2.3 Competitive market equilibrium

Market equilibrium (graph)

Quantity demanded is equal to quantity supplied.

No shrotages or surpluses

Equilibrium price:

At the point where the demand for a product matches the supply of the product in the market at a given point in time

Market disequilibrium:

When the quantity demanded for a product is either higher or lower than the QS

-Inefficient = either shortage or surplus in the market

Shifting the demand and supply curves:

Changes in any non-price determinants of supply or demand will cause a shift in the curve

- This causes the equilibrium price and quantity traded to change

Surplus (graph)

- where is the price

- Consequences

- what can they do

Disequilibrium situation where the price of a product is above equilibrium prpice = surplus

- When the price is above the market equilibrium price.

-price can be reduced to encourage an expansion in the QD (movement along the demand curve) → contraction in the supply of the product

-price can be reduced to encourage an expansion in the QD (movement along the demand curve) → contraction in the supply of the product

Shortage (graph)

where is the price

When the price is below the equilibrium

A shortage exists because, at a price below the equilibrium price, demand exceeds the QS

- If the market faces a shortage = price increases to encourage expansion in the QS

Encouraging the contraction in the QD of the product.

Functions of price mechanism (graph)

The role of price mechanism: A mechanism in which decisions taken by consumers and producers interact to allocate scarce resources.

Signalling

An increase or decrease in price (shortage or surplus) communicates information to decision-makers to allocate more or less resources to produce the good.

Incentive (graph)

- who are incentivised and disincentivised (one example)

Price changes will motivate decision-makers to respond to the information and produce/consume more or less of a good.

- shortage = increasing the price incentivise producers to increase supply

- Decentivise consumers

Allocative efficiency (graph)

How resources are allocated in the economy → optimal amount of resources are allocated to the production of a good

Marginal benefit

The extra of additional benefit enjoyed by consumers from consuming one more unit of output

Marginal cost

The extra or additional costs of producing one more unit of output

When is allocative efficiency achieved?

what is this also called

Marginal cost = marginal benefit

- market clearing price

- Achieved at market equilibrium = social surplus maximised

Consumer surplus

The sum additional benefit that consumers receive between the price they are willing and able to pay versus what they actually pay (Pe)

Producer surplus

The sum additional benefit that producers receive between the price they are willing and able to produce at versus what they actually produce at

Social surplus

The societal benefits of consuming or producing a good

Free market

No external cost/benefits = allocative efficiency → Society is receiving the maximum community/social surplus Social surplus: CS+PS (no intervention)

Shortage (graph with everything)

- what happens to price

Only if production is constant

- Price is too low

- underallocation

Surplus (graph with everything)

- what happens to price

- Overallocation

- price is too high

Market efficiency (draw the graph)

The competitive market realizes allocative efficieny.

- Producing the combination of goods and mostly wanted by society = answering what to produce a question in the best possible way

Productive efficiency

How to produce questions in the best possible way = Economic efficiency

Welfare loss (draw on the graph)

When the market does not achieve allocative efficiency, social surplus will not be achieved.