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Market Equilibrium

Market Equilibrium. S. Price. Pm. D. Qm. Quantity. Qs > QD Surplus Too many goods and services Producers cut price Qd increases Qs decreases Return to equilibrium. At a Price Above Equilibrium. S. Price. P1. Pm. D. Qm. Qd. Qs. Quantity.

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Market Equilibrium

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  1. Market Equilibrium S Price Pm D Qm Quantity

  2. Qs > QD • Surplus • Too many goods and services • Producers cut price • Qd increases • Qs decreases • Return to equilibrium At a Price Above Equilibrium S Price P1 Pm D Qm Qd Qs Quantity A surplus is where price is set above equilibrium causing QS>QD

  3. Qd > Qs • Shortage • Not enough goods and services • Consumers bid up price • Qd decreases • Qs increases • Return to equilibrium At a Price Below Equilibrium S Price Pm P1 D Qm Qs Qd Quantity A shortage is where the price is set below equilibrium causing QD>QS

  4. Conclusion • A market will tend toward equilibrium • If the price is not at equilibrium then market forces will work to move the market back toward equilibrium.

  5. Consumer Surplus The difference between what consumers are willing to pay and the actual price paid for a commodity Definition: Measured by: The area below the demand curve and above the price line

  6. Consumer Surplus S Price Consumer Surplus Pm D Qm Quantity

  7. Producer Surplus Definition: Measured by: The difference between the revenue received by a producer and the the cost necessary to produce the good The area below the demand curve and above the price line

  8. Producer Surplus S Price Producer Surplus Pm D Qm Quantity

  9. Why is Equilibrium best? • Equilibrium represents the allocatively efficient point. • This is where Consumer Surplus and Producer Surplus are maximised • ie benefits to consumers and producers are at their greatest

  10. Which is the allocatively efficient point? cars A 100 B 60 100 200 television

  11. Which is the allocatively efficient point? cars Market for Cars A S price 100 B 60 D 100 100 quantity 200 television

  12. Which is the allocatively efficent point? cars Market for Cars A S price 100 B 60 D 100 100 quantity 200 television

  13. Net Welfare Benefit The combined values of the consumer and producer surpluses is referred to as the net welfare benefit. S Net welfare benefit. Pm D Qm

  14. Allocative Efficiency and Market Equilibrium Markets allocate resources to the production of goods and services that satisfy consumers needs and wants. To be allocatively efficient a market must price and produce at equilibrium . Price Resources would be either over or under allocated to production and net welfare benefit would be reduced. S Any price other than $1.20 and any output level other than 400 units will result in a loss of allocative efficiency 1.80 1.50 1.20 0.90 0.60 0.30 To maintain allocative efficiency a market must be able to move freely to any new equilibrium D 200 400 600 800 Quantity

  15. Any changes in the market where the forces of demand and supply are able to freely adjust to market conditions will still result in allocative efficiency.

  16. A loss of Allocative Efficiency • A loss of allocative efficiency occurs when a market is not allowed to price and produce at equilibrium this will result from : • Price Controls(setting either a minimum or maximum price) • Imposition of a sales tax or subsidy • Imposition of a tariff or a quota (normally relates to internationally traded products) • All of these regulations set by the government will result in a dead weight loss and thus causing net social welfare to fall.

  17. Deadweight Loss • When a market does not achieve equilibrium producer and consumer surplus will not be maximised • The loss in allocative efficiency is DWL • It is measured by the loss of CS and PS not offset by gains to other groups (eg government)

  18. Deadweight Loss • Deadweight loss can be caused by: • Quotas • Price controls • Indirect Taxes • Subsidies

  19. A Subsidy S Price Pm D Qm Quantity

  20. A Subsidy Subsidies reduce costs and increase Supply S Price S+Subsidy Pm D Qm Quantity

  21. A Subsidy Consumers pay the new equilibrium price - Pc S Price S+Subsidy Pm Pc D Qm Q’ Quantity

  22. A Subsidy The per unit subsidy is represented by the vertical distance between the two supply curves S Price S+Subsidy Pm Pc D Qm Q’ Quantity

  23. A Subsidy Producers receive higher price -Pp S Price Pp S+Subsidy Pm Pc D Qm Q’ Quantity

  24. A Subsidy The total cost to the government is represented by the shaded area S Price Pp S+Subsidy Pm Pc D Qm Q’ Quantity

  25. A Subsidy S Price Original CS Pp S+Subsidy Pm Pc D Qm Q’ Quantity

  26. A Subsidy S Price New CS Pp S+Subsidy Pm The gain in CS represents the incidence of a subsidy on consumers Pc D Qm Q’ Quantity

  27. A Subsidy S Price Old PS Pp S+Subsidy Pm Pc D Qm Q’ Quantity

  28. A Subsidy S Price New PS Pp S+Subsidy Pm The gain in PS represents the incidence of a subsidy on producers Pc D Qm Q’ Quantity

  29. A Subsidy S Price DWL Pp S+Subsidy Pm Pc D Qm Q’ Quantity

  30. An Indirect Tax – Sales Tax S Price Pm D Qm Quantity

  31. An Indirect Tax S+tax Indirect taxes increase costs and shift the supply curve to the left S Price Pm D Qm Quantity

  32. An Indirect Tax S+tax Consumers pay the new equilibrium price - Pc S Price Pc Pm D Qm Quantity

  33. An Indirect Tax S+tax The per unit tax is measured by the vertical distance between the two supply curves S Price Pc Pm D Q’ Qm Quantity

  34. An Indirect Tax S+tax The producer recieves the lower price - Pp S Price Pc Pm Pp D Q’ Qm Quantity

  35. An Indirect Tax S+tax The government receives the shaded area as tax revenue S Price Pc Pm Pp D Q’ Qm Quantity

  36. An Indirect Tax S+tax S Price Original CS Pc Pm Pp D Q’ Qm Quantity

  37. An Indirect Tax S+tax S Price New CS Pc Pm The area of tax which was previously CS represents the incidence of the tax on consumers Pp D Q’ Qm Quantity

  38. An Indirect Tax S+tax S Price Original PS Pc Pm Pp D Q’ Qm Quantity

  39. An Indirect Tax S+tax S Price New PS Pc Pm The area of tax which was previously PS represents the incidence of the tax on producers Pp D Q’ Qm Quantity

  40. An Indirect Tax S+tax S Price DWL Pc Pm Pp D Q’ Qm Quantity

  41. A Quota S Price Pm D Qm Quantity

  42. A Quota In this example we assume there is no domestic production S Price Pm D Q’ Qm Quantity

  43. A Quota A quota is a limit on the number of imports into a country The supply curve becomes vertical at the quota level S Price Pm D Q’ Qm Quantity

  44. A Quota S’ S A quota is a limit on the number of imports into a country The supply curve becomes vertical at the quota level Price Pm D Q’ Qm Quantity

  45. A Quota S’ S The new price is determined at the intersection of the new Supply curve and the original Demand curve - P’ Price P’ Pm D Q’ Qm Quantity

  46. A Quota S Price P’ Original CS Pm D Q’ Qm Quantity

  47. A Quota S Price P’ New CS Pm D Q’ Qm Quantity

  48. A Quota S Price P’ Old PS Pm D Q’ Qm Quantity

  49. A Quota S Price P’ New PS Pm D Q’ Qm Quantity

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