibrium price in a market is known as the
market-clearing price
– At this price there is no excess demand or excess
supply
– The quantity that producers wish to sell equals
the quantity that consumers wish to buy at that
price
As you know changes in the conditions of demand or supply will
shift the demand or supply curves. This will cause changes in
the equilibrium price and quantity in the market
 The Market Equilibrium
Price
Supply

The normal
free market
P1
equilibrium
price is P1 and
quantity is Q1

Demand

Q1 Quantity
 Excess Demand
When market price is lower than the market
equilibrium (i.e. P2), demand exceeds
Price
supply (a market shortage equal to Q3-Q2)
There is therefore upward pressure on
Supply
market price

P1

P2

Demand

Q2 Q1 Q3 Quantity
 Excess Supply
When market price is higher than the market
equilibrium, supply exceeds demand (a market
Price surplus)
There is therefore downward pressure on the Supply
market price
P3

P1

Demand

Q2 Q1 Q3 Quantity
 Disequilibrium
• Note that if we have excess supply or excess demand
then we are operating at disequilibrium in this market.
• Price is unusually high = more firms are willing to
supply - less is demanded by consumers - excess
supply.
• Price is unusually low = fewer firms are willing to
supply the good – more is demanded – excess
demand.
• Excess supply = now a downward pressure on price.
• Excess demand = now an upward pressure on price.
 Shifts in market demand
• The demand curve may shift to the right (increase) for
several reasons:
• A rise in the price of a substitute or a fall in the price of
a complement
• An increase in consumers’ income or wealth
• Changing consumer tastes and preferences in favour of
the product
• A fall in interest rates (i.e. bank borrowing rates or
mortgage interest rates)
• A general rise in consumer confidence and optimism
 Changes in market demand
An Inward Shift in Demand An Outward Shift in Demand
Price Price
Supply
Suppl
y

P2
P1
P1
P2

D2
D1 D1

D2

Q2 Q1 Quantity Q1 Q2 Quantity
 Changes in market supply
• The supply curve may shift outwards if there is
• A fall in the costs of production (e.g. a fall in labour or raw
material costs)
• A government subsidy to producers that reduces their costs
for each unit supplied
• Favourable climatic conditions causing higher than yields
for agricultural commodities
• A fall in the price of a substitute in production
• An improvement in technology leading to higher
productivity and efficiency in the production process
• The entry of new suppliers (firms) into the market
 Changes in market supply
An Inward Shift in Supply An Outward Shift in Supply

Price S2 Price

S1 S1
S3

P2 P1
P1 P3

D1

D2

Q2 Q1 Quantity Q1 Q3 Quantity
 Shifts in market demand and market
supply
An Inward Shift in Demand and a fall An Outward Shift in Demand and a
in Supply Rise in Supply
Price Price
S2

S1 S1

S2
P2

P1 P1
P2

D2

D1 D1

D2

Q2 Q1 Quantity Q1 Q2 Quantity
 HL only
Use linear equations to calculate
equilibrium

• Qd = 14 – 2P
• Qs = 2 + 2P
• Qd = Qs = equilibrium

• Find equilibrium price and quantity

 Use linear equations to calculate
equilibrium
• Qd = 14 – 2P
• Qs = 2 + 2P
• Qd = Qs = equilibrium
• 14-2P=2+2P
• 12=4P
• P=3
• Q=8
Test you understanding
Page 39 – 2.7