Solving For The Competitive Equilibrium Price
To solve for the equilibrium price, one must either plot the supply and demand curves, or solve for their equations being equal.
An example may be:
In the diagram, depicting simple set of supply and demand curves, the quantity demanded and supplied at price P are equal.
At any price above P supply exceeds demand, while at a price below P the quantity demanded exceeds that supplied. In other words, prices where demand and supply are out of balance are termed points of disequilibrium, creating shortages and oversupply. Changes in the conditions of demand or supply will shift the demand or supply curves. This will cause changes in the equilibrium price and quantity in the market.
Consider the following demand and supply schedule:
| Price ($) | Demand | Supply |
|---|---|---|
| 8.00 | 6,000 | 18,000 |
| 7.00 | 8,000 | 16,000 |
| 6.00 | 10,000 | 14,000 |
| 5.00 | 12,000 | 12,000 |
| 4.00 | 14,000 | 10,000 |
| 3.00 | 16,000 | 8,000 |
| 2.00 | 18,000 | 6,000 |
| 1.00 | 20,000 | 4,000 |
- The equilibrium price in the market is $5.00 where demand and supply are equal at 12,000 units
- If the current market price was $3.00 – there would be excess demand for 8,000 units, creating a shortage.
- If the current market price was $8.00 – there would be excess supply of 12,000 units.
When there is a shortage in the market we see that, to correct this disequilibrium, the price of the good will be increased back to a price of $5.00, thus lessening the quantity demanded and increasing the quantity supplied thus that the market is in balance.
When there is an oversupply of a good, such as when price is above $6.00, then we see that producers will decrease the price to increase the quantity demanded for the good, thus eliminating the excess and taking the market back to equilibrium.
Read more about this topic: Economic Equilibrium
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