Market

and
Equilibrium
 Equilibrium
Equilibrium is defined as a state of balance or a stable situation where
opposing forces cancel each other out and where no changes are occurring.

Hence, equilibrium refers to:

✓ a state
✓ that the sume of opposing forces equals to zero and
✓ the opposing forces balance each other;
❑ Temporal balance can not be considered as an
equilibrium. In other words, equilibrium lasts at least for
a while.

Market equilibrium is the state in which market supply and demand balance
each other, and as a result, prices is stable.
 Market Equilibrium
• Equilibrium price and quantity show market equilibrium.
• Price leads agents (consumers and producers) to market
equilibrium:
➢ Before equilibrium, consumers and producers have ideas about
prices and quantity of commodities they want buy or sell.
➢ These agents meet each other in the marketplace.
➢ Because consumers and producers have different ideas about prices
they need to reach a common result about the price that they want
make a deal.
❖ If price establishes above the equilibrium price the supply of
commodities will be more than its demanded amount. Hence,
sellers can not sell all commodities → Surplus
→ To avoid surplus, producers should offer lower price to motivate
buyers to purchase much more commodity.
❖ On the other hand, if price falls below the equilibrium price consumers want to buy more; however, in this
situation some of the sellers avoid to produce because low price means low income for them. Thus, consumers
can not find sufficient commodities in market to buy → Shortage
→ Therefore, producers understand that there are unfulfilled demands in market; so that, producers realize that they
can offer higher price to make much more profit.
 The significance of price
• As we have already discussed economic agents interact in the marketplace to settle price conflict.
o For instance, if firms decide to sell Ankara-Istanbul bus tickets in a high price (e.g. 200 tl):
a) the significant part of passengers may think of train and airplane tickets as alternative;
b) on the other side, when the price of bus tickets are high, most of firms want to add to their bus
number;
(a) and (b) → while the number of buses increase (ticket supply↑), the number of passengers decrease
(demand↓) → in order to attract more passengers some of firms may offer lower price (e.g. 150tl) but
despite such a discount they cannot sell all tickets → now they offer a more fair price like 100tl to attract
people who had decided to travel with train and airplane → other firms that don't want to lose their
passengers to rival firms may offer 70tl → the firms that have offered 70tl see that their buses are full
one day before departure → they understand that 70tl is low price; so that, they may increase prices to
90 tl → rival firms also find out that 90tl is optimal because it is the maximum price that they can sell all
of their tickets → therefore, thanks to price mechanism and price interaction after a while all firms
understand that 90tl is the best price to maximize their profit.
• Hence, prices guide buyers and sellers to an equilibrium state. Price sends signals to buyers and sellers
and push them toward an equilibrium. In such an equilibrium, demanded and supplied amounts are
equal and market is cleared off.
 The effect of shift in demand curve on the equilibrium
• As we discussed two weeks ago a change in income, complementary and substitute goods,
tastes and expectations can cause a shift in demand curve.
o Suppose that in the gasoline market equilibrium realize in 𝑃1
where the quantity is 𝑄1 liter.
o Now suppose that as a result of an increase in the car price,
demand for car decreases (car is a complementary good for
gasoline).
➢ Therefor, decrease in car demand causes gasoline demand curve
shift to the left-down.
➢ So if gasoline price remain constant the gasoline demand will
decrease to 𝑄(−) liter.
➢ So that, the supplied gasoline will be greater than demanded one
(surplus).
➢ In order to solve supply surplus gasoline sellers/producers should
decrease the price to 𝑃3 in which demand and supply are equal.
➢ A fall in price makes some producers give up production and
motivates people to demand more gasoline.
➢ All in all, the new equilibrium will realize in point 𝑒2 .
➢ In the new equilibrium point 𝑒2 , price and quantity of gasoline are
lower compared to the intial equilibrium point «e».
 The effect of shif in supply curve on the equilibrium
• Remider: different factors like the price of inputs, other related goods, number of firms,
expectations and public polcy can cause a shift in the supply curve.
➢ For instance, suppose that iron market’s initial equilibrium occurs in
the point «e» marked by (𝑃1 , 𝑄1 ). This is the point that the supply
curve (𝑆1 ) intercepts the demand curve (𝐷1 ).
➢ In the next step, suppose that a technological progress causes a shift
in the supply curve to the right-down: 𝑆1 → 𝑆2 .
➢ Hence, if price does not change (remain in 𝑃1 ) iron supply will
increase from 𝑄1 tons to 𝑄(+) tons.
➢ Therefor, in 𝑃1 , supply increases but demand remains constant
(demand= 𝑄1 ).
➢ Accordingly, a surplus emerges in the market → so, some of
producers offer lower prices to induce more demand.
➢ So that, after a while the price falls to 𝑃2 in which demand is equal
to supply. Because of a fall in price, demand will reach to 𝑄2 tons,
whereas some producers leave the market due to a fall in the price
leading production to decrease from 𝑄(+) tons to 𝑄2 tons.
➢ As a result, the new equilibrium point establishes in 𝑒2 .
➢ In 𝑒2 price is lower and production and consuption is higher than
«e».
 Simultaneous Shift in the Demand and Supply Curves
• Suppose that the initial equilibrium in a suit cloth is point «e» marked by (𝑃1 , 𝑄1 ).
• Then suppose that both supply and demand curves change as follow:
a) Due to a fall in cloth fabric (input), the supply curve of suit shifts to the right-down.
b) Due to a change in the taste of the people, suits are in high demand causing a shift in the
demand curve to the right-up.
➢ As you can see below, in the new equilibrium the demanded and supplied süit quntity will
increase.
➢ However, depending on the slope and shift degree in the curves, price may be remain fixed,
increase or decrease.
 Simultaneous Shift in Demand and Supply Curves
• Suppose that the equilibrium in automobile market is in the point «e». Then,
suppose that two changes happen in the demand and supply of automobile:
a) Due to a tax on the automobile production, demand curve shifts to the left-up.
b) Due to an increase in the income, demand for automobile (normal good) shifts to
the right-up.
• In the new equilibrium, prices will increase.
• However, depending on the slope and shift degree in the curves, price may be
remain fixed, increase or decrease.