Chapter 5: Market Equilibrium

5.1 Equilibrium, Excess Demand, Excess Supply

Market Equilibrium: A situation where market demand equals market supply

At equilibrium price p*: q^D(p*) = q^S(p*)

Excess Demand: When market demand > market supply at a given price

Excess Supply: When market supply > market demand at a given price

Market Equilibrium Graph

[Graph showing demand and supply curves intersecting at equilibrium point]

5.1.1 Market Equilibrium: Fixed Number of Firms

Equilibrium occurs at intersection of market demand (DD) and market supply (SS) curves

Example 5.1: Wheat Market

Demand: q^D = 200 - p

Supply: q^S = 120 + p

Equilibrium: 200 - p* = 120 + p* → p* = 40

Equilibrium quantity: q* = 160 kg

Wage Determination in Labour Market

Equilibrium wage rate determined where labour demand equals labour supply

Labour Demand: Firms hire labor until w = MRP_L = MR × MP_L

For competitive firms: MRP_L = VMP_L = p × MP_L

Labour Market Equilibrium

[Graph showing downward sloping demand and upward sloping supply curves for labor]

Shifts in Demand and Supply

Demand Shift

Rightward shift → Higher equilibrium price and quantity
Leftward shift → Lower equilibrium price and quantity

Demand Shift Graph

[Graph showing rightward and leftward demand shifts]

Supply Shift

Rightward shift → Lower equilibrium price, higher quantity
Leftward shift → Higher equilibrium price, lower quantity

Supply Shift Graph

[Graph showing rightward and leftward supply shifts]

Simultaneous Shifts

Demand Shift	Supply Shift	Quantity	Price
Leftward	Leftward	Decreases	May change either way
Rightward	Rightward	Increases	May change either way
Leftward	Rightward	May change either way	Decreases
Rightward	Leftward	May change either way	Increases

5.1.2 Market Equilibrium: Free Entry and Exit

With free entry and exit, equilibrium price equals minimum average cost

p = min AC

Example 5.2: Wheat Market with Free Entry

Demand: q^D = 200 - p

Firm supply: q_f^S = 10 + p for p ≥ 20

Equilibrium price: p* = 20 (min AC)

Market quantity: q* = 180 kg

Number of firms: n* = 6

Demand Shifts with Free Entry/Exit

Price remains at min AC
Rightward demand shift → More firms enter, quantity increases
Leftward demand shift → Firms exit, quantity decreases

Free Entry Equilibrium

[Graph showing horizontal price line at min AC intersecting demand curve]

5.2 Applications

5.2.1 Price Ceiling

Price Ceiling: Government-imposed maximum price (below equilibrium)

Effects:

Creates excess demand
May lead to rationing and black markets

Price Ceiling Graph

[Graph showing price below equilibrium with excess demand]

5.2.2 Price Floor

Price Floor: Government-imposed minimum price (above equilibrium)

Effects:

Creates excess supply
Government may need to buy surplus (agricultural support)

Price Floor Graph

[Graph showing price above equilibrium with excess supply]

Chapter Summary

Market equilibrium occurs where quantity demanded equals quantity supplied
Excess demand leads to price increases; excess supply leads to price decreases
With fixed firms, demand shifts affect both price and quantity in same direction
Supply shifts affect price and quantity in opposite directions
With free entry/exit, price equals min AC; demand shifts only affect quantity
Price ceilings (max prices) create excess demand
Price floors (min prices) create excess supply
Labor market equilibrium occurs where labor demand (VMP_L) equals labor supply