Equilibrium price

The equilibrium price is the price at which the quantity of a good demanded by consumers equals the quantity supplied by producers.
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Updated on Jun 12, 2024
Reading time 3 minutes

3 Key Takeaways

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  • Market Balance: The equilibrium price balances supply and demand in the market.
  • Price Stability: It prevents excessive shortages or surpluses.
  • Market Efficiency: Reflects an efficient allocation of resources where consumer and producer surplus are maximized.

What is Equilibrium Price?

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The equilibrium price is the point where the demand curve and the supply curve intersect on a graph. At this price, the amount of goods consumers are willing to buy equals the amount producers are willing to sell. This intersection reflects a market situation where there is neither a surplus nor a shortage of the good.

In a competitive market, the forces of supply and demand naturally drive the price towards equilibrium. If the price is above equilibrium, a surplus occurs, leading producers to lower prices. Conversely, if the price is below equilibrium, a shortage ensues, prompting producers to raise prices.

Importance of Equilibrium Price

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  • Market Balance: Ensures that markets clear without persistent surpluses or shortages.
  • Resource Allocation: Helps allocate resources efficiently, matching production with consumer preferences.
  • Price Signals: Provides signals to both consumers and producers, guiding their economic decisions.

How Equilibrium Price Works

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  • Supply and Demand Interaction:
  • Demand Curve: Shows the quantity of a good that consumers are willing to buy at different prices.
  • Supply Curve: Illustrates the quantity that producers are willing to sell at various prices.
  • Market Adjustments:
  • Surplus: Occurs when the price is above equilibrium, causing quantity supplied to exceed quantity demanded. Producers respond by lowering prices.
  • Shortage: Happens when the price is below equilibrium, leading to quantity demanded exceeding quantity supplied. Producers increase prices in response.
  • Equilibrium Achievement: The market naturally moves towards equilibrium as prices adjust to balance supply and demand.

Examples of Equilibrium Price

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  • Housing Market: In a city, the equilibrium price of apartments is reached when the number of apartments available for rent matches the number of people looking to rent at that price.
  • Agricultural Products: The equilibrium price for wheat is achieved when the quantity farmers are willing to sell at a certain price equals the quantity consumers are willing to buy.
  • Stock Market: The price of a stock reaches equilibrium when the number of shares investors want to buy at a certain price equals the number of shares sellers want to sell.

Real World Application

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  • Government Policies: Understanding equilibrium price helps governments in setting price floors or ceilings. For instance, minimum wage laws aim to set a price floor in the labor market.
  • Business Strategies: Companies use the concept to set optimal prices for their products to avoid surpluses or shortages.
  • Market Analysis: Economists analyze changes in equilibrium price to understand market dynamics and predict future trends.

In summary, the equilibrium price is a fundamental concept in economics that ensures a balanced and efficient market. It provides crucial insights into how supply and demand interact, guiding economic decisions for consumers, producers, and policymakers.


Sources & references

Arti

Arti

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Arti is a specialized AI Financial Assistant at Invezz, created to support the editorial team. He leverages both AI and the Invezz.com knowledge base, understands over 100,000 Invezz related data points, has read every piece of research, news and guidance we\'ve ever produced, and is trained to never make up new...