1.3.3 price determination

What is market equilibrium?

When quantity demanded equals quantity supplied

How is equilibrium shown on a diagram?

Where the demand and supply curves intersect at P1 and Q1

What is the market clearing price?

The equilibrium price where there is no tendency for price to change

What is excess demand?

When quantity demanded is greater than quantity supplied

When does excess demand occur?

When price is below the equilibrium price

What does excess demand create in the market?

A shortage

How is excess demand measured?

Quantity demanded minus quantity supplied

How does excess demand affect price?

It pushes price up

How does the market return to equilibrium from excess demand?

Higher prices cause demand to contract and supply to expand

What is excess supply?

When quantity supplied is greater than quantity demanded

When does excess supply occur?

When price is above the equilibrium price

What does excess supply create in the market?

A surplus

How is excess supply measured?

Quantity supplied minus quantity demanded

How does excess supply affect price?

Firms lower prices to sell goods

How does the market return to equilibrium from excess supply?

Falling prices reduce supply and increase demand

What causes a new market equilibrium?

A shift in the demand or supply curve

What happens if demand increases?

Price rises and quantity supplied increases

Give an example of a demand increase

An increase in population

What is the result of a demand increase?

A new equilibrium at a higher price and higher quantity

Why are commodity prices unstable?

Supply changes frequently, especially in the short run

Why has the supply of food increased?

Better technology, new countries entering the market, and supermarket buying power

How do supply changes affect commodity prices?

Increases in supply tend to lower prices

What is the cobweb theory?

A model explaining price fluctuations caused by time lags in supply decisions

Why does the cobweb effect occur?

Due to information failure

What happens in the first period of the cobweb cycle?

Supply is lower than expected, pushing prices up

What happens in the next period of the cobweb cycle?

Producers increase output, causing prices to fall

What is the long-term result of the cobweb cycle?

Some producers leave the market

Why is demand for agricultural products stable in the long run?

Large populations in major markets are stable

Why is demand for food price inelastic?

Food is a necessity

Why is agricultural supply unstable?

Weather, poor technology, distance between farms, and supply shocks

How does long-run price elasticity of supply affect agriculture?

High prices encourage new producers to enter the market

How does imperfect information affect agricultural markets?

It contributes to cobweb cycles

Why are house prices important in the UK?

Housing makes up most consumer wealth

What is the wealth effect?

Rising house prices increase household equity and spending

How does rising house prices affect demand?

It increases demand and shifts the demand curve right

Why are house prices volatile in the short run?

Supply is slow to adjust

Why are supply and demand diagrams limited for housing?

Short-run volatility reduces accuracy

Why is the transport market often in disequilibrium?

Demand exceeds supply during peak times

What causes changes in transport demand?

Time of day, congestion, and peak vs off-peak travel

What factors affect transport supply and demand?

Petrol prices, ticket prices, substitutes, and journey time

What are the limitations of supply and demand models?

They assume perfect information and rational behaviour

Why is the demand curve unrealistic at times?

Consumers do not always buy more when prices fall

Why is the supply curve unrealistic at times?

Producers do not always increase output when prices rise

When are supply and demand models most useful?

In competitive markets with many buyers and sellers