Ch 7 - Market equilibrium, price mechanism, and market efficiency 

• Market equilibrium: where the quantity supplied equals the quantity demanded

  • Excess supply: more is being supplied than demanded at P1, in order to eliminate the surplus, producer must lower the price
  • Excess demand: more is being demanded than supplied at P2, in order to eliminate the surplus, producer must raise the price

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• A market consists of buyers and sellers who come together to exchange goods

  • Equilibrium is when supply satisfies demand and is equal to it
  • Qd = Qs
  • Everything produced in the market will be sold
  • Market won't change without external change

  

• Eliminating excess supply (surplus):

  • Market is in disequilibrium
  • Producers will h2ave to supply at a lower rate
  • Quantity demanded will increase until demand equals supply, resulting in equilibrium
  • Surplus of Q1-Q2
  • Decrease price to get rid of supply, demand increases

  

• Eliminating excess demand (shortage):

  • Disequilibrium due to excess demand
  • Excess of Q2-Q1
  • Q2 → demanded  Q1 → supplied = shortage
  • To eliminate shortage, prices decrease
  • Quantity will decrease
  • Demand and supply will be equal resulting in equilibrium

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• Effect of changes in demand and supply on equilibrium:

  • Initially → price at equilibrium
  • Q1 → supplied   Q2 → demanded
  • Prices need to increase for shortage to end
  • Equilibrium restored at P2, new equilibrium quantity at P3
  • A shift will cause demand/supply curve to adjust to a new equilibrium/market clearing price

  

• Price mechanism moves the market into equilibrium, so that the scarce resources are reallocated.

  • Opportunity cost: is the next best alternative forgone. When a choice is made, there is an opportunity cost.
  • Price mechanism: forces of supply and demand:
  • Resources: allocated/re-allocated in response to changes in price
  • Price of a good increases, demand increases
  • Products hope to maximise profit, will produce more
  • Producers allocate more goods with higher demand (more profit)
    • Concept: factors of production produce desired goods and services

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• Market efficiency

• Market efficiency refers to the degree to which market prices reflect all available, relevant information.

  • Consumer surplus: the extra satisfaction a consumer gains from paying a price less than they were prepared to pay.
  • Producer surplus: the excess of actual earnings that a producer makes from a given quantity of output, over and above the amount the producer would be prepared to accept for that output.

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• }}When a market is allocatively efficient, the social (community) surplus is maximised, this is made up of the consumer and producer surplus. This means that the marginal social benefit = the marginal social cost. Allocative efficiency happens when competitive market is in equilibrium, where resources are allocated in the most efficient way from society’s point of view.}}

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