Chapter 5 - The interaction of markets Flashcards
What is market equilibrium?
A situation that occurs in a market when the
price is such that the quantity demanded by consumers is exactly balanced by the quantity supplied by firms
What is excess supply?
A situation in which the quantity that firms
are willing and able to supply exceeds the quantity that consumers wish to demand at
the going price
The only way to fix this is for firms to reduce their price in order to clear their stocks.
What is excess demand?
A situation in which the quantity that
consumers wish to demand at the going price exceeds the quantity that firms are willing and able to supply
What is disequilibrium?
When there is excess supply or demand in the market
In a free market, how does the price return to the equilibrium?
Market forces - the movement ALONG supply and demand curves
How does a change in consumer preferences affect market equilibrium?
Suppose that a study is published highlighting the health benefits of eating pasta, backed up with an advertising campaign. The effect of this is likely to be an increase in the demand for pasta at any given price. In other words, this change in consumer preferences will shift the demand curve to the right.
The market now adjusts to a new equilibrium. In this case, both price and quantity have increased as a result of the change in preferences. There has been a
movement along the supply curve (an extension of supply).
How does a change in price of substitutes affect market equilibrium?
Suppose that there is a fall in the price of fresh pasta. This is likely to be a close substitute for dried pasta, so the probable result is that some former consumers of dried pasta will switch their allegiance to the
fresh variety. This time the demand curve for dried pasta moves in the left direction. Both price and quantity traded are now lower than in the original position.
How does a change in technology affect market equilibrium?
Suppose that a new pasta-making machine is produced, enabling dried pasta makers to produce at a lower cost than before. This technical advance reduces firms’ costs, and consequently they are willing to supply
more dried pasta at any given price. The starting point is the same initial position, but now it is the supply curve that shifts - to the right. The new market equilibrium is lower than the original equilibrium, but the quantity traded is higher.
How does an increase in production costs affect market equilibrium?
Suppose that pasta producers face an increase in labour costs. The increase in production costs means that pasta producers are prepared to supply less dried pasta at any given price, so the supply curve
shifts to the left. This takes the market to a new equilibrium at a higher price than before but with a lower quantity traded.
