Introductory Microeconomics Chapter 5 Market Equilibrium

A price ceiling is a government-imposed price control or limit on how high a price is charged for a product. Governments intend price ceilings to protect consumers from conditions that could make necessary commodities unattainable. It is the legislated or government imposed maximum level of price that can be charged by the seller. Since price ceiling is lower than the equilibrium price thus the imposition of the price ceiling leads to excess demand as shown in the diagram below.

The following are the consequences and effects of price ceiling:
1) An effective price ceiling will lower the price of a good, which decreases the producer surplus. The effective price ceiling will also decrease the price for consumers,but any benefit gained from that will be minimized by the decreased sales due to the drop in supply caused by the lower price.
2) If a ceiling is to be imposed for a long period of time, a government may need to ration the good to ensure availability for the greatest number of consumers.
3) Prolonged shortages caused by price ceilings can create black markets for that good.
4) Due to artificially lowering the price, the demand becomes comparatively higher than the supply. This leads to the emergence of the problem of excess demand.
5) The imposition of the price ceiling ensures the access of the necessity goods within the reach of the poor people. This safeguards and enhances the welfare of the poor and vulnerable sections of the society.
6) Each consumer gets a fixed quantity of good (as per the quota). The quantity often falls short of meeting the individual’s requirements. This further leads to the problem of shortage and the consumer remains unsatisfied.
7) Often it has been found that the goods that are available at the ration shops are usually inferior goods and are adulterated and infiltrated.

Equilibrium refers to a state of rest when no change is required. A firm (producer) is said to be in equilibrium when it has no inclination to expand or to contract its output. This state either reflects maximum profits or minimum losses.
According to MC=MR approach, As long as MC is less than MR, it is profitable for the producer to go on producing more because it adds to its profits. He stops producing more only when MC becomes equal to MR.
When MC is greater than MR after equilibrium, it means producing more will lead to decline
in profits.
Both the conditions are needed for Firm’s Equilibrium:

1. MC = MR:
MR is the addition to TR from sale of one more unit of output and MC is addition to TC for
increasing production by one unit. Every producer aims to maximize the total profits. For
this, a firm compares it’s MR with its MC. Profits will increase as long as MR exceeds MC
and profits will fall if MR is less than MC. So, equilibrium is not achieved when MC < MR
as it is possible to add to profits by producing more. Producer is also not in equilibrium
when MC > MR because benefit is less than the cost. It means, the firm will be at
equilibrium when MC = MR.
2. MC is greater than MR after MC = MR output level:
MC = MR is a necessary condition, but not sufficient enough to ensure equilibrium. Only
that output level is the equilibrium output when MC becomes greater than MR after the
equilibrium.
It is because if MC is greater than MR, then producing beyond MC = MR output will reduce
profits. On the other hand, if MC is less than MR beyond MC = MR output, it is possible to
add to profits by producing more. So, first condition must be supplemented with the
second condition to attain the producer’s equilibrium.

Equilibrium is defined as a situation where the plans of all consumers and firms in the market match and the market clears. When the supply and demand curves intersect, the market is in equilibrium. This is where the quantity demanded and quantity supplied are equal. The corresponding price is the equilibrium price or market-clearing price, the quantity is the equilibrium quantity.

Suppose D1 and S₁ are the initial market demand curve and the initial market supply curve, respectively. The initial equilibrium is established at point E₁, where the market demand curve and the market supply curve intersects each other. Accordingly, the equilibrium price is OP₁  and the equilibrium quantity demanded is Oq₁. 
Now, if there is an increase in the market demand, the market demand curve shifts parallely rightwards to D₂ from D₁, while the market supply curve remains unchanged at S₁. This implies that at the initial price OP₁, there exist excess demand equivalent to (Oq'₁ - Oq₁) units. This excess demand will increase competition among the buyers and they will now be ready to pay a higher price to acquire more units of the good. This will further raise the market price. The price will continue to rise till it reaches OP₂. The new equilibrium is established at point E₂, where the new demand curve D₂ intersects the supply curve S_1.
Hence, an increase in demand with supply remaining constant, results in rise in the equilibrium price as well as the equilibrium quantity.

