The Free Market Price: EQUILIBRIUM Ch. 6, Sect. 1-3 What does it mean when the “price is right”? How does a free market determine equilibrium prices? How do changes to demand and supply affect the equilibrium price?

How a market works In a free market, demand and supply work together to create prices This causes market equilibrium, where the quantity demanded of a g/s equals the quantity supplied of that g/s (Qd=Qs) Satisfaction of both consumers & producers— “balance” of the market

When the “Price is Right” Have to find the right price at which this happens in a market (equilibrium price) Also called “market-clearing price” because the market will be clear of shortages and surpluses The quantity of g/s at equilibrium is called the equilibrium quantity can be graphed using Qd/Qs schedule

Graphing equilibrium What is the equilibrium price? What is the equilibrium quantity?

Quick check What is equilibrium? Why do consumers and producers care about equilibrium? What happens if the market isn’t in equilibrium (too much? too little?)

The Market Price Remember the “invisible hand”? When consumers and producers willingly interact in order to buy/sell g/s? This interaction will also push the market price, or the price a willing consumer will pay to a willing producer for a g/s, towards equilibrium price Economists therefore say that the law of demand and law of supply will always act together to reach equilibrium

What Happens if the Price Isn’t Right? If producers set a price above or below equilibrium, it is known as disequilibrium The result can be a shortage: Qd > Qs at a certain price this is also called excess demand—too many customers for too few goods This means that the price is too low The result can be a surplus: Qd < Qs at a certain price This is called excess supply—too many producers for too few customers This means the price is too high

Graphing disequilibrium: Excess demand (shortage) What happens to demand when the price is set $1.00 below equilibrium?

Graphing disequilibrium: Excess supply (surplus) What happens to supply when the price is set $1.00 above equilibrium?

Quick check What does it mean if there is disequilibrium? What does excess supply mean for the price of a good? What does excess demand mean for the price of a good? How long do you think it would take for a market to reach equilibrium?