Tags

EQUILIBRIUM PRICE

The equilibrium price is where the supply of goods matches demand. When a major index experiences a period of consolidation or sideways momentum, it can be said that the forces of supply and demand are relatively equal and that the market is in a state of equilibrium.
A market is in equilibrium when no economic agent in the market has any reason to alter his or her behavior. This is the case at the equilibrium price. That is, there is no reason for Price to change unless either the supply or the demand changes.

An increase in demand causes the demand curve to shift out, which generates a higher price and induces suppliers to increase the quantity supplied. What can cause demand to shift? Demand shifts when income, the price of a substitute or complement, consumer expectations, population, or consumer tastes change.

 

A.  EFFECT ON THE EQUILIBRIUM PRICE AND QUANTITY TRADED DUE TO INTRODUCTION OF NEW TECHNOLOGY. 

The supply curve is always upward sloping left to right, with the demand curve downward sloping. The intersection of these curves indicate the equilibrium price point, or the price at which a supplier can offer goods and a consumer is willing to purchase them.

Introduction of a New Technology changes cause shifts along the supply and demand curves, which effectively moves the equilibrium price point up or down. For example, new technology developed in 1999 resulted in a reduction in the cost of manufacturing flat screen televisions that used liquid crystal displays. The  new technology cause an increase in the supply of flat screen televisions and a decrease in price of flat screen televisions.

An improvement in technology tends to reduce the costs of production; cheaper production costs generate an increase in supply, this leads to an increase in demand.

If a good becomes obsolete because technology has produced an effective substitute good that performs the same function at a lower price, demand will drastically shift inward from right to left. This lowers the equilibrium price point to levels where suppliers cannot profitably supply the good.

As the number of firms in a market decreases, the supply curve will shift to the left and the equilibrium price will rise.

 

B.  EFFECT ON THE EQUILIBRIUM PRICE AND QUANTITY TRADED DUE TO CHANGE OF TASTE.

Tastes are assumed to be relatively stable over time.A change in demand cannot be attributed to a change in tastes before other possible reasons for the change are carefully considered. The law of demand states that the relationship between price and quantity demanded is an inverse relationship, i.e., that fewer units are demanded at higher prices than at lower prices. Demand reflects consumers’ willingness and ability to buy the commodity.

A change in consumer tastes can cause a shift in demand, thereby causing a decrease in supply, resulting to a reduction in price. Again, make sure you understand the difference between a change in the quantity demanded and a change in demand. A change in quantity demanded is caused by a change in the price of the good itself; a change in demand is caused by a change in one of the other factors of demand.

 

C.  EFFECT ON THE EQUILIBRIUM PRICE AND QUANTITY TRADED DUE       TO IMPOSITION OF TAX.

Taxes reduce both demand and supply, and drive market equilibrium to a price that is higher than without the tax and a quantity that is lower than without the tax.

If buyers have many alternatives to a good with a new tax, they will tend to respond to a rise in price by buying other things and will, therefore, not accept a much higher price. If sellers easily can switch to producing other goods, or if they will respond to even a small reduction in payments by going out of business, then they will not accept a much lower price. The incidence of the tax will tend to fall on the side of the market that has the least attractive alternatives and, therefore, has a lower elasticity.

Without a tax, the equilibrium price will be at Pe and the equilibrium quantity will be at Qe.After a tax is imposed, the price consumers pay will shift to Pc and the price producers receive will shift to Pp. The consumers’ price will be equal to the producers’ price plus the cost of the tax. Since consumers will buy less at the higher consumer price (Pc) and producers will sell less at a lower producer price (Pp), the quantity sold will fall from Qe to Qt.

Diagram illustrating taxes effect

D.  EFFECT ON THE EQUILIBRIUM PRICE AND QUANTITY TRADED DUE TO SUBSIDY.

A subsidy shifts either the demand or supply curve to the right, depending upon whether the buyer or seller receives the subsidy. If it is the buyer receiving the subsidy, the demand curve shifts right, leading to an increase in the quantity demanded and the equilibrium price. If the seller receives the subsidy, the supply curve shifts right and the quantity demanded will increase, while the equilibrium price decreases.

Marginal subsidies on production will shift the supply curve to the right until the vertical distance between the two supply curves is equal to the per unit subsidy; when other things remain equal, this will decrease price paid by the consumers (which is equal to the new market price) and increase the price received by the producers. Similarly, a marginal subsidy on consumption will shift the demand curve to the right; when other things remain equal, this will decrease the price paid by consumers and increase the price received by producers by the same amount as if the subsidy had been granted to producers. However, in this case, the new market price will be the price received by producers. The end result is that the lower price that consumers pay and the higher price that producers receive will be the same, regardless of how the subsidy is administered.

 

 

 

For more information or questions on this article, visit our ‘ask a question’ page.

Advertisements