Lesson – 6

Diagram

§ Diagrams must be drawn with pencil only.

§ Draw the diagrams using a scale.
§ Curves must be drawn properly with clear lines.
§ Each diagram should have a title, and neat labeling of the axis, curves, and
different points on the diagram.
§ The shift of a curve must be drawn with a dotted line.
§ Shift of the curves should be shown with an arrow.
§ The shifted curves must be parallel to each other.
§ We will draw the linear (straight line) curves only.

If you do not follow the above rules, marks will be deducted accordingly during the
examination.

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 Market Mechanism

The intended marks for questions are given in brackets.

Question 1 [2 marks each]

Define the following terms:

a) Equilibrium:
Equilibrium refers to the situation when the quantity demanded of a commodity is equal to
the quantity supplied of the commodity.

Point E shows the equilibrium point.

OP0 shows the equilibrium price and OQ0 shows the equilibrium quantity.

b) Equilibrium price or market-clearing price:

Equilibrium price or market-clearing price refers to the price at which the quantity demanded
of a commodity by the consumers is equal to the quantity supplied by the producers.
The equilibrium price of a commodity in a market is determined by the market forces of
demand and supply.

The diagram is same as above.

OP0 shows the equilibrium price.

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c) Equilibrium Quantity:

Equilibrium quantity refers to the quantity that is bought by the consumers and sold by the
producers, at the equilibrium price.

The equilibrium price and quantity of a commodity in a market is determined by the market
forces of demand and supply.

The diagram is same as above.

OQ0 shows the equilibrium quantity.

d) Disequilibrium:

Disequilibrium refers to such a price level where demand for a commodity is not equal to the
supply of the commodity.

Point E shows the equilibrium point.

Quantity demanded and supplied at price P1 and P2 shows disequilibrium.

At price P1 it shows excess supply and at price P2 it shows excess demand.

e) Excess demand:

At a price lesser than the equilibrium price, the consumers will be willing to purchase a larger
quantity than the sellers are willing to sell. The amount by which quantity demanded exceeds
the quantity supplied is called excess demand.

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Point E shows the equilibrium point.

A-B shows excess demand.

f) Excess supply:

At a price higher than the equilibrium price, the consumers will be willing to purchase a lesser
quantity than the sellers are willing to sell. The amount by which quantity supplied exceeds
the quantity demanded is called excess supply.

Point E shows the equilibrium point.

A-B shows excess supply.

g) Price mechanism or market mechanism:

Price mechanism or market mechanism refers to the process through which the prices of
different commodities are determined by the market forces of demand and supply in the
market at a given period of time.

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Point E shows the Equilibrium point.

OP0 shows the equilibrium price and OQ0 shows the equilibrium quantity.

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Question 2

Explain the process of determination of equilibrium price and quantity under a

competitive market. [6]

Under a competitive market, equilibrium price and quantity are determined by the market
forces of demand and supply.

Equilibrium condition:

At the point of equilibrium, demand for commodity X is equal to supply of commodity X.

⸫ Dx = Sx
Market equilibrium under a competitive market

P (₹) Qd (Units) Qs (Units) Market position Effect on price

50 40 80 Excess supply
40 50 70 Excess supply
30 60 60 Equilibrium
20 70 50 Excess demand
10 80 40 Excess demand

It can be explained with the help of demand and supply curves.

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A – B shows excess demand and M – N shows excess supply.

§ At point E the demand curve and the supply curve intersect each other. ⸫ Dx = Sx
⸫ Equilibrium is obtained at point E where,
Equilibrium price is ₹30 and equilibrium quantity is 60 units.

§ If the price rises to from ₹30 to ₹40, the quantity demanded decreases and the
quantity supplied increases. This will create excess supply of situation in the market.
⸫ Sx > D x

This will force the sellers to reduce the price to attract more consumers for clearing
their surplus stock. As a result, the price eventually becomes equal to the equilibrium
price.

§ If the price falls from ₹30 to ₹20, the quantity demanded increases. Many consumers
can afford to buy the commodity now, who could not buy it earlier. The quantity
supplied decreases. This will create excess demand situation in the market. ⸫ Dx > Sx

This will push the price upward as many consumers will be ready to pay a higher price
to get the commodity. As a result, the price eventually becomes equal to the equilibrium
price.

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 Effect of changes in demand and supply on the equilibrium price
and quantity.
Question 3 [3 marks each]

Explain the effects of change in demand on equilibrium price and quantity.

There will be two cases:

Case 1

Increase in demand / rightward shift in demand:

Initial position New position

DD curve D0D0 D1D1
SS curve S0S0 –
Equilibrium point E0 E1
Price OP0 OP1
Quantity OQ0 OQ1

Impact on equilibrium price and quantity:

§ Equilibrium price increases from OP0 to OP1.

§ Equilibrium quantity also increases from OQ0 to OQ1.
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Case 2

Decrease in demand / leftward shift in demand:

Initial position New position

DD curve D0D0 D1D1
SS curve S0S0 –
Equilibrium point E0 E1
Price OP0 OP1
Quantity OQ0 OQ1

Impact on equilibrium price and quantity:

§ Equilibrium price decreases from OP0 to OP1.

§ Equilibrium quantity also decreases from OQ0 to OQ1.
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Question 4 [3 marks each]

Explain the effects of change in supply on equilibrium price and quantity.

There will be two cases:

Case 1

Increase in supply / rightward shift in supply:

Initial position New position

DD curve D0D0 –
SS curve S0S0 S1S1
Equilibrium point E0 E1
Price OP0 OP1
Quantity OQ0 OQ1

Impact on equilibrium price and quantity:

§ Equilibrium price decreases from OP0 to OP1.

§ Equilibrium quantity increases from OQ0 to OQ1.
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Case 2

Decrease in supply / leftward shift in supply:

Initial position New position

DD curve D0D0 –
SS curve S0S0 S1S1
Equilibrium point E0 E1
Price OP0 OP1
Quantity OQ0 OQ1

Impact on equilibrium price and quantity:

§ Equilibrium price increases from OP0 to OP1.

§ Equilibrium quantity decreases from OQ0 to OQ1.

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