Market Equilibrium

By the end of this lesson, you will be able to find equilibrium price and quantity, analyze the effects of supply and demand shifts, and evaluate the consequences of price controls.

Equilibrium

Equilibrium: the price at which quantity demanded equals quantity supplied ($Q_D = Q_S$). At this price, the market "clears" — no shortage or surplus.

Equilibrium price ($P^*$): the price at which the market clears.

Equilibrium quantity ($Q^*$): the quantity bought and sold at equilibrium.

Surpluses and Shortages

Surplus (excess supply): price is above $P^*$ → $Q_S > Q_D$. Unsold inventory accumulates → sellers lower prices → market moves toward equilibrium.

Shortage (excess demand): price is below $P^*$ → $Q_D > Q_S$. Not enough of the good for all buyers → buyers bid prices up → market moves toward equilibrium.

Markets self-correct: price signals guide the market to equilibrium.

Analyzing Shifts

When supply or demand shifts, a new equilibrium forms.

Both-shift method (STOP IT!):

1. Start at original equilibrium
2. Trace the effect of the shift on equilibrium price
3. Trace the effect on equilibrium quantity
4. If both shift simultaneously: one effect is certain, the other is ambiguous (depends on magnitude)

Change	$P^*$	$Q^*$
Demand ↑	↑	↑
Demand ↓	↓	↓
Supply ↑	↓	↑
Supply ↓	↑	↓
D ↑ and S ↑	Ambiguous	↑
D ↑ and S ↓	↑	Ambiguous

Consumer and Producer Surplus

Consumer surplus: the difference between the maximum price consumers would have paid and the price they actually paid. Measured as area below the demand curve and above the market price.

Producer surplus: the difference between the market price received and the minimum price producers would have accepted. Measured as area above the supply curve and below the market price.

Total surplus (social welfare) = consumer surplus + producer surplus. Markets in equilibrium maximize total surplus. Price controls reduce total surplus (deadweight loss).