An increase in the demand for the commodity leads to an increase in the equilibrium price and quantity.

Here,
D₁D₁ and S₁S₁ represent the market demand and market supply respectively. The initial equilibrium occurs at E₁, where the demand and the supply intersect each other. Due to the increase in the demand for the commodity, the demand curve will shift rightward parallel fromD₁D₁ to D₂D₂, while the supply curve will remain unchanged. Hence, there will be a situation of excess demand, equivalent to (q₁' − q₁). Consequently, the price will rise due to excess demand. The price will continue to rise until it reaches E₂ (new equilibrium), where D₂D₂ intersects the supply curve S₁S₁. The equilibrium price increases from P₁ to P₂ and the equilibrium output increases from q₁ to q₂.

False, a monopolist cannot sell any quantity he likes at a price because the monopolist controls only the supply and not the demand. A monopolist can only determine one of two things. It has to be either price or quantity; this is because there is a fixed price consumers are willing to pay for a given quantity. As a result a monopolist can only charge the price corresponding to the specific quantity he has set otherwise the goods he has produced won’t be sold. This is because he has no control over the quantity that he can sell in the market. Rather, it depends on the buyers that what quantity of output they want to purchase at the price fixed by the monopolist. If the monopolist fixes a higher price, then lesser quantity of the output will be demanded and lesser quantity will be sold in the market. On the other hand, if he fixes a lower price, then higher quantity of the good will be sold.

True, when equilibrium price of a good is less than its market price then there will be competition among the sellers. At a price lower than market price, there will be more supply. This is explained with the help of the following diagram.

In the above diagram, point E is the equilibrium point, where the market demand curve DD and the market supply curve SS intersects each other. At this point the equilibrium price is OP and the equilibrium quantity is OQ_e

Now, suppose the market price is OP_o, the equilibrium price is less than the market price. At this price the market demand is OQ_d and the market supply is OQ_s. Clearly, market supply is more than the market demand. So, there exists a situation of excess supply. Due to excess supply, there will exist competition among the sellers.

The simultaneous increase in demand and supply affects the equilibrium price and output depending on the magnitude of the change in demand and supply. The simultaneous increase in the demand and supply can be bifurcated into the following three conditions.
i. When Demand and Supply Increase in the Same Proportion

According to the diagram, E₁ is the initial equilibrium with equilibrium price P₁ and equilibrium output q₁.
Now let us suppose the demand increases to D₂D₂ and the supply increases to S₂S₂ by the same proportion to that of demand. The new demand curve and the new supply curve intersect at point E₂, which is the new equilibrium point. At the new equilibrium point, new equilibrium output is q₂, while the equilibrium price remains the same at P₁. Thus, an increase in the demand and the supply by same proportion leaves the equilibrium price unchanged.
ii. When Demand Increases More than Increase in Supply

The initial demand curve and the initial supply curve intersect each other at point E₁, with initial equilibrium price P₁ and initial equilibrium output Q₁.

Now let us suppose that demand increases and thereby demand curve shifts to D₂. Simultaneously, the supply also rises and the supply curve shift to S₂. However, the increase in the supply is less than the increase in the demand. The new supply curve and the new demand curve intersect each other at point E₂, with higher equilibrium price P₂ and higher equilibrium output Q₂. Thus, when the demand increases more than the increase in supply, the equilibrium price rises.
iii. When Demand Increases but Lesser than the Increase in Supply

Let the initial equilibrium be at point E₁, with the equilibrium price P₁ and the equilibrium output Q₁. Now, suppose that the demand increases to D₂ and supply increases to S₂. However, the increase in supply is more than that of the increase in demand. The new demand curve D₂ and the new supply curve S₂ intersect at point E₂, with lower equilibrium price P₂. Thus, when the increases in demand is less than the increase in supply, the equilibrium price falls.

