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Equilibrium and
DisequilibriumMr. Messere
Gr. 12 EconomicsCIA 4U1
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Outline
I. Changes in Equilibrium
A. Change in Demand
B. Change in Supply
C. Change in Both Demand and Supply
II. Market Disequilibrium
A. Price Floors
B. Price Ceilings
C. Commodity Agreements
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Equilibrium/Surplus/Shortage
P
Q
S
D
E
P*
Q*0
Surplus
Shortage
P1
P2
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Equilibrium in the Market
What Occurs at Equilibrium?
Demand Side - those who get the good are
those willing and able (effective demand) topay the P*.
Supply Side - only those firms which are
able to produce at or below the cost of P*will remain in business.
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Changes in Equilibrium
Remember that Supply and Demand are
drawn under the ceterisparibus assumption.
Any factors which cause Supply and/or
Demand to change will affect equilibrium
price and quantity.
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Change in Demand
Demand will change for any of the non-price
determinants examined previously:
Tastes/Preferences
Income
Price of Substitute & Complementary goods
Expectations
Population
Ceteris paribus, lets say the demand for CDs increased due
to an increase in income. How would this affect market
equilibrium price & quantity of CDs?
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Increase in Demand
P
Q
SCDs
DCDs
0
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Increase in Demand
P
Q
SCDs
DCDs
EP*
Q*0
D
E
Q*
P*
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Change in Supply
Supply will change for any of the the non-price determinants examined previously:- Costs of ProductionInput costs / taxes & subsidies
- Technology
- Nature and the environment
- Number of producers
- Complements & substitutes in production
Ceteris paribus, lets say that the government lowers taxes
on CDs. How would this affect the market equilibrium price
& quantity of CDs?
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Increase in Supply
P
Q
SCDs
DCDs
0
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Increase in Supply
P
Q
SCDs
DCDs
EP*
Q*0
S
EP*
Q*
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Changes in Demand and Supply
To determine the impact of both supply and
demand changing:
First examine what happens to equilibriumprice and quantity when just demand shifts.
Second, examine what happens to
equilibrium price and quantity when justsupply changes
Finally, add the two effects together.
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Changes in Demand and Supply
General Results:
When supply and demand move in the same
direction
Equilibrium price is indeterminate
When supply and demand move in opposite
directions Equilibrium quantity is indeterminate
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Supply & Demand Move in the Same
DirectionAssume ceteris paribus:
Suppose that the barbecue season is at its
peak. Also, the price of cattle decreases by
10% during this time. How would this affect
the market equilibrium price & quantity of
steak?
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Supply & Demand Move in the Same
DirectionP
Q
SSteak
DSteak
EP*
Q*0
D
E1P1
Q1
S
Q2
E2P
?
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Final Equilibrium Quantity & Price when
Demand & Supply move in the Same DirectionSince it is barbecue season, consumer preference for
steak has increased, thus causing demand to increase
from D to D. This temporarily pulls up price and
increases quantity demanded to P1 and Q1respectively.
At the intermediate equilibrium level, E1, supply then
increases from S to S as a result of lower cattle
prices (a fall in the price of an input) which pushesthe final market equilibrium quantity to E2 where the
final equilibrium quantity is Q2 and equilibrium price
is indeterminate.
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Supply & Demand Move in Opposite
Directions
Assume ceteris paribus:
Suppose that the price of lemons falls and
lemon is considered an essential ingredient in
preparing great tasting spinach. At the same
time, many spinach farmers also reduce the
amount of land used to produce spinach. Howwould this affect the market equilibrium price
& quantity of spinach?
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Supply & Demand Move in the Opposite
Directions
P
Q
SSpinach
DSpinach
E
P*
Q*0
D
Q1
P1 E1
S
E2
Q?
P2
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Final Equilibrium Quantity & Price when Demand
& Supply move in Opposite DirectionsAs a result of the price of lemons falling (a complimentary
good) the demand for spinach increases from D to D and
temporarily raises the price from P* to P1 and quantity
from Q* to Q1.
At the intermediate equilibrium level, E1, supply then
decreases from S to S because there are fewer farmers
growing spinach which pushes the final market
equilibrium quantity to E2 where the final equilibrium
price is P2 and equilibrium quantity is indeterminate.
