Shortage/Surplus & Equilibrium

Graphical Analysis of Market Equilibrium

Basic Concepts

• Price: The amount of money required to purchase a good or service.

• Quantity Supplied: The total amount of a good that producers are willing to sell at a given price.

• Quantity Demanded: The total amount of a good that consumers are willing to buy at a given price.

• Equilibrium Price (PE): The price at which the quantity supplied equals the quantity demanded.

• Surplus: Occurs when the quantity supplied exceeds the quantity demanded at a given price.

• Shortage: Occurs when the quantity demanded exceeds the quantity supplied at a given price.

Surplus Analysis

• If the price is set above equilibrium, the following occurs:

  • Example Price: $2.50

  • At Point A (demand curve): Quantity Demanded = 5 units.

  • At Point B (supply curve): Quantity Supplied = 9 units.

  • Surplus Calculation:

    • Surplus = Quantity Supplied - Quantity Demanded = 9 - 5 = 4 units.

  • The area between Points A and B represents the surplus.

  • As sellers reduce prices due to surplus, quantity supplied decreases and quantity demanded increases toward equilibrium.

Shortage Analysis

• If the price is set below equilibrium, the following occurs:

  • Example Price: $1.50

  • At Point F (supply curve): Quantity Supplied = 4 units.

  • At Point G (demand curve): Quantity Demanded = 10 units.

  • Shortage Calculation:

    • Shortage = Quantity Demanded - Quantity Supplied = 10 - 4 = 6 units.

  • The area between Points F and G represents the shortage.

  • As price rises due to shortage, quantity supplied increases and quantity demanded decreases back toward equilibrium.

Market Behavior Towards Equilibrium

• For Surplus:

  • Sellers decrease prices to alleviate excess supply, leading to:

    • Lower prices ➔ decrease in quantity supplied and

    • Increase in quantity demanded.

  • Result: Movement back toward equilibrium.

• For Shortage:

  • Buyers increase willingness to pay, leading to:

    • Increase in price ➔ decrease in quantity demanded and

    • Increase in quantity supplied.

  • Result: Movement back toward equilibrium.

Real-World Applications of Equilibrium Concepts

• Consumers rarely negotiate prices; they typically accept the market prices set by supply and demand.

• Store promotions often normalize around similar pricing strategies across competing retailers, leading to similar equilibrium prices.

• Example: Concert Tickets - Excess demand leads to higher prices as buyers bid against each other, moving the market toward equilibrium by raising prices due to consumer demand.

Price Control and Market Distortion

• Government interventions can set prices above or below market equilibrium, causing persistent surpluses or shortages until such controls are lifted.

Elasticity and Market Responsiveness

• Elasticity: A measure of how much the quantity demanded or supplied of a good responds to changes in price.

  • Example scenarios include:

    • Necessities have inelastic demand (e.g., insulin, essential medications).

    • Luxuries or non-essentials have elastic demand (e.g., concert tickets, luxury items).

• Values of goods affect willingness to pay, as demonstrated by consumer behaviors under changing conditions.

Analyzing Changes in Market Equilibrium

Steps to Analyze Equilibrium Changes

1. Identify the Change (Supply or Demand): Determine whether the change in price or other market indicators affects supply or demand.

2. Determine Direction of Shift: Assess whether the change results in an increase or decrease in supply or demand (Rightward / Leftward).

3. Graphical Impact on Equilibrium Price and Quantity: Calculate how the changes impact market equilibrium visually and numerically.

Examples of Changes in Equilibrium

• Scenario 1: Increase in income for consumers, leads to increased demand:

  • New demand side shift ➔ Rightward shift in demand curve.

  • Result: Higher