The simultaneous decrease in demand and supply affects the equilibrium price and output depending on the magnitude of the change in demand and supply. The simultaneous decrease in the demand and supply can be bifurcated into the following three conditions.
i. When Demand and Supply Decrease in the Same Proportion

Let S₁ and D₁ be the initial supply curve and the initial demand curve respectively. The initial equilibrium is at point E₁, with equilibrium price at P₁ and equilibrium output Q₁.
Suppose that both demand and supply decrease by the same proportion. Consequently, the demand curve shifts to D₂ and the supply curve shifts to S₂. The new equilibrium is at point at E₂ with lower equilibrium output Q₂ but the same equilibrium price P₁. Thus, when both demand and supply decrease in the same proportion, the equilibrium price remains the same, but the equilibrium quantity falls.
ii. When Demand Decreases more than the Decrease in Supply

Let D₁ and S₁ be the initial demand curve and the initial supply curve, respectively. The initial equilibrium is at point E₁ with equilibrium price P₁ and equilibrium output Q₁.

Now let us suppose that demand decrease to D₂ and supply decreases by lesser proportion to S₂. Consequently, the new equilibrium is established at point E₂. At the new equilibrium, the equilibrium price falls to P₂ and equilibrium output falls to Q₂. Thus, when decrease in demand is more than the decrease in supply, the equilibrium price falls accompanied by the fall in equilibrium output.
iii. When Decrease in Demand is lesser than Decrease in Supply.

Let the initial equilibrium be at point E₁, determined by the intersection of the initial demand curve D₁ and the initial supply curve S₁. The equilibrium price is P₁ and the equilibrium output is Q₁.
Now suppose that the demand decreases but lesser than the decrease in the supply. The demand curve shifts to D₂ while the supply curve shifts to S₂. The new equilibrium determined by the intersection of D₂ and S₂ is at point E₂, where the equilibrium price increases to P₂ and the equilibrium quantity falls to Q₂. Thus, when decrease in demand is lesser than the decrease in supply then the equilibrium price rises and equilibrium output falls to Q₂.

An equilibrium is defined as a situation where the plans of all consumers and firms in the market match and the market clears. When the supply and demand curves intersect, the market is in equilibrium. This is where the quantity demanded and quantity supplied are equal. The corresponding price is the equilibrium price or market-clearing price, the quantity is the equilibrium quantity.

Suppose D₁ and S₁ are the initial market demand curve and the initial market supply curve, respectively. The initial equilibrium is established at point E₁, where the market demand curve and the market supply curve intersects each other. Accordingly, the equilibrium price is OP₁ and the equilibrium quantity demanded is Oq₁.
Now, if there is an increase in the market demand, the market demand curve shifts parallelly rightwards to D₂ from D₁, while the market supply curve remains unchanged at S₁. This implies that at the initial price OP₁, there exist excess demand equivalent to (Oq'₁ - Oq₁) units. This excess demand will increase competition among the buyers and they will now be ready to pay a higher price to acquire more units of the good. This will further raise the market price. The price will continue to rise till it reaches OP₂. The new equilibrium is established at point E₂, where the new demand curve D₂ intersects the supply curve S₁
Hence, an increase in demand with supply remaining constant, results in rise in the equilibrium price as well as the equilibrium quantity.

Minimum price ceiling means the least price that could be paid for a good or service. It is the price fixed by the government for a good in the market. The government fixes the price on agricultural products and food grains in particular so that the farmers get their fair price of a commodity which otherwise actually can be sold with too low of a price.
Effects of price floor:
(i) Minimum Return: Farmers are ensured with the minimum returns as their products are completely sold in the market at comparatively higher price. This leads to an increase in their level of income.
(ii) Maximum Level of output: The government ensures to buy the full produce of the farmers which are not sold in the market at the price floor. Hence, they are able to produce the maximum level of output.
(iii) Burden on Government: It also puts extra burden on the government revenues. It becomes mandatory for the government to purchase the excess produce, even if it runs a sufficient volume of buffer stocks. 
(iv) Higher Taxes: The government also tries to shift the burden (associated with purchasing the excess produce at higher price) to the consumers and the traders in form of higher taxes. 