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The Role of Prices
Convey information
When the price of a Maple Leaf ticket increased
from $120 last season to $150 this season (onaverage), it told us something about the
popularity of the Maple Leafs
Rationiong deviceThe price is what determines who can have the
good
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Market Disequilibrium
Is it possible for the price and quantity to
NOT be in equilibrium?
Yes - While the invisible hand may moveprice towards equilibrium, price controls
tend to generate disequilibrium in the
marketplace
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Price Controls
There are two types of price controls:
1) Price Ceilings
2) Price Floors
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Price Ceilings
Price Ceiling - sets a maximum price that is
allowed by law.
Result of Price Ceiling:Stay at a permanent shortage situation
Note that a price ceiling can be any price
the government chooses. It is, however onlyeffective if it is below the equilibrium price
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Price Ceiling
Example of Price Ceiling
Rent controlled apartments
In New York City, San Francisco, Boston,and other cities the city or state determines
the maximum amount that can be charged
for rent on many apartments. A maximum price is aprice ceiling
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Rent Controlled Apartments
P
Q
S
D
0
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Rent Controlled Apartments
P
Q
S
D
P*
Q*0
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Rent Controlled Apartments
P
Q
S
D
P*
Q*0
Pceiling
Qs QdAmount of Shortage
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Winners and Losers
Who gains and loses with price ceilings?
1. Benefit - those who get rent controlled
apartments
2. Loses - those who cant find apartments
due to the shortage.
3. Loses - landlords who must acceptlower rent.
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Price Floors
Price Floor - sets a minimum price that is
allowed by law.
Result of Price Floor Stay at a permanent surplus situation
Note that a price floor can be set at any
price, but is only effective if it is above theequilibrium price
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Price Floors
Example of Price Floor
Minimum Wage Legislation
The minimum wage is a lowest price thegovernment will allow firms to pay for
labor.
A minimum price is aprice floor
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Price Floors
When we look at the labor market it is
similar to other supply and demand
diagrams except for the labels. L - quantity of workers
w - wages (the price we pay workers)
It is also different because the suppliers oflabor are households, not firms, and the
demanders of labor are firms, not
households
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Minimum Wage Legislation
Wage
# of Workers
S
D
0
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Minimum Wage Legislation
Wage
# of Workers
S
D
w*
L*0
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Minimum Wage Legislation
Wage
# of Workers
S
D
w*
L*0
wfloor
Ld Ls
Amount of Unemployed
Workers
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Winners and Losers
Who gains and loses with price floors?
1. Benefit - those who get higher wages
2. Loses - those who cant find jobs at the
higher wage
3. Loses - firms who must pay higher wages.
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Commodity Agreements
Market instability may arise due to:
Fluctuating prices due to changing market conditions
Changing prices due to changes in exchange rates
Changes in foreign government protectionist measures
Producers of commodities (eg. coffee, sugar,
grains, tin) may cooperate to stabilize the market
eg. prices kept from falling below certain level
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Production Quota System
An agreement by producers to limit the amount
supplied to the market place & thus influence
price Individual cartel members produce portion of
output according to their quota
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Production Quota System
Price S1
D
S2
P1
P2
Q1Q2
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Buffer Stock System
Group of producers (with support of govt)set a target price or price band (price floor
& ceiling) If market conditions lead to
Shortage (price above target price), buffer stockauthority will sell off previously acquired stocks
Surplus (price falls below target price), buffer stockauthority will agree to purchase surplus at interventionprice
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Buffer Stock System
Price S5
D
S1
P1
P4
Q5
Q2
Target Band
P3
P2
S4S2
Q1
Q4
Q3
S3
Shortage
Surplus
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Buffer Stock System - Considerations
Surplus can be disposed of in several ways: Stored for future use
Opportunity cost of storage facilities can be prohibitive forproducers
Destruction of commodity If food, normative issue arises in light of global poverty &
hunger
Selling to other countries If dumped in another country (priced below foreigners own
prices in domestic market) can undermine domestic producersin countries where goods sold
Provision as overseas assistance Food aid could lead to dependency culture
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Further Practice
Use the last question page to complete the following.
For each question indicate whether:
-price increased, decreased or it wasindeterminate (impossible to determine)
- quantity increased, decreased or it was
indeterminate (impossible to determine)
Practice Test
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