Equilibrium

Definition

Equilibrium is a state of balance where the forces acting on a system are in perfect harmony, resulting in no net change or movement. In the context of economics, equilibrium refers to the point where the quantity supplied and the quantity demanded of a good or service are equal, leading to a stable market price and quantity.

5 Must Know Facts For Your Next Test

1. At the equilibrium price, the quantity supplied and the quantity demanded are equal, and there is no tendency for the price to change.
2. Equilibrium is achieved when the market clears, meaning there is no shortage or surplus of the good or service.
3. Changes in demand or supply can shift the equilibrium price and quantity, leading to a new equilibrium point.
4. In the long run, firms will enter or exit the market based on the profitability of the industry, which affects the equilibrium price and quantity.
5. The four-step process of analyzing changes in equilibrium price and quantity involves identifying the initial equilibrium, determining the direction of the shift, calculating the new equilibrium, and comparing the new and old equilibrium points.

Review Questions

• Explain how equilibrium is determined in a market and how it is affected by changes in demand and supply.
  • Equilibrium in a market is determined by the intersection of the demand and supply curves, where the quantity supplied equals the quantity demanded at a specific price. This equilibrium price and quantity are the market clearing price and quantity. Changes in demand or supply, such as a shift in the demand or supply curve, will lead to a new equilibrium price and quantity. For example, if demand increases, the equilibrium price and quantity will rise, while if supply increases, the equilibrium price will fall, and the equilibrium quantity will rise.
• Describe the four-step process for analyzing changes in equilibrium price and quantity.
  • The four-step process for analyzing changes in equilibrium price and quantity involves: 1) Identifying the initial equilibrium price and quantity. 2) Determining the direction of the shift in demand or supply. 3) Calculating the new equilibrium price and quantity based on the shift. 4) Comparing the new equilibrium to the old equilibrium, noting the changes in price and quantity. This process allows you to understand how a change in a market factor, such as a change in consumer tastes or production costs, will affect the overall market equilibrium.
• Explain how the concept of equilibrium relates to the entry and exit decisions of firms in the long run.
  • In the long run, firms will make decisions to enter or exit a market based on the profitability of the industry. If a market is in equilibrium but earning economic profits, new firms will be attracted to enter the market, increasing the supply and shifting the equilibrium price and quantity. Conversely, if a market is in equilibrium but earning economic losses, firms will exit the market, decreasing the supply and shifting the equilibrium price and quantity. This entry and exit process continues until the market reaches a long-run equilibrium where firms are earning just normal profits, and there is no incentive for further entry or exit.

Related terms

Demand: The willingness and ability of consumers to purchase a good or service at different prices during a given time period.

Supply: The willingness and ability of producers to offer a good or service for sale at different prices during a given time period.

Market Clearing Price: The price at which the quantity supplied and the quantity demanded are equal, resulting in a balanced market.