When the price is above the equilibrium market price of a good (OP), the price ceiling leads to excess of supply. In the diagram, the equilibrium price and quantity are OP and OQ. As the equilibrium price is low for farmers, the government fixes the price floor, i.e. the price level increased from OP to OP1 which leads to a decline in the quantity demand, and therefore, there is excess supply in the market. Here, the competition will increase among the sellers, and hence, the price will come down to the equilibrium point where market demand is equal to market supply.

(c) decrease in expenditure on it. 

(b) goes on falling

Market demand is the aggregate quantity demanded of a commodity by all the consumers, who are willing to purchase at a given price during a given period of time.

The demand of a commodity is inversely related to its price, suppose a consumer consumes a good X and its price falls. in that case, the consumer will get a greater marginal utility by consuming good X than the other goods. Thus, he will increase the consumption of good X and its demand will increase. however, in case the price rises, the consumer will get lower utility from the consumption of good X and thus, he will reduce the demand for it.

This analysis of the above schedule shows that quantity demanded of a commodity holds a negative relationship with the price.
 It shows that a higher price of quantity demanded of X falls and vice versa. as the price increases from Rs 10 to Rs 15, the quantity demanded falls from 100 units to 50 units. 

Given that
Percentage fall in price = 10
Initial demand = 150
New demand = 180
% Increase in demand = 30 × 100 = 20%
                                   150

As we know that
ed= % Change in demand = -20 = -2
       % Change in price          10

if demand increase from 150 to 210
% Change in demand = 60 × 100 = 40%
                                  150

% Change in price = % Change in demand = 40 = -20
                                           ed                     2

Hence, the price will fall by 20% if the demand will increase from 150 to 210.

Substitute goods refer to goods which can be consumed instead of each other. For example, tea and coffee are substitute goods. If X and  Y are substitute goods, then a fall in the price of good Y will lead to a fall in the demand of good X. this is because with a fall in the price of good Y, it will become cheaper in comparison to good X, and the demand for good Y will increase and that of good X will fall.

According to the diagram, DD is the initial demand curve for good X. At price OP, OQ quantity of good X is demanded. With a fall in the price of good Y, the demand for good X falls. Accordingly, the demand curve for good X shifts parallelly leftwards to D′D′. Here, even at the existing price OP, the quantity demand of good X falls to OQ′.
or, 

Chain effects of excess supply of a good on its equilibrium price
Consider DD to be the initial demand curve and SS to be the supply curve of the market. Market equilibrium is achieved at Point E, where the demand and supply curves intersect each other. Therefore, the equilibrium price is OP, and the equilibrium quantity demanded is OQ. When there is change in other factors than price, there will be rise in the supply of goods. There will be a shift in the supply curve towards the right to SS1 with an increase in the supply, and the demand curve DD will remain the same. This implies that there will be a situation of excess supply at the equilibrium point.

In the above diagram, there is an excess supply of OQ1 to OQ1

1 units of output at the initial price OP1. Thereby the producers will tend to reduce the price of the output to increase the sale in the market. Profit margin of the firm will come down and slowly some of the firms will tend to quit the market. Because of this, the market supply will decline to OQ2 level of output and the price of the output also gets reduce to the point OP2. Now, the new market equilibrium will be at Point E1, where the new supply curve SS1 intersects the demand curve DD.

C.

Equilibrium Price

D.

Equilibrium quantity

A.

less than equilibrium price

A.

less than equilibrium price

D.

Max. price the producer is legally allowed to charge.

C.

Neither (a) or (b)

Equilibrium price refers to that price which equates market demand for a commodity with its market supply.

Price Ceiling refers to the maximum price of a commodity lower than equilibrium price at which the seller can legally sell their product.

Suppose demand is greater than supply. Since the buyers will not be able to buy all what they want, there will be competition among the buyers. It will have an upward influence on the price. As a result, demand will start falling and supply starts rising. It will go on till the demand is equal to supply again. If demand is less than supply, the sellers will not be able to sell all what they want, there will be competition among the sellers. It will have a downward influence on the price. As a result, demand will start rising and supply starts falling. It will go on till the demand is equal to supply again. Hence, the equilibrium price of a commodity is determined at that level of output at which its demand equals its